UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of
1934
For the quarterly period ended April 30, 2004
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from _________ to _________
Commission file number 1-13437
SOURCE INTERLINK COMPANIES, INC.
- --------------------------------------------------------------------------------
(Exact Name of Registrant as Specified in Its Charter)
MISSOURI 43-1710906
- --------------------------------------------------------------------------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
27500 RIVERVIEW CENTER BLVD., SUITE 400
BONITA SPRINGS, FLORIDA 34134
- --------------------------------------------------- ----------------------
(Address of Principal Executive Offices) (Zip Code)
(239) 949-4450
- --------------------------------------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
- --------------------------------------------------------------------------------
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date.
Class Outstanding on June 7, 2004
----- ---------------------------
Common Stock, $.01 Par Value 23,346,967
SOURCE INTERLINK COMPANIES, INC.
INDEX
PART I - FINANCIAL INFORMATION
Page
----
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets at
April 30, 2004 and January 31, 2004 3
Consolidated Statements of Income for the three months
ended April 30, 2004 and 2003 5
Consolidated Statement of Stockholders'
Equity for the three months ended April 30, 2004 6
Consolidated Statements of Cash Flows for the
three months ended April 30, 2004 and 2003 7
Notes to Consolidated Financial Statements 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS 15
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK 25
ITEM 4. CONTROLS AND PROCEDURES 26
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 27
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS
AND ISSUER PURCHASES OF EQUITY SECURITIES 27
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 27
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 27
ITEM 5. OTHER INFORMATION 27
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 27
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands)
(unaudited)
April 30, 2004 January 31, 2004
-------------- ----------------
ASSETS
CURRENT ASSETS
Cash $ 752 $ 4,963
Trade receivables (Note 2) 46,989 41,834
Purchased claims receivable 4,972 5,958
Inventories (Note 3) 16,533 17,241
Income tax receivable 3,602 2,067
Deferred tax asset 3,405 2,915
Advances under magazine export agreement 3,907 6,830
Other 2,591 2,536
-------------- ----------------
TOTAL CURRENT ASSETS 82,751 84,344
-------------- ----------------
Property, plants and equipment 31,051 29,145
Less accumulated depreciation and amortization (11,379) (10,582)
-------------- ----------------
NET PROPERTY, PLANTS AND EQUIPMENT 19,672 18,563
-------------- ----------------
OTHER ASSETS
Goodwill, net 45,179 45,307
Intangibles, net 7,748 7,931
Deferred tax asset 665 908
Other 6,249 7,048
-------------- ----------------
TOTAL OTHER ASSETS 59,841 61,194
-------------- ----------------
$ 162,264 $ 164,101
============== ================
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except par value)
(unaudited)
April 30, 2004 January 31, 2004
-------------- ----------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Checks issued against future advances on revolving credit facility $ 8,254 $ 14,129
Accounts payable and accrued expenses, net of allowance for returns of
$ 53,076 and $57,842 at April 30, 2004 and January 31, 2004, respectively 37,369 44,741
Deferred revenue 1,661 1,680
Other 83 317
Current maturities of debt (Note 4) 2,128 4,059
-------------- ----------------
TOTAL CURRENT LIABILITIES 49,495 64,926
Debt, less current maturities (Note 4) 1,882 31,541
Other 561 560
-------------- ----------------
TOTAL LIABILITIES 51,938 97,027
-------------- ----------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Contributed Capital:
Preferred Stock, $.01 par (2,000 shares authorized; none issued) - -
Common Stock, $.01 par (40,000 shares authorized; 23,178 and 18,991 shares
issued) 232 190
Additional paid-in-capital 145,408 102,297
-------------- ----------------
Total contributed capital 145,640 102,487
Accumulated deficit (35,281) (35,778)
Accumulated other comprehensive (loss):
Foreign currency translation 534 932
-------------- ----------------
110,893 67,641
Less: Treasury Stock (100 shares at cost) (567) (567)
-------------- ----------------
110,326 67,074
TOTAL STOCKHOLDERS' EQUITY
-------------- ----------------
$ 162,264 $ 164,101
-------------- ----------------
4
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands, except per share data)
2004 2003
------------- --------------
April 30, (restated)
Revenues 85,687 80,983
Costs of revenues 63,166 60,223
------------- --------------
Gross profit 22,521 20,760
Selling, general and administrative expense 13,196 12,882
Magazine freight 4,874 4,532
Relocation expenses 1,552 1,730
------------- --------------
Operating income 2,899 1,616
------------- --------------
Other Income (Expense)
Write off of deferred financing costs and original issue discount (Note 4) (1,494) -
Interest expense (644) (965)
Interest income 67 87
Other (97) 123
------------- --------------
Total other income (expense) (2168) (755)
------------- --------------
Income before income taxes 731 861
Income tax expense 234 232
------------- --------------
Net income $ 497 $ 629
============= ==============
Earnings per share - basic 0.02 $ 0.04
Earnings per share - diluted 0.02 0.04
Weighted Average of Shares Outstanding - Basic (Note 7) 21,506 18,262
Weighted Average of Shares Outstanding - Diluted (Note 7) 23,857 18,470
============= ==============
5
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(unaudited)
(in thousands)
Other
Common Stock Additional Comprehensive Treasury Stock Total
----------------- Paid - in Accumulated Income -------------------- Stockholders'
Shares Amount Capital Deficit (Loss) Shares Amount Equity
------- -------- ---------- ----------- ------------- --------- -------- -------------
Balance, January 31, 2004 18,991 $ 190 $ 102,297 $ (35,778) $ 932 100 $ (567) $ 67,074
Sale of Stock, $11.50 per
share (net of offering costs
of $3,184) 3,800 38 40,478 40,516
Exercise of stock options 387 4 1,744 1,748
Tax Benefit from stock
options exercised 889 889
Net income 497 497
Foreign Currency Translation (398) (398)
-------------
Comprehensive income 99
------- -------- ---------- ----------- ------------- --------- -------- -------------
Balance, April 30, 2004 23,178 $ 232 $ 145,408 $ (35,281) $ 534 100 $ (567) $ 110,326
======= ======== ========== =========== ============= ========= ======== =============
6
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)
2004 2003
Three months ended April 30, (restated)
----------- ------------
OPERATING ACTIVITIES
Net income $ 497 $ 629
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,003 1,079
Provision for losses on accounts receivable 381 404
Write off of deferred financing costs and original issue discount 1,494 -
Deferred income taxes (247) (66)
Tax benefit from stock options exercised 889 -
Other (273) 238
Changes in assets and liabilities (excluding business acquisitions):
Increase in accounts receivable (5,536) (11,513)
Decrease in inventories 708 434
Increase in other assets (1,433) (1,364)
(Decrease) increase in accounts payable and other liabilities (7,604) 6,556
----------- ------------
CASH USED IN OPERATING ACTIVITIES (10,121) (3,603)
----------- ------------
INVESTMENT ACTIVITIES
Capital expenditures (1,946) (522)
Purchase of claims (22,056) (19,409)
Payments received on purchased claims 23,042 17,812
Collections under magazine export agreement 2,930 -
Payments under magazine export agreement - (1,400)
----------- ------------
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 1,970 (3,519)
----------- ------------
FINANCING ACTIVITIES
Decrease in checks issued against revolving credit facilities (5,875) (914)
(Repayments) borrowings under credit facilities (11,735) 9,409
Payments of notes payable (20,714) (226)
Proceeds from the issuance of common stock 42,264 -
----------- ------------
CASH PROVIDED BY FINANCING ACTIVITIES 3,940 8,269
----------- ------------
(DECREASE) INCREASE IN CASH (4,211) 1,147
CASH, beginning of period 4,963 5,570
----------- ------------
CASH, end of period $ 752 $ 6,717
=========== ============
7
1. BASIS OF PRESENTATION
The consolidated financial statements included herein have been prepared by the
Company, without audit, pursuant to the rules and regulations of the Securities
and Exchange Commission. In the opinion of management, all adjustments
(consisting of normal recurring adjustments and reclassifications) necessary to
present fairly the financial position, results of operations and cash flows for
the three months ended April 30, 2004 and 2003, have been included.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted. We suggest that these consolidated financial
statements be read in conjunction with the consolidated financial statements and
notes thereto included in the Company's Form 10-K for the year ended January 31,
2004. The results of operations for such interim periods are not necessarily
indicative of the operating results to be expected for the full year.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make certain estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Certain prior year amounts have been reclassified to conform to the current year
presentation.
