1
EXHIBIT 13
FINANCIAL HIGHLIGHTS
in thousands, except per share data 1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------------------------------------------
SUMMARY OF OPERATIONS
Net sales --
Continuing operations $ 258,194 $ 236,277 $ 224,349 $ 215,659 $ 205,629
Net income
Continuing operations 13,852 9,326 5,209 5,001 4,302
Change in accounting methods -- -- -- -- (275)
---------------------------------------------------------------------
$ 13,852 $ 9,326 $ 5,209 $ 5,001 $ 4,027
=====================================================================
Net income per share* $ 1.52 $ 1.04 $ .58 $ .56 $ .45
Stockholders' equity 77,325 63,965 55,461 50,466 45,637
Stockholders' equity per share** 8.70 7.22 6.26 5.71 5.16
===================================================================================================================
* Based on average number of shares outstanding each year after giving
retroactive effect for 3 for 2 stock split and stock dividends.
** Based on number of shares outstanding at year-end giving effect for 3
for 2 stock split and stock dividends declared.
Fiscal years 1997, 1996, 1995, 1994 and 1993, refer to the years ended
January 1998, January 1997, January 1996, January 1995, and January
1994, respectively, on this page and throughout the annual report.
NET SALES
(in millions)
93.................. 205.6
94.................. 215.7
95.................. 224.3
96.................. 236.3
97.................. 258.2
NET INCOME
(in millions)
93.................. 4.0
94.................. 5.0
95.................. 5.2
96.................. 9.3
97.................. 13.9
STOCKHOLDERS' EQUITY
(in millions)
93.................. 45.6
94.................. 50.5
95.................. 55.5
96.................. 64.0
97.................. 77.3
1
2
MANAGEMENT'S STATEMENT
The financial statements of Virco Mfg. Corporation were prepared by management,
which is responsible for the integrity and objectivity of the data presented,
including amounts that must necessarily be based on judgments and estimates. The
statements were prepared in conformity with generally accepted accounting
principles, and in situations where acceptable alternative accounting principles
exist, management selected the method that was most appropriate in the
circumstances.
Virco depends upon the Corporation's system of internal controls in meeting its
responsibilities for reliable financial statements. This system is designed to
provide reasonable assurance that assets are safeguarded and that transactions
are properly recorded and executed in accordance with management's
authorization. Judgments are required to assess and balance the relative cost
and expected benefits of these controls.
The financial statements have been audited by our independent auditors, Ernst &
Young LLP. The independent auditors provide an objective, independent review as
to management's discharge of its responsibilities insofar as they relate to the
fairness of reported operating results and financial condition. They obtain and
maintain an understanding of Virco's accounting and financial controls, and
conduct such tests and procedures as they deem necessary to arrive at an opinion
on the fairness of the financial statements.
The Audit Committee of the Board of Directors, which is composed solely of
Directors from outside the Company, maintains an ongoing appraisal of the
effectiveness of audits and the independence of the auditors. The Committee
meets periodically with the auditors and management. The independent auditors
have free access to the Committee, without management present, to discuss the
results of their audit work and their opinions on the adequacy of internal
financial controls and the quality of financial reporting.
12
3
MANAGEMENT'S DISCUSSION AND ANALYSIS
AND RESULTS OF OPERATIONS
REVENUE AND INCOME
1997 VS. 1996
Net sales from operations increased to $258,200,000 for fiscal 1997, compared to
$236,300,000 in fiscal 1996. The increase in sales was attained by selected
increases in selling prices, a change in product mix to higher priced products,
and increased volumes.
Educational sales, which now include certain sales which were formerly
considered "Special Markets", represents 58% of corporate revenues, increased by
$17,200,000 from $138,300,000 to $155,500,000. The current year growth in
educational sales reflects strong acceptance of our newer line of computer
furniture as well as continued growth of our mobile cabinet and mobile table
product lines. These newer product lines typically command higher prices and
margins than our more mature products. Sales of some of our more mature product
lines showed slower rates of growth and in selected cases declines in sales
volume, as the Company elected to maintain margins at the expense of volume
growth. In addition, finished goods inventories of educational products going
into the summer shipping season were higher than the prior year. This increased
level of inventory allowed for increased sales volume during the summer as well
as contributed to improved on time delivery during this peak season. During the
fourth quarter, as part of our effort to improve penetration and service levels
in the public education market, Virco terminated distribution arrangements with
several major educational dealerships and increased the size of the direct sales
force to cover these territories. Although sales in the fourth quarter were
slightly affected during this transition, Virco has historically increased both
sales and margins in territories where our direct sales force has replaced
educational dealerships.
Commercial sales, which now includes certain sales which were formerly
considered "Special Markets", represents 42% of corporate revenues increased by
$4,700,000 from $98,000,000 to $102,700,000. Sales include private schools,
pre-schools, churches, banquet and meeting halls, and cafeterias. Continued
improvement in our marketing techniques to these niche markets drove the
increase in sales volume. Sales increases in these markets were offset slightly
by decreases in sales of high volume, low margin products to mass merchants.
The gross margin increased by 2.7% from 29.6% to 32.3%. As discussed above, the
increase in sales of higher margin newer products, combined with increased
discipline in our pricing to support improved margins contributed to the
increase in gross margin. In addition, material costs were stable in 1997
compared to 1996. Continued investment in factory automation and efficiencies in
distribution contributed to the improved performance. Selling, general, and
administrative expenses increased over the prior year, but as a percentage of
sales income, declined slightly. Interest expenses decreased by $700,000
reflecting lower levels of borrowing. Net income for the current year was
affected by a $2,970,000 provision for the shutdown of our manufacturing
subsidiary in San Luis, Mexico.
1996 VS. 1995
Net sales from operations increased to $236,300,000 for fiscal 1996, compared to
$224,300,000 in fiscal 1995. The increase in sales was primarily attained by
increasing selling prices combined with a small net increase in sales volume.
Sales volume improved in markets which were targeted for growth, offset by a
sizable reduction in sales of lower priced and lower margin business to mass
merchants. The net increase in sales and substantial improvement in
profitability reflects our success in replacing the lower margin mass merchant
volume with more profitable business.
Educational sales, representing 57% of corporate revenues, increased by
$15,300,000 from $119,300,000 to $134,600,000. This increase was achieved
through a variety of operational and marketing actions. First, while finished
goods inventories going into the summer shipping season were comparable to the
prior year, the composition of product inventoried better matched the demands of
the educational sales markets. Larger volumes of educational product and reduced
volumes of product for mass merchants were stocked. Other changes affecting
current year educational sales include continued growth of our newer mobile
cabinet and mobile table product lines and the introduction of our Future Access
line of computer furniture. These newer product lines typically command higher
margins than our more mature products. Increased production capacity and strong
demand for Virco's hard plastic furniture and for other core educational
products facilitated further growth.
13
4
MANAGEMENT'S DISCUSSION AND ANALYSIS
AND RESULTS OF OPERATIONS
Commercial sales, representing 38% of corporate revenues decreased by $4,900,000
from $93,700,000 to $88,800,000. Sales in this segment improved in several
target markets, including private schools, pre-schools, churches, banquet and
meeting halls, and cafeterias. The increased volumes in these markets were more
than offset by a reduction in sales to mass merchants. This reduction was
attributable to an intended shift in emphasis to higher price and higher margin
products.
Other sales, which primarily consist of international shipments, increased by
$1,400,000 from $11,400,000 to $12,800,000 million. Sales performance in this
segment reflected increased shipments into Canada, as well as the efforts to
establish distributorships in other international markets.
The gross margin increased by 2.6% from 27.0% to 29.6%. This increase in gross
profit margin was primarily attributable to carefully considered price increases
and our successful effort to shift product mix to higher margin products. In
addition to an improved product mix, material costs were stable throughout the
year and slightly reduced in 1996 compared to 1995, when material costs
increased during the peak summer shipping season before declining at year end.
Continued investment in factory automation, ongoing engineering improvements and
efficiencies in distribution contributed to the improved performance. Selling,
general, and administrative expenses, as a percentage of sales, were consistent
with the prior year. Interest expenses decreased by $600,000 reflecting lower
levels of borrowing. This decrease in interest expense was offset by a reduction
in other income compared to the prior year. In fiscal year 1995, other income
included an involuntary conversion from tornado damage and a favorable
settlement of legal proceedings relating to our Southern Pines manufacturing
facility.
OTHER OPERATING ACTIVITIES
In May 1997, the Company decided to shut down its Mexico manufacturing facility.