2. TRADE RECEIVABLES
Trade receivables consist of the following (in thousands):
April 30, 2004 January 31, 2004
-------------- ----------------
Trade receivables $ 112,905 $ 112,504
Allowances:
Sales returns and other 61,363 66,102
Doubtful accounts 4,553 4,568
-------------- ----------------
65,916 70,670
-------------- ----------------
$ 46,989 $ 41,834
============== ================
3. INVENTORIES
Inventories consist of the following (in thousands):
April 30, 2004 January 31, 2004
-------------- ----------------
Raw materials $ 2,181 $ 2,278
Work-in-process 1,776 1,973
Finished goods:
Fixtures 1,419 761
Magazine inventory 11,157 12,229
-------------- ----------------
$ 16,533 $ 17,241
============== ================
In the event of non-sale, magazine inventories are generally returnable to the
publishers for full credit.
8
4. DEBT AND REVOLVING CREDIT FACILITY
Debt consists of (in thousands):
April 30, January 31,
2004 2004
--------- -----------
Revolving Credit facility - Wells Fargo Foothill $ - $11,735
Note payable - Wells Fargo Foothill - 4,083
Note payable - Hilco Capital, net of original
issuance discount 1 14,142
Guaranteed payments under magazine export
agreement (Note 6) 3,850 3,850
Notes payable to former owners of acquired company - 1,613
Other 159 177
------ -------
Debt 4,010 35,600
Less current maturities 2,128 4,059
------ -------
Debt, less current maturities $1,882 $31,541
====== =======
Wells Fargo Foothill Credit Facility
On October 30, 2003, the Company entered into a credit agreement with Wells
Fargo Foothill. The credit agreement enables the Company to borrow up to $45.0
million under a revolving credit facility and provided a $5.0 million term note
payable. The credit agreement is secured by all of the assets of the Company.
Borrowings under the revolving credit facility bear interest at a rate equal to
the prime rate (4.0% at April 30, 2004) plus a margin up to 0.5% (the applicable
margin was 0.0% at April 30, 2004) based on an availability calculation and
carries a facility fee of 1/4% per annum on the difference between $45 million
and the average principal amount outstanding under the facility including
advances under the revolving credit facility and letter of credits. The credit
facility has no outstanding balance at April 30, 2004 (See Note 5).
The term note payable bears interest at a rate equal to the prime rate (4.0% at
April 30, 2004) plus 2.5%. The note was payable in equal principal installments
of $0.1 million per month plus current interest. The balance on the note payable
was paid in full during the quarter ended April 30, 2004 (See Note 5).
Under the credit agreement, the Company is limited in its ability to declare
dividends or other distributions on capital stock or make payments in connection
with the purchase, redemption, retirement or acquisition of capital stock. There
are also limitations on capital expenditures and the Company is required to
maintain certain financial ratios. The Company was in compliance with these
ratios at April 30, 2004.
Availability under the facility is limited by the Company's borrowing base
calculation, as defined in the agreement. The calculation resulted in excess
availability, after consideration of outstanding letters of credit, of $21.3
million at April 30, 2004.
Hilco Capital Note Payable
On October 30, 2003, the Company entered into a credit agreement with Hilco
Capital. The note bears a value at maturity of $15.0 million and was recorded
net of the original issuance discount. Upon the closing of the agreement, Hilco
received a five year warrant to purchase up to 400,000 shares of the Company's
common stock at $8.04 per share. The warrants were valued at $.9 million using a
Black Scholes option pricing model. The value of these warrants was recorded as
an original issuance discount to the term loan and was to be amortized over the
term of the loan using the effective interest method. The credit agreement was
secured by a subordinated interest in the assets of the Company. The note is
payable October 30, 2006 and can be prepaid without penalty at any earlier date.
All but a nominal amount on the term loan was paid during the quarter ended
April 30, 2004. As a result of this prepayment of the term loan, the remaining
original issue discount of approximately $858,000 and $636,000 of deferred
financing costs were written off during the three months ended April 30, 2004.
9
The note payable bears current interest at a rate equal to the greater of the
prime rate (4.0% at April 30, 2004) plus 7.75% or 12% and deferred interest of
2% due at the termination of the agreement.
Note Payable to Former Owner of Acquired Company
In connection with the acquisition of Interlink, the Company assumed debt to the
former owners of International Periodical Distributors, Inc. ("IPD").
Previously, the Company was disputing the remaining amounts owed and commenced
legal action requesting the court release the Company of any further obligation
under these arrangements. The notes were due in fiscal 2003 and bore interest of
12%, which the Company continued to accrue pending the outcome of the
litigation. In March 2004, the Company and the former owners settled the notes
payable, interest accrued thereon, and the indemnification claim by the Company
paying a total of $1.6 million.
The aggregate amount of long-term debt maturing in each of the next five years
is as follows (in thousands):
Fiscal year Amount
- ----------- ------
2005 $2,128
2006 1,791
2007 44
2008 47
------
$4,010
------
5. SHAREHOLDERS' EQUITY
In March 2004, the Company completed the sale of 3.8 million shares of common
stock at $11.50 per share, excluding underwriting discounts and expenses. Net
proceeds to the Company of approximately $40.5 million, after costs of issuance
of $3.2 million, were utilized to repay the Wells Fargo Foothill note payable
and revolving credit facility and all but a nominal amount on the Hilco Capital
note payable.