Subsequently, the Company sold a majority of the assets of the Mexican facility
on October 8, 1997. The facility ceased operations on October 20, 1997. Total
revenues of this operation, consisting primarily of transfers between geographic
areas of the Company, were $5,389,000, $11,735,000 and $30,042,000 for the years
ended January 31, 1998, 1997 and 1996, respectively. The production requirements
from this facility were transferred to the Torrance, CA, and Conway, AR,
manufacturing plants. As of January 31, 1998, all 550 employees were terminated.
The Company incurred $2,970,000 in connection with the shutdown of the facility.
The primary component of this amount is related to severance benefits paid to
the employees in accordance with Mexican law.
In April 1994, the Company entered into a ten-year lease for a 560,000 square
foot manufacturing and warehousing facility in Torrance, CA. This facility has
enabled the Company to combine both manufacturing and warehousing operations for
the Western Region under one roof, reducing materials handling and distribution
expenses. In connection with the move, the factory was redesigned to implement a
"manufacturing cell" concept. This cell concept required a substantial
investment in capital equipment, but reduced labor costs as well as throughput
time for production of the Company's significant product lines. In addition, the
new equipment broadened the Company's manufacturing capabilities to facilitate
expansion into targeted markets and product lines. The new production
capabilities complement the Company's investment in enhanced product engineering
and design capabilities initiated in 1993 and continued through the current
year.
In August 1997, the Board of Directors authorized an expansion and
re-configuration of the Conway, AR manufacturing facility. The cellular
manufacturing concept which has been so successful in our Torrance, CA facility
will be expanded to the Conway operations. The additional manufacturing space
will be used to develop manufacturing cells for new or redesigned products as
well as new processes to support our product development efforts and improve
manufacturing efficiency. In late 1997 and early 1998, the Company acquired
approximately 100 acres of land in Conway and is planning to break ground on a
400,000 square foot manufacturing facility in mid-1998. The acreage acquired is
large enough to support an additional 1,300,000 square feet of manufacturing,
warehousing and distribution, and office facilities should Virco determine such
a need in the future.
14
5
IMPACT OF THE YEAR 2000
The Company completed an assessment of its information systems in early 1997.
The Company's legacy mainframe system would require modification to be year 2000
compliant. The cost of these modifications was estimated to be approximately
$200,000. As part of this assessment, the Company reviewed various software
packages that would be year 2000 compliant and improve our information system
capabilities. After extended review, the Company determined that the benefits
attainable by implementing an enterprise resource planning system justified the
additional cost of acquiring and implementing such a system.
In August 1997, the Board of Directors approved the implementation of an SAP
Enterprise Resources Planning System. This implementation was started in October
1997 and Virco contracted with Hewlett Packard and SAP to provide consulting
services related to this implementation. The capital budget for this project was
established at $5,000,000 including approximately $3,500,000 incurred as of
fiscal year end. The go live date of this system will be timed to coincide with
a slow period of the Company's seasonal business cycle, and is expected to occur
at the end of the third or fourth quarter of the current fiscal year. In
addition to the capital expenditures budgeted for this new system, the Company
expects to incur training costs of approximately $500,000. At fiscal year end,
the Company had incurred approximately $100,000 in training costs.
The SAP implementation and any required modifications to production or
communication equipment are expected to be completed by the end of fiscal year
1998. The Company believes that by implementing the SAP system and any required
equipment modifications, the year 2000 issue will not pose significant
operational problems for the Company. If the implementation of the SAP
Enterprise Resources Planning system or modification to the legacy system is not
made on a timely basis, the year 2000 issue could have a material effect on
operations.
The project costs and the date on which the Company believes it will complete
the year 2000 issues are based on management's best estimates. There can be no
guarantee that these estimates will be achieved and actual results could differ
from those anticipated. Specific factors that might cause such differences
include but are not limited to, the availability and cost of personnel, the
amount of custom modifications and number of modules implemented in the SAP, and
the need to modify or replace communication or manufacturing equipment.
ENVIRONMENTAL AND CONTINGENT LIABILITIES
The Company and other furniture manufacturers are subject to federal, state, and
local laws and regulations relating to the discharge of materials into the
environment and the generation, handling, storage, transportation, and disposal
of waste and hazardous materials. The Company has expended, and can be expected
to expend, significant amounts in the future for the investigation of
environmental conditions, installation of environmental control equipment, and
remediation of environmental contamination. The Company has not incurred any
material costs for any corrective actions in 1997, 1996 and 1995.