6. BUSINESS COMBINATIONS
Magazine Import Agreement
In May, 2002, the Company entered into an agreement giving the Company the right
to distribute domestically a group of foreign magazine titles. The agreement
calls for an initial payment of $2.0 million, $1.0 million in fiscal 2004 and
additional contingent payments up to $2.5 million spread over the two years
ended May 2005 based on the overall gross profit generated from the sale of
these titles. Guaranteed payments and earned contingent payments under this
agreement are included in intangible assets and are being amortized over ten
years, the term of the agreement.
Magazine Export Agreement
In March, 2003, the Company entered into an agreement giving the Company the
right to distribute internationally a group of domestic magazine titles. The
agreement calls for an initial payment of $1.4 million, guaranteed payments
totaling $4.2 million spread over the next four fiscal years, and additional
contingent payments up to $5.6 million based on the overall gross profit
generated from the Company's international sales of these titles. Guaranteed
payments under this agreement were capitalized at inception and are included in
intangible assets and are being amortized over fifteen years, the term of the
agreement. The remaining guaranteed balances due under the agreement are
included in Debt. Under the agreement, the Company agreed to pay the prior
owner's outstanding trade payables out of the collections of the prior owner's
outstanding receivables. Amounts collected in excess of payments made or
payments in excess of collection are to be settled at a future date. At April
30, 2004 payments in excess of collections amounted to approximately $3.9
million.
7. EARNINGS PER SHARE
A reconciliation of the denominators of the basic and diluted earnings per share
computations are as follows (in thousands):
10
Three Months Ended
April 30,
2004 2003
------ ------
Basic weighted average number of common shares outstanding 21,506 18,262
Effect of dilutive securities:
Stock options and warrants 2,351 208
------ ------
Diluted weighted average number of common shares outstanding 23,857 18,470
====== ======
For the quarters ended April 30, 2004 and 2003, stock options to purchase
228,200 and 3,455 shares and warrants convertible into 25,644 and 234 shares,
respectively, were excluded from the calculation of diluted income per share
because their exercise/conversion price exceeded the average market price of the
common shares during the period.
8. SUPPLEMENTAL CASH FLOW INFORMATION
Supplemental information on interest and income taxes paid is as follows (in
thousands):
Three Months Ended April 30, 2004 2003
- ---------------------------- ---- ----
Interest $652 $839
Income Taxes $664 $837
==== ====
9. STOCK OPTION PLANS
FAS No. 123, "Accounting for Stock-Based Compensation" defined a fair value
method of accounting for stock options and other equity instruments. Under the
fair value method, compensation cost is measured at the grant date based on the
fair value of the award and is recognized over the service period, which is
usually the vesting period. As provided in FAS No. 123, the Company elected to
apply Accounting Principles Board ("APB") Opinion No. 25 and related
interpretations in accounting for its stock-based compensation plans. No stock
based compensation was reflected in the periods ended April 30, 2004 and 2003 as
all options granted in those periods had an exercise price equal to or greater
than the market value of the underlying stock on the date of grant.
11
The following is a reconciliation of net income per weighted average share had
the Company adopted FAS No. 123 (table in thousands except per share amounts):
(restated)
Three Months Ended April 30, 2004 2003
- ---------------------------------------- -------- ----------
Net income $ 497 $ 629
Stock compensation costs, net of tax (89) (320)
-------- --------
Adjusted net income $ 408 $ 309
-------- --------
Weighted average shares, basic 21,506 18,262
Weighted average shares, diluted 23,857 18,470
Basic earnings per share - as reported $ 0.02 $ 0.04
Diluted earnings per share - as reported 0.02 0.04
Basic earnings per share - pro-forma $ 0.02 $ 0.02
Diluted earnings per share - pro-forma 0.02 0.02
======== ========
The fair value of each option grant is estimated on the grant date using the
Black-Scholes option pricing model with the following assumptions:
Period ended April 30, 2004 2003
- ----------------------- ----------- ----
Dividend yield 0% 0%
Expected volatility 0.50 0.50
Risk-free interest rate 2.18- 2.25% 2.16%
========== ====
10. SEGMENT FINANCIAL INFORMATION
The Company's segment reporting is based on the reporting of senior management
to the Chief Executive Officer. This reporting combines the Company's business
units in a logical way that identifies business concentrations and synergies.
The reportable segments of the Company are Magazine Fulfillment, In-Store
Services, Wood Manufacturing and Shared Services. The accounting policies of the
segments are materially the same as those described in the Summary of Accounting
Policies.
The Magazine Fulfillment segment derives revenues from (1) selling and
distributing magazines, including domestic and foreign titles, to major
specialty retailers and wholesalers throughout the United States and Canada, (2)
exporting domestic titles internationally to foreign wholesalers or through
domestic brokers, (3) serving as a secondary national distributor, (4) providing
return processing services for major specialty retail book chains and (5)
serving as an outsourced fulfillment agent.
The In-Store Services segment derives revenues from (1) designing,
manufacturing, and invoicing participants in front-end fixture programs, (2)
providing claim filing services related to rebates owed retailers from
publishers or their designated agent, (3) shipping, installation and removal of
front-end fixtures, and (4) providing information and management services
relating to retail magazine sales to U.S. and Canadian retailers and magazine
publishers.
The Wood Manufacturing segment derives revenues from designing, manufacturing
and installing high-end wood store fixtures.
Shared Services consists of overhead functions not allocated to individual
operating segments.
12
Segment results follow (in thousands):
Magazine In-Store Wood Other
Three Months Ended April 30, 2004 Fulfillment Services Manufacturing (Shared Services) Consolidated
- --------------------------------- ----------- -------- ------------- ----------------- ------------
Revenue $69,261 $12,527 $ 3,899 $ $ 85,687
Cost of revenue 53,426 6,569 3,171 63,166
------- ------- ------- -------- --------
Gross profit 15,835 5,959 728 22,521
Selling, general &
administrative 7,130 1,985 292 3,790 13,196
Fulfillment freight 4,874 - 4,874
Relocation expense 1,552 - 1,552
------- ------- ------- -------- --------
Operating income (loss) $ 2,279 $ 3,974 $ 436 $ (3,790) $ 2,899
======= ======= ======= ======== ========
Total Assets $50,448 $74,345 $15,474 $ 21,997 $162,264
======= ======= ======= ======== ========
(restated) Magazine In-Store Wood Other
Three Months Ended April 30, 2003 Fulfillment Services Manufacturing (Shared Services) Consolidated
- --------------------------------- ----------- -------- ------------- ----------------- ------------
Revenue $64,066 $13,060 $ 3,85 $ - $ 80,983
Cost of revenue 49,500 7,422 3,301 - 60,223
------- ------- ------- -------- --------
Gross profit 14,566 5,638 556 - 20,760
Selling, general &
administrative 6,678 2,270 381 3,553 12,882
Fulfillment freight 4,532 - - - 4,532
Relocation expense 1,654 - - 76 1,730
------- ------- ------- -------- --------
Operating income (loss) $ 1,702 $ 3,368 $ 175 $ (3,629) $ 1,616
======= ======= ======= ======== ========
Total Assets $53,078 $83,729 $16,939 $ 23,740 $177,486
======= ======= ======= ======== ========
13
11. RESTATEMENT
During March 2004, the Company restated its historical financial
statements to revise the accounting treatment for revenue recognition
related to its rebate claim filing. During a detailed review of the
accounting treatment of its claiming revenue recognition policies, the
Company determined that certain revisions to the accounting treatment of
its revenue recognition for rebate claim filing were appropriate.
Previously, revenues from the filing of rebate claims with publishers on
behalf of retailers were recognized at the time the claim was filed. The
revenue was previously based on the amount claimed multiplied by the
commission rate. The actual amount payable to the Company for rebate
claiming services is based on a percentage of the claim paid by the
publisher. Based on guidance in SEC Staff Accounting Bulletin 104,
management believes it is considered more appropriate for the Company to
recognize revenue upon collection (rather than filing) of the claim. The
Company has also restated its statement of cash flows to include the
purchases and collections under our advance pay program as an investing
activity. The following table details the effects of the restatement (in
thousands, except per share data):
Three Months Ended
Income Statement Data: April 30, 2003
- ---------------------------- ---------------------------------------
As Previously Reported As Restated
Net sales $ 81,015 80,983
Gross profit 20,781 20,760
Net income 642 629
Basic net income per share 0.04 0.04
Diluted net income per share 0.04 0.04
Cash Flow Data:
Operating cash flow data $ (5,200) (4,142)
Investing cash flow (1,922) (3,519)
-------- ------
14
12. ITEM 2.MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
Some of the information in this report contains forward-looking statements that
involve risks and uncertainties. The words "believe," "expect," "anticipate,'
"estimate," "project," and similar expressions often characterize
forward-looking statements. These statements may include, but are not limited
to, projections of collections, revenues, income or loss, estimates of capital
expenditures, plans for future operations, products or services, and financing
needs or plans, as well as assumptions relating to these matters. These
statements are only predictions and you should not unduly rely on them. Our
actual results will differ, perhaps materially, from those anticipated in these
forward-looking statements as a result of a number of factors, including the
risks and uncertainties faced by us described below and elsewhere in this
report:
- market acceptance of and continuing demand for our services;
- the impact of competitive services;
- the pricing and reimbursement policies of magazine publishers;
- our ability to obtain additional financing to support our
operations;
- changing market conditions;
- demand for magazines at the retailers we service; and
- our ability to access retailers' point-of-sales information needed
to efficiently allocate distribution.
We believe it is important to communicate our expectations to our investors.
However, there may be events in the future that we are not able to predict
accurately or over which we have no control. The factors listed above provide
examples of risks, uncertainties and events that may cause our actual results to
differ materially from the expectations we describe in our forward-looking
statements. Before you make an investment decision relating to our common stock,
you should be aware that the occurrence of the events described in these risk
factors could have a material adverse effect on our business, operating results
and financial condition. You should read and interpret any forward-looking
statement in conjunction with our consolidated financial statements, the notes
to our consolidated financial statements and "Management's Discussion and
Analysis of Financial Condition and Results of Operations." Any forward-looking
statement speaks only as of the date on which that statement is made. Unless
required by U.S. federal securities laws, we will not update any forward-looking
statement to reflect events or circumstances that occur after the date on which
the statement is made.
Our business consists of four business segments: Magazine Fulfillment, In-Store
Services, Wood Manufacturing and Shared Services. Our segment reporting is
structured based on the reporting of senior management to the Chief Executive
Officer.
- Our Magazine Fulfillment group uses our proprietary order regulation
technology to manage the distribution of magazines to over 5,200
retail outlets. We assist retailers with the selection, logistical
procurement and fulfillment of approximately 4,000 monthly and 50
weekly magazine titles from over 560 publishers. The group was
established in May 2001 with the acquisition of The Interlink
Companies, Inc. or Interlink, and its two operating subsidiaries:
International Periodical Distributors, Inc. and David E. Young, Inc.
The scope of the group's operations was expanded through agreements
giving us the right to export domestic titles for sale
internationally and import foreign titles for sale domestically.
- Our In-Store Services group assists retailers with the design and
implementation of their front-end area merchandise programs, which
generally have a three-year life cycle. We also provide other
value-added services to retailers, publishers and other vendors.
These services include assisting retailers with the filing of claims
for publisher incentive payments, which are based on display
location or total retail sales, and providing publishers with access
to real-time sales information on more than 10,000 magazine titles,
thereby enabling them to make more informed decisions regarding
their product placement, cover treatments and distribution efforts.
- Our Wood Manufacturing group designs and manufactures wood display
and store fixtures for leading specialty retailers.
- Our Shared Services group consists of overhead functions not
allocated to the other groups. These functions include corporate
finance, human resource, management information systems and
executive management that are not allocated to the three operating
groups.
15
REVENUES
The Magazine Fulfillment group derives revenues from:
- selling and distributing magazines, including domestic and foreign
titles, to major specialty retailers and wholesalers throughout the
United States and Canada,
- exporting domestic titles internationally to foreign wholesalers or
through domestic brokers,
- serving as a secondary national distributor,
- providing return processing services for major specialty retail book
chains, and
- serving as an outsourced fulfillment agent and backroom operator for
publishers.
The In-Store Services group derives revenues from:
- designing, manufacturing and invoicing participants in front-end
merchandising programs,
- providing claim filing services related to rebates owed retailers
from publishers or their designated agents,
- shipping, installing and removing front-end fixtures, and
- providing information and management services relating to magazine
sales to retailers and publishers throughout the United States and
Canada.
The Wood Manufacturing group derives revenues from designing, manufacturing and
installing custom wood fixtures primarily for retailers.
COST OF REVENUES
Our cost of revenues for the Magazine Fulfillment group consists of the costs of
magazines purchased for resale less all applicable publisher discounts and
rebates.
Our cost of revenues for the In-Store Services and the Wood Manufacturing groups
includes:
- raw materials consumed in the production of display fixtures,
primarily steel, wood and plastic components;
- production labor; and
- manufacturing overhead.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses for each of the operating groups
include:
- non-production labor;
- rent and office overhead;
- insurance;
- professional fees; and
- management information systems.
Expenses associated with corporate finance, human resources, management
information systems and executive offices are included within the Shared
Services group and are not allocated to the other groups.
16
FULFILLMENT FREIGHT
Fulfillment freight consists of our direct costs of distributing magazines by
third-party freight carriers, primarily Federal Express ground service. Freight
rates are driven primarily by the weight of the copies being shipped and the
distance between origination and destination.