Currently, the Company is self-insured for Product and General Liability losses
up to $100,000 per occurrence. In prior years the Company has been self-insured
for Workers Compensation, Automobile, Product, and General Liability losses. The
Company has purchased insurance to cover losses in excess of $100,000 up to a
limit of $30,000,000. In 1993 the Company initiated a program to reduce product
liability losses and to more aggressively litigate product liability cases. This
program has continued through 1997 and has resulted in reductions in litigated
product liability cases. Management does not anticipate that any related
settlement, after consideration of the existing reserves for claims and
potential insurance recovery, would have a material adverse effect on the
Company's financial position, results of operations, or cash flows.
INFLATION AND FUTURE CHANGE IN PRICES
Inflation rates in the U.S. did not have a significant impact on the Company's
operating results for the fiscal year just ended. Material costs were stable in
1997. If current trends continue, we anticipate that total material costs for
1998, as a percentage of sales, could be comparable to or slightly less than in
1997. However, no assurance can be given that the Company will experience stable
prices in 1998. The Company is working to control and reduce costs by improving
production methodologies, investigating new packaging and shipping materials,
and searching for new sources of pur-
15
6
MANAGEMENT'S DISCUSSION AND ANALYSIS
AND RESULTS OF OPERATIONS
chased components.
The Company uses the LIFO method of accounting for inventory. Under this method,
the cost of products sold as reported in the financial statements approximates
current cost, and reduces the distortion in reported income due to increasing
costs. Depreciation expense represents an allocation of historic acquisition
costs and is less than if based on the current cost of productive capacity
consumed. The Company has made significant fixed asset acquisitions during the
last three fiscal years. The assets acquired will result in higher depreciation
charges, but due to technological advances should result in operating cost
savings. Anticipated fixed asset additions in 1998 will be significant, with
budgeted expenditures for the Conway, Arkansas expansion of approximately
$25,000,000; budgeted additional expenditures for the SAP Enterprise Resource
Planning System of approximately $2,000,000; and ongoing capital expenditures at
the Torrance, CA facility of approximately $2,000,000.
LIQUIDITY
In October 1996, the Company renewed its $49,500,000 loan facility, extending
the agreement to a three-year commitment. The terms of the facility are
described in Note 4 of the notes to the consolidated financial statements. Major
provisions of the agreement include that the line is uncollateralized and the
interest rate is at prime. This new facility allows the Company the option to
borrow under 30, 60,and 90 day fixed term rates at LIBOR plus 1.25%. Under this
agreement, there is letter of credit sub feature where the Company issues
commercial and standby letters of credit. This loan facility is intentionally
large enough to finance more production in the early part of the year to have
adequate inventories available for the summer/fall educational delivery season.
In 1997, the Company initiated two large capital projects which will have
significant cash flow effects on the 1998 fiscal year. The first project is the
implementation of the SAP Enterprise Resource Planning system, initiated in
October 1997. General Electric Capital Corporation (GECC) agreed to finance this
project under a lease arrangement which will be treated as a capital lease for
book purposes and an operating lease for tax purposes. This allowed the Company
to initiate the project in 1997 without violating the limitations on capital
investment at the Torrance, CA facility imposed by the Industrial Revenue Bond.
The second project is the expansion and re-configuration of the Conway, AR
manufacturing facility. During the fourth quarter of 1997 the Company expended
approximately $1,200,000 to acquire roughly 70 acres of land for the expansion.
The Company expects to spend approximately $25,000,000 during 1998 to buy an
additional 30 acres of land, construct a 400,000 square foot manufacturing
facility, and purchase new production equipment for the new plant. General
Electric Capital Corporation (GECC) agreed to finance approximately $10,000,000
of equipment under operating leases. The balance of the cash required will be
provided by the loan facility with Wells Fargo Bank and operating cash flow.
Capital investments for land, machinery and equipment installed at the Conway,
AR facility totaled $6,100,000 in 1997, $5,700,000 in 1996, and $6,900,000 in
1995. These capital investments were financed by operating cash flow and the
Wells Fargo Bank loan facility.
During 1994, the Company issued an $8,900,000 Industrial Revenue Bond through
the City of Torrance, CA. The Bond was privately placed with General Electric
Capital Corporation (GECC). This Industrial Revenue Bond provides capital funds
which are limited to the acquisition of machinery, equipment, and leasehold
improvements in the Torrance, CA facility. Under the terms of the Bond,
capital spending at the Torrance facility was limited to $8,900,000 over a
three-year period. The Company has drawn down $8,900,000 to cover capital
expenditures and bond issuance costs. To supplement the Bond proceeds, the
Company has entered into true tax leases with GECC for approximately $1,090,000,
$60,000, and $2,200,000 worth of machinery and equipment in fiscal years 1997,
1996, and 1995, respectively. Capital assets obtained through these true tax
leases were not applied toward the $8,900,000 three year limit on capital
spending in Torrance.