Fulfillment freight is not disclosed as a component of cost of revenues, and, as
a result, gross profit and gross profit margins are not comparable to other
companies that include shipping and handling costs in cost of revenues.
Fulfillment freight has increased proportionately as the amount of product we
distribute has increased. We anticipate the continued growth in our Magazine
Fulfillment group will result in an increase in fulfillment freight. Generally,
as pounds shipped increase, the cost per pound charged by third party carriers
decreases. As a result, fulfillment freight as a percent of Magazine Fulfillment
group revenue should decline slightly in the future.
RELOCATION EXPENSES
Relocation expenses consist primarily of the cost of transferring existing
employees and offices from their former locations in High Point, North Carolina,
St. Louis, Missouri, and San Diego, California, to our new offices in Bonita
Springs, Florida. In addition, during the quarter ended April 30, 2004, the
Company began expansion into the mainstream retail market. The expansion
schedule required an acceleration of the relocation process from the
distribution fulfillment center in Milan, OH to Harrisburg, PA, which was
completed by the end of April 30, 2004.
17
RESULTS OF OPERATIONS
The following table sets forth, for the periods presented, information relating
to our operations (in thousands):
2004 2003(1)
Margin
Period ended April 30, Amount % Amount
- ---------------------- -------- ------ -------- ------
Magazine Fulfillment
Revenue $ 69,261 $ 64,066
Cost of revenue 53,426 49,500
Gross profit 15,835 22.9% 14,566 22.7%
Operating expense (2) 12,004 11,210
Relocation expenses 1,552 1,654
Operating income 2,279 3.3% 1,702 2.7%
In-Store Services
Revenue $ 12,527 $ 13,060
Cost of revenue 6,569 7,422
Gross profit 5,958 47.6% 5,638 43.1%
Operating expense (2) 1,984 2,270
Operating income 3,974 31.7% 3,368 25.8%
Wood Manufacturing
Revenue $ 3,899 $ 3,857
Cost of revenue 3,171 3,301
Gross profit 728 18.7% 556 14.4%
Operating expense (2) 292 381
Operating income 436 11.2% 175 4.5%
Shared Services
Revenue $ $
Cost of revenue
Gross profit
Operating expense (2) 3,789 3,553
Relocation expenses - 76
Operating loss (3,789) n/a (3,629) n/a
Total
Revenue $ 85,687 $ 80,983
Cost of revenue 63,166 60,223
Gross profit 22,521 26.3% 20,760 25.6%
Operating expense (2) 17,932 17,592
Relocation expenses 1,730 1,552
======== ==== ======== ====
Operating income 2,899 3.4% 1,616 2.0%
======== ==== ======== ====
(1) April 30, 2003 results have been restated to reflect a change in our
revenue recognition policy related to our claim filing services of
the In-Store Services Division.
(2) Operating expenses include selling, general and administrative
expenses, fulfillment freight and amortization of goodwill.
18
Revenues
Total revenues for the quarter ended April 30, 2004 increased $4.7 million, or
5.8%, from the prior year due primarily to an increase in revenue in our
Magazine Fulfillment group as described below.
Our Magazine Fulfillment group's revenues were $69.3 million, an increase of
$5.2 million or 8.1%. The group's revenues are comprised of the following
components (in millions):
2004 2003 Change
---- ---- ------
Domestic distribution $ 54,687 $ 52,872 $ 1,815
Export distribution 10,502 6,192 4,310
Secondary wholesale distribution 3,506 4,543 (1,037)
Other 847 803 44
Intra-segment sales (281) (344) 63
-------- -------- -------
Total $ 69,261 $ 64,066 $ 5,195
======== ======== =======
Domestic distribution consists of the gross amount of magazines (both domestic
and imported titles) distributed to domestic retailers and wholesalers, less
actual returns received, less an estimate of future returns, or "net
distribution" less customer discounts. The $1.9 million increase in domestic
distribution consisted of a $3.1 million increase in actual net distribution,
less a $1.1 million decrease from the impact of the change in the sales return
reserve as compared to the prior year's change, and a $0.2 million increase in
customer discounts. This overall increase was driven primarily by the growth of
distribution to our two main customers, which increased from $37.8 million to
$42.4 million or $4.6 million. Customer discounts increased from $0.7 million to
$0.9 million.
Our export distribution began operation in March 2003. Net export distribution
increased $4.3 million for the quarter ended April 30, 2004 from the prior
year's quarter, due primarily to an additional month of distribution in the
current quarter as well as the addition of a new publisher. The $4.3 million
increase in export distribution consisted of a $7.4 decrease in actual net
distribution plus an $11.5 million increase from the impact of the change in the
sales return reserve as compared to the prior year same period change.
Revenues from our secondary wholesale operations decreased due to a decrease in
the number wholesale operations we serviced either because they were able to
obtain distribution directly from a primary distributor or were no longer deemed
credit worthy.
Our In-Store Services group revenues were $12.5 million, a decrease of $0.5
million or 4.1%.
The group's revenues are comprised of the following components (in millions):
2004 2003 Change
------- ------- -------
Claim filing and information $ 4,284 $ 3,697 $ 587
Front end wire and services 8,243 9,363 (1,120)
------- ------- -------
Total $12,527 $13,060 $ (533)
======= ======= =======
Our claim filing revenues are recognized at the time the claim is paid. The
increase in revenues in the current period relate exclusively to the timing of
the cash payments received on the claims.
Our front end wire and services revenues declined due to the cyclical nature of
the industry (major chains purchase new front-end fixtures every three years).
Our Wood Manufacturing group's revenues were $3.9 million, an increase $0.05
million or 1.0%.
19
Gross Profit
Gross profit for the period increased $1.8 million or 8.5%, over the prior
fiscal year's quarter due primarily due to an increase in sales volume in our
Magazine Fulfillment group.
Overall gross profit margins increased 0.7 percentage points in the current
period over the comparable period of the prior fiscal year. Margins improved in
our Magazine Fulfillment, In-Store Services, and Wood Manufacturing groups by
0.2, 4.5, and 4.3 percentage points, respectively.
Gross Profit in our Magazine Fulfillment group increased approximately $1.3
million or 8.7%. The increase related primarily to the increased distribution
revenue as described above. The gross profit margins in our domestic
distribution businesses are generally higher than our export distribution and
secondary wholesale businesses and, as a result, gross profit margins improve as
the portion of total revenues is weighted more toward our domestic operations.
Gross profit in our In-Store Services group increased $0.3 million or 5.8%. The
increase in margins is primarily due to an increase in claiming revenue and
partially offset by a decrease in front end wire and services. The decrease in
front end wire and services gross profit is due to the recent increase in
commodity prices, particularly steel, which is a major component of our
front-end fixtures.
Gross profit in our Wood Manufacturing group increased $0.2 million or 31.0%.
The increase related to improving margins.
Selling, General and Administrative Expenses
Selling, general and administrative expenses for the quarter ended April 30,
2004 increased $0.3 million or 2.4%, compared to the prior fiscal year. Selling,
general, and administrative expenses as a percent of revenues declined from
15.9% to 15.4%.
The Magazine Fulfillment group's selling, general, and administrative expenses
increased $0.45 million, or 6.7%. This increase, as a percentage of sales, has
decreased from 10.4% to 10.3% compared to the prior year same period.
The selling, general, and administrative expenses of the In-Store Services
decreased $0.29 million or 12.6%. The decrease relates to a reduction in salary
expense in the claim filing and information department as compared to quarter
ended April 30, 2003.
The selling, general, and administrative expenses of Shared Services increased
$0.16 million or 4.4%. The overall increase is primarily due to changes in
employee benefit programs and insurance totaling approximately $0.3 million
offset by a decrease in salary expense.
The Wood Manufacturing group's selling, general, and administrative expenses
decreased $0.09 million or 23.3%. The decrease was attributable primarily to a
head count reduction.
Fulfillment Freight
Fulfillment freight expenses increased $0.34 million or 7.5%, compared to the
prior fiscal year. Freight as a percentage of the Magazine Fulfillment group's
revenues decreased slightly from 7.1% to 7.0% for the period ended April 30,
2004. Under our existing contract, generally our freight rates per pound
decrease as the number of pounds shipped increases.
Relocation Expenses
During the quarter ended April 30, 2004, the Company began expansion into the
mainstream retail market. The expansion schedule required an acceleration of the
relocation process from the distribution fulfillment center in Milan, OH to
Harrisburg, PA, which was completed by the end of April 30, 2004. Relocation
expenses recorded in the period, including a lease termination charge and the
transfer of employees and equipment, were approximately $1.6 million.
During the quarter ended April 30, 2003, the company relocated the magazine
distribution back office from San Diego, California to Bonita Springs, Florida.
The total expense recorded in the period related to this relocation was $1.7
million.
20
Operating Income
Operating income for the fiscal year increased $1.3 million or 79.4%, compared
to the prior fiscal year due to the factors described above.
Operating profit margins improved from 2.0% to 3.4% in the current fiscal year
compared to the prior fiscal year. The increase was due to the improvement in
our gross profit margins coupled with increased revenue and a decrease in our
selling, general, and administrative expenses as a percent of revenues.
Interest Expense
Interest expense includes the interest and fees on our significant debt
instruments and outstanding letters of credit.
Other Income (Expense)
Other income (expense) consists of items outside of the normal course of
operations. Due to its nature, comparability between periods is not generally
meaningful.
For the quarter ended April 30, 2004, the Company recorded a charge of
approximately $1.5 million related to the write off of deferred financing
charges as a result of paying off certain debt instruments, as described below
in Liquidity and Capital Resources.
Income Tax Expense
The effective income tax rates were 32.0% and 27.0% for the quarters ended April
30, 2004 and 2003, respectively.
The difference between the statutory rate and effective tax rates relates
primarily to the realization of a portion of the net operating loss
carry-forward acquired with our acquisition of Interlink and tax credits
received from the state of Florida related to our relocation.
LIQUIDITY AND CAPITAL RESOURCES
OVERVIEW
Our primary sources of cash include receipts from our customers and borrowings
under our credit facilities and from time to time the proceeds from the sale of
common stock.
Our primary cash requirements for the Magazine Fulfillment group consist of the
cost of magazines and the cost of freight, labor and facility expense associated
with our distribution centers.
Our primary cash requirements for the In-Store Services group consist of the
cost of raw materials, labor, and factory overhead incurred in the production of
front-end displays, the cost of labor incurred in providing our claiming, design
and information services and cash advances funding our Advance Pay program. Our
Advance Pay program allows retailers to accelerate collections of their rebate
claims through payments from us in exchange for the transfer to us of the right
to collect the claim. We then collect the claims when paid by publishers for our
own account.
Our primary cash requirements for the Wood Manufacturing group consist of the
cost of raw materials, the cost of labor, and factory overhead incurred in the
manufacturing process.
Our primary cash requirements for the Shared Services group consist of salaries,
professional fees and insurance not allocated to the operating groups.
The following table presents a summary of our significant obligations and
commitments to make future payments under debt obligations and lease agreements
due by period as of April 30, 2004 (in thousands).
21
Payments Due by Period
----------------------------------------------
Less
Than 1-3 4-5 After 5
-------- ------- -------- ------- --------
Total 1 year Years Years Years
-------- ------- -------- ------- --------
Debt obligations $ 4,010 $ 2,128 $ 1,882 $ - $ -
Operating leases 37,363 4,172 8,586 6,433 18,172
-------- ------- -------- ------- --------
Total contractual cash
obligations $ 41,373 $ 6,300 $ 10,468 $ 6,433 $ 18,172
======== ======= ======== ======= ========
The following table presents a summary of our commercial commitments and the
notional amount expiration by period (in thousands):
Notional amount expiration by period
------------------------------------------------------------
Less
Than 1-3 4-5 After 5
Total 1 year Years Years Years
Financial standby letters
of credit $ 3,750 $ 3,750 $ -- $ -- $ --
---------- ---------- -------- -------- --------
Total commercial
commitments 3,750 3,750 -- -- --
========== ========== ======== ======== ========
OPERATING CASH FLOW
Net cash used in operating activities was $10.1 and $3.6 million for the quarter
ended April 30, 2004 and 2003, respectively. Operating cash flows for the three
months ended April 30, 2004 were primarily from net income ($0.5 million), plus
non-cash charges including depreciation and amortization ($1.0 million) and
provisions for losses on accounts receivable ($0.4 million), a write off of
deferred financing costs and original issue discount ($1.5 million), a tax
benefit received on stock options exercised ($0.9 million) and a decrease in
inventory ($0.7 million). These cash providing activities were offset by an
increase in accounts receivable ($5.5 million), and a decrease in accounts
payable and other current and non-current liabilities ($7.6 million).
The increase in accounts receivable for the three months ended April 30, 2004
was primarily due to a decrease in the sales returns reserve from January 31,
2004 to April 30, 2004 ($4.8 million) which is consistent with prior first
quarter sales returns activity in the Magazine Fulfillment Division. In
addition, increased distribution in the Magazine Fulfillment Division increased
accounts receivable by approximately $1.4 million. This increase in accounts
receivable was offset by the decrease in accounts receivable ($1.6 million) in
the In-Store Division due to significant cash collections in the current period
and lower sales volume.
The decrease in accounts payable and other current and non-current liabilities
in the current period of $7.6 million relates primarily to the timing of vendor
payments in the current period as compared to the quarter ended January 31,
2004.
Operating cash flows in the first quarter of fiscal year 2004 were primarily
from net income ($0.6 million), adding back non-cash charges such as
depreciation and amortization ($1.1 million) and provisions for losses on
accounts receivable ($0.4 million), and a significant increase in accounts
payable ($6.6 million). These cash providing activities were offset by a
significant increase in accounts receivable ($11.5 million).