As a result of the sale of the Mexico manufacturing facility, the Company
reduced the levels of raw material and work in process inventory at this
location. Inventory levels (at FIFO) at this facility were $0, $3,100,000, and
$3,800,000 at January 31, 1998, 1997, and 1996, respectively. The sale of
production equipment and real property at this facility generated an additional
$2,210,000 of cash, offset by closing costs incurred related to the shutdown.
16
7
Subsequent to year end, the Company has reached an agreement to sell the
manufacturing facility located in Southern Pines, North Carolina. This sale, if
completed, should generate approximately $1,000,000 in cash and result in no
significant gain or loss on disposition.
In December 1996, the Company's Board of Directors voted to initiate a quarterly
cash dividend policy beginning with the payment of a $.017 per share dividend
(adjusted for stock dividends) on January 31, 1997. For the third quarter of
1997, the dividend was increased to $.02 per share. The amount of quarterly
dividend will be reviewed each quarter in the light of the Company's earnings
and liquidity.
At the April 21, 1998 meeting of the Board of Directors, the Board authorized a
stock repurchase program of up to $5,000,000 of the Company's common stock, from
time to time over the next twelve months. The stock repurchase program will be
financed by the Company's operating cash flow and the Wells Fargo Bank loan
facility.
Management believes cash raised from the previously described sources will be
adequate to meet its capital requirements in the short term.
FINANCIAL STRATEGY
Virco's financial strategy is to continue to increase levels of profitability by
targeting specific profitable market segments for future growth, accelerating
new product development for those target markets, acquisition of automated
production equipment and new production technologies, the elimination of under
performing assets and continual reassessment of the manufacturing and
distribution capacity needed to meet future demand. This continual assessment of
production capacity led to an expansion of our Conway, AR production facility in
1991, 1993, and the expansion initiated in 1997, the 1994 move from the Los
Angeles, CA plant to a larger, more automated facility in Torrance, CA and the
shutdown of the manufacturing subsidiary in Mexico in 1997. We have almost
completed our effort to eliminate or lease underutilized real estate.
As discussed in Note 7 of the consolidated financial statements, the Company has
not provided an allowance against the deferred tax assets recorded in the
financial statements. The Company has a net deferred tax liability at January
31, 1998. The gross deferred tax asset represents approximately 4% of current
pre-tax earnings. Management believes that it is more likely than not that
future earnings will be sufficient to recover deferred tax assets.
The Company discounts the pension obligations under the Virco Employees
Retirement Plan and the Virco Important Performers Plan (VIP) utilizing an 8%
discount rate. Although the Company does not anticipate any change in this rate
in the coming year, any such change would not have a significant effect on the
Company's financial position, results of operations, or cash flows.
FORWARD-LOOKING STATEMENTS
From time to time, the Company or its representatives have made or may make
forward-looking statements, orally or in writing, including those contained
herein. Such forward-looking statements may be included in, without limitation,
reports to stockholders, press releases, oral statements made with the approval
of an authorized executive officer of the Company and filings with the
Securities and Exchange Commission. The words or phrases "anticipates,"
"expects," "will continue," "estimates," "projects," or similar expressions are
intended to identify "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. The results contemplated by
the Company's forward-looking statements are subject to certain risks and
uncertainties that could cause actual results to vary materially from
anticipated results, including without limitation, material costs, demand for
the Company's products, and competitive conditions affecting selling prices and
margins.
ACCOUNTING PRONOUNCEMENTS
During the year ending January 31, 1999, the Company will adopt Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income," and
Statement of Financial Accounting Standards No. 131, "Disclosures About Segments
of an Enterprise and Related Information," which become effective during that
year. During the year ending January 31, 2000, the Company will adopt Statement
of Financial Accounting Standards No. 132, "Employer's Disclosures about
Pensions and Other Postretirement Benefits" which becomes effective during that
year. The adoption of these new accounting standards is not expected to have a
material impact on the Company.