The increase in accounts receivable related primarily to the magazine export
agreement and the inception of that business, which caused an increase in
accounts receivable of $6.2 million. The first quarter included two months of
operations from this business and no cash collection due to standard payment
terms of 90 days, which is typical for this segment of the industry. In
addition, a large portion of the collections on the current quarter's rebate
claims, which are generally collected in the last week of the fiscal quarter,
fell into the first week of the second quarter. Finally, magazine distribution
for the fiscal quarter ended April 30, 2003, increased significantly over the
quarter ended January 31, 2003.
22
The increase in accounts payable for the quarter ended April 30, 2003 related
primarily to the acquisition of a customer list and the inception of that
business, which caused an increase in accounts payable of $5.8 million.
INVESTING CASH FLOW
Net cash provided by (used in) investing activities was $2.0 and $(3.5) million
for the quarter ended April 30, 2004, and 2003, respectively.
For the quarter ended April 30 2004, cash provided by (used in) investing
activities was reduced by capital expenditures of $2.0 million, which primarily
related to our expansion of our distribution facility in Harrisburg,
Pennsylvania. Our advance pay program generated net cash flow of $1.0 million in
the current period. In addition, the Company advanced to the prior operator of
our export distribution business $6.8 million at January 31, 2004. The advances
were made as part of the agreement to collect the prior operator's receivables
and pay outstanding payables so as to create a seamless transition for both the
customers and suppliers. The company collected $2.9 million of the advances
during the quarter ended April 30, 2004.
For the quarter ended April 30 2003, cash used in investing activities related
to capital expenditures of $0.5 million, which related primarily to our
relocation to Florida, and $1.4 million of payments made related to the
acquisition of customer lists under the export agreement. Our advance pay
program used net cash flow of $1.6 million.
Our borrowing agreements limit the amount of our capital expenditures in any
fiscal year.
FINANCING CASH FLOW
Outstanding balances on our credit facility fluctuate partially due to the
timing of the retailer rebate claiming process and our Advance Pay program, the
seasonality of our front end wire and services business and the payment cycle of
the magazine distribution business. Because the magazine distribution business
and Advance Pay program cash requirement peak at our fiscal quarter ends, the
reported bank debt levels usually are the maximum level outstanding during the
quarter.
Payments under our Advance Pay program generally occur just prior to our fiscal
quarter end. The related claims are not generally collected by us until 30-60
days after the advance is made. As a result, our funding requirements peak at
the time of the initial advances and decrease over this period as the cash is
collected on the related claims.
The front end wire and services business is seasonal because most retailers
prefer initiating new programs before the holiday shopping season begins, which
concentrates revenues in the second and third quarter. Receivables from these
fixture programs are generally collected from all participants within 180 days.
We are usually required to tender payment on the costs of these programs (raw
material and labor) within a shorter period. As a result, our funding
requirements peak in the second and third fiscal quarters when we manufacture
the wire fixtures and decrease significantly in the fourth and first fiscal
quarters as the related receivable are collected and significantly less
manufacturing activity is occurring.
Within our magazine distribution business, our significant customers pay weekly,
and we pay our suppliers monthly. As a result, funding requirements peak at the
end of the month when supplier payments are made and decrease over the course of
the next month as our receivables are collected.
Net cash provided by financing activities was $3.9 and $8.3 million for the
quarter ended April 30, 2004 and 2003, respectively.
Financing activities in the first quarter of fiscal year 2005 consisted of
proceeds from the sale of 3.8 million shares of common stock. The proceeds of
$40.5 million (net of underwriting and related expenses) from the sale were
utilized to repay the Wells Fargo Foothill term loan, the Hilco Capital note
payable and the notes payable to former owners ($20.7 million) as well the pay
down of the revolving credit facility ($11.75 million). In addition, the cash
provided by the activities noted above were offset by a $5.9 million decrease in
checks issued and outstanding at April 30, 2004. Finally, the exercise of
employee stock options in the quarter generated approximately $1.7 million.
23
Financing activities in the first quarter of fiscal year 2004 consisted
primarily of borrowings on our credit facilities ($9.4 million) to pay for the
acquisition of a customer list and working capital needs. These borrowings were
partially offset by a $.9 million reduction of checks issued and outstanding at
April 30, 2003.
DEBT
At April 30, 2004, our total debt obligations were $4.0 million, excluding
outstanding letters of credit. Debt consists primarily of our amounts owed under
the magazine export agreement.
On October 30, 2003, we entered into a credit agreement with Wells Fargo
Foothill. The credit agreement enables us to borrow up to $45.0 million under a
revolving credit facility. The credit agreement expires on October 30, 2006 and
is secured by all of the assets of the Company.
Borrowings under the revolving credit facility bear interest at a rate equal to
the primate rate (4.0% at April 30, 2004) plus up to 0.5% based on an
availability calculation and carries a facility fee of 1/4% per annum on the
difference between $45.0 million and the average principal amount outstanding
under the facility including advances under the revolving credit facility and
letters of credit. The balance on the credit facility and the term note was paid
in full during the quarter ended April 30, 2004.
Availability under the revolving facility is limited by a borrowing base
calculation, as defined in the agreement. The calculation resulted in excess
availability of $21.3 million at April 30, 2004.
On October 30, 2003, we entered into a credit agreement with Hilco Capital. The
note payable had a face value of $15.0 million and was recorded net of the
original issuance discount related to the fair value of warrants issued
concurrently with the note. The note payable bears current interest at a rate
equal to the greater of the prime rate (4.0% at April 30, 2004) plus 7.75% or
12% and deferred interest of 2% due at the termination of the agreement on
October 30, 2006. The Company repaid all but a nominal amount of the note
payable during the three month period ended April 30, 2004.
Under the credit agreements, we are required to maintain a specified minimum
level of EBITDA and compliance with specified fixed charge coverage and debt to
EBITDA ratios. In addition, we are prohibited, without consent from our lenders,
from:
- incurring or suffering to exist additional indebtedness or liens on
our assets,
- engaging in any merger, consolidation, acquisition or disposition of
assets or other fundamental corporate change,
- permitting a change of control of our company,
- paying any dividends or making any other distribution on capital
stock or other payments in connection with the purchase, redemption,
retirement or acquisition of capital stock,
- changing our fiscal year or methods of accounting, and
- making capital expenditures in excess of $2.8 million during fiscal
year 2005 and $3.4 million during fiscal year 2006 and each
subsequent fiscal year.
We were in compliance with each of these financial and operating covenants at
April 30, 2004.
Amounts owed related to the magazine export agreement consist of 9 quarterly
payments of approximately $.4 million beginning in January 2004. The balance
outstanding under this agreement at April 30, 2004 was $3.85 million
A note payable, due in fiscal 2003, in the principal amount of $1.6 million to
the previous owner of an acquired company was being disputed by the Company
under the conditions of the acquisition agreement. The Company received a
favorable arbitration ruling during the fourth quarter of fiscal 2004, and in
March 2004, we settled the remaining note payable, interest accrued thereon and
the indemnification claim by the Company for $1.6 million.
24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our primary market risks include fluctuations in interest rates and exchange
rate variability.
Our debt relates to credit facilities with Wells Fargo Foothill and a note
payable to Hilco Capital. See "--- Liquidity and Capital Resources --- Debt"
The revolving credit facility with Wells Fargo Foothill has no outstanding
principal balance at April 30, 2004. Interest on the outstanding balance is
charged based on a variable interest rate related to the prime rate (4.0% at
April 30, 2004) plus a margin specified in the credit agreement (0.25% at April
30, 2004).
The term note payable with Wells Fargo Foothill was paid in full in March 2004.
The note payable with Hilco Capital was, except for a nominal amount, repaid in
March 2004. Interest on the outstanding balance is charged based on a variable
interest rate related to the prime rate (4.0% at April 30, 2004) plus 7.75% as
specified in the credit agreement.
Interest expense from these credit facilities is subject to market risk in the
form of fluctuations in interest rates.
In March 2004, we utilized the proceeds from a sale of our common stock to
pay-down all but a nominal amount of the Hilco Capital Note Payable, repay the
term note portion of the Wells Fargo Foothill credit facility, and repaid all
outstanding balances owed under the revolving credit partition of the Wells
Fargo Foothill credit facility.
We do not perform any interest rate hedging activities related to these two
facilities.
We have exposure to foreign currency fluctuations through our operations in
Canada. These operations accounted for approximately $1.9 million, which
represented 2.2% of our revenues for the period ended April 30, 2004. We
generally pay the operating expenses related to these revenues in the
corresponding local currency. We will be subject to any risk for exchange rate
fluctuations between such local currency and the dollar.
Additionally, we have exposure to foreign currency fluctuation through our
exporting of foreign magazines and the purchased of foreign magazine for
domestic distribution.
Revenues derived from the export of foreign titles (or sale to domestic brokers
who facilitate the export) totaled $10.5 million for fiscal year 2004 or 12.2%
of total revenues. For the most part, our export revenues are denominated in
dollars and the foreign wholesaler is subject to foreign currency risks.
Distribution net of actual returns, excluding estimates for future returns,
totaled $8.4 million and was concentrated primarily in Australian dollars. We
have the availability to control foreign currency risk via increasing or
decreasing the local cover price paid in the foreign markets. There is a risk
that a substantial increase in local cover price due to a decline in the local
currency relative to the dollar could decrease demand for these magazines at
retail and negatively impact our results of operations.
Domestic distribution of imported titles net of actual returns, excluding
estimates for future returns, totaled approximately $12.9 million (of a total
$69.1 million or 18.7%). Foreign publications are purchased in both dollars and
the local currency of the foreign publisher, primarily Euros and pound sterling.
In the instances where we buy in the foreign currency, we have the ability to
set the domestic cover price, which allows us to control the foreign currency
risk. These titles are generally priced significantly higher then their domestic
counterparts, are considered somewhat of a luxury item, and demand is not highly
impacted by cover price increases. However, a significant negative change in the
relative strength of the dollar to these foreign currencies could result in
higher cover prices and have a significant impact on the sales of these
magazines at retail and on our results of operations.
We do not conduct any significant hedging activities related to foreign
currency.
25
ITEM 4. CONTROLS AND PROCEDURES
Under the supervision and with the participation of our management, including
our principal executive officer and principal financial officer, we conducted an
evaluation of the effectiveness of the design and operation of our disclosure
controls and procedures (as defined in Rule 13a-15(e) or Rule 15d-15(e) of the
Securities Exchange Act of 1934) as of the end of the period covered by this
report (the "Evaluation Date"). Based on this evaluation, our management,
including our principal executive officer and principal financial officer,
concluded that as of the Evaluation Date our disclosure controls and procedures
were effective to provide assurance that the information concerning us and our
consolidated subsidiaries, which is required to be included in our reports and
statements filed or submitted under the Securities Exchange Act of 1934, as
amended, (i) is accumulated and communicated to our management, including our
principal executive officer and principal financial officer, as appropriate to
allow timely decisions required disclosure and (ii) is recorded, processed,
summarized and reported within the time periods specified in rules and forms of
the Securities and Exchange Commission
In addition, there were no changes in our internal controls over financial
reporting identified in connection with the above-mentioned evaluation that
occurred during our most recent fiscal quarter that has materially affected, or
is reasonably likely to materially affect, our internal control over financial
reporting. In addition, we have not identified any significant deficiencies or
material weaknesses in the design or operation of internal controls over
financial reporting which are reasonably likely to adversely affect our ability
to record, process, summarize and report financial information.
26
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are party to routine legal proceedings arising out of the normal course of
business. Although it is not possible to predict with certainty the outcome of
these unresolved legal actions or the range of possible loss, we believe that
none of these actions, individually or in the aggregate, will have a material
adverse effect on our financial condition or results of operations.
ITEM 2. CHANGES IN SECURITIES
As of March 1, 2004, the Company issued to Mark Humphrey in connection with his
agreement to become employed by the Company an option to acquire 10,000 shares
of the Company's common stock for a purchase price of $11.15 per share, the
prevailing market price of the Company's common stock on the date of Mr.
Humphrey's hire. The option provides that it may be exercised as to 3,333 shares
immediately, as to an additional 3,334 shares after March 1, 2005 and as to the
remaining 3,333 shares after March 1, 2006. The option expires on March 1, 2014,
unless sooner terminated as the result of the occurrence of certain specified
events. The option was issued in conjunction with the execution and delivery of
an employment agreement in reliance on Section 4(2) of the Securities Act of
1933, as amended.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
ITEM 5. OTHER INFORMATION
Not Applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
See Exhibit Index
(b) Reports on Form 8-K.
During the quarter ended April 30, 2004, the Company filed three
Reports on Form 8-K as described below:
ITEM
DATE FILED REPORTED FINANCIAL STATEMENTS FILED
---------- -------- --------------------------
February 12, 2004 Item 12 Reconciliation on non-GAAP measures to the most directly
comparable GAAP measure as required by Regulation G
March 3, 2004 Item 5 none
April 16, 2004 Item 12 Condensed Consolidated Balance Sheets and Statements of
Operations at and for the fiscal year ended January 31,
2004 and 2003
27
SIGNATURES
In accordance with the requirements of the Exchange Act, the Registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Date: June 08, 2004
SOURCE INTERLINK COMPANIES, INC.
/s/ Marc Fierman
--------------------------------
Marc Fierman
Chief Financial Officer
28
EXHIBIT INDEX
Exhibit
Number Description
------ -----------
21.1 Subsidiaries of the Registrant
31.1 Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer
32.1 Section 1350 Certification of Principal Executive Officer and
Principal Financial Officer