In March 1998, the AICPA issued SOP 98-1, Accounting For the Costs of Computer
Software Developed For or Obtained For Internal-Use. The SOP is effective for
the Company beginning on February 1, 1999. The SOP will require the
capitalization of certain costs incurred after the date of adoption in
connection with developing or obtaining software for internal-use. The Company
currently capitalizes costs associated with software developed for its own use.
The Company does not believe adoption of this SOP will have a material impact on
the Company's future earnings or financial position.
17
8
FIVE YEAR SUMMARY OF SELECTED FINANCIAL DATA
in thousands except per share data 1997 1996 1995 1994 1993
- ----------------------------------------------------------------------------------------------------------------
SUMMARY OF OPERATIONS
Net sales - continuing operations $ 258,194 $ 236,277 $ 224,349 $ 215,659 $ 205,629
Net income
Continuing operations 13,852 9,326 5,209 5,001 4,302
Change in accounting methods -- -- -- -- (275)
-----------------------------------------------------------------------
$ 13,852 $ 9,326 $ 5,209 $ 5,001 $ 4,027
=======================================================================
Net income per share*
Continuing operations $ 1.52 $ 1.04 $ .58 $ .56 $ .48
Change in accounting methods -- -- -- -- (03)
-----------------------------------------------------------------------
$ 1.52 $ 1.04 $ .58 $ .56 $ .45
=======================================================================
Average number of shares outstanding 9,131,739 9,007,253 8,962,109 8,924,353 8,866,658
Dividends declared per share
adjusted for 3 for 2 stock split
Cash $ .07 $ .08 $ .03 $ .03 $ .03
OTHER FINANCIAL DATA
Total assets $ 122,015 $ 118,020 $ 119,225 $ 115,008 $ 97,164
Working capital 44,032 45,143 51,320 42,780 47,038
Current ratio 2.5/1 2.6/1 3.2/1 2.6/1 3.2/1
Total long-term obligations 13,512 25,396 39,900 37,428 29,722
Stockholders' equity 77,325 63,965 55,461 50,466 45,637
Shares outstanding at year-end*** 8,886,794 8,859,444 8,859,444 8,844,923 8,844,923
Stockholders' equity per share** 8.70 7.22 6.26 5.71 5.16
================================================================================================================
* Based on average number of shares outstanding each year after giving
retroactive effect for 3 for 2 stock split and stock dividends.
** Based on number of shares outstanding at year-end giving effect for 3
for 2 stock split and stock dividends declared.
*** Adjusted for 3 for 2 stock split and stock dividends.
18
9
REPORT OF INDEPENDENT AUDITORS
THE BOARD OF DIRECTORS AND STOCKHOLDERS
VIRCO MFG. CORPORATION
We have audited the accompanying consolidated balance sheets of Virco Mfg.
Corporation as of January 31, 1998 and 1997, and the related consolidated
statements of income, stockholders' equity, and cash flows for each of the three
years in the period ended January 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Virco Mfg.
Corporation at January 31, 1998 and 1997, and the consolidated results of their
operations and their cash flows for each of the three years in the period ended
January 31, 1998, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
Los Angeles, California
March 13, 1998
19
10
CONSOLIDATED BALANCE SHEETS
January 31
in thousands, except per share data 1998 1997
- --------------------------------------------------------------------------------------------------
ASSETS
Current assets:
Cash $ 1,221 $ 722
Trade accounts receivable (less a $100 allowance for doubtful accounts) 25,703 24,640
Other receivables 1,139 870
Inventories:
Finished goods 25,467 26,902
Work in process 8,739 6,402
Raw materials and supplies 9,656 10,340
--------------------
43,862 43,644
Prepaid expenses and other current assets 1,308 1,478
Deferred income taxes 986 1,334
--------------------
Total current assets 74,219 72,688
Restricted short-term investments -- 660
Property, plant and equipment:
Land and land improvements 4,618 3,647
Buildings 12,906 14,269
Machinery and equipment 57,417 59,906
Leasehold improvements 813 1,844
--------------------
75,764 79,666
Less accumulated depreciation and amortization 36,385 42,188
--------------------
Net property, plant and equipment 39,369 37,478
Other assets 8,427 7,194
--------------------
Total assets $122,015 $118,020
==================================================================================================
See accompanying notes.
NET PROPERTY, PLANT AND
EQUIPMENT/CAPITAL EXPENDITURES
(in millions)
93 94 95 96 97
Capital Expenditures.................. 8.8 12.4 11.1 7.1 10.7
Net Property, Plant and Equipment.... 23.7 31.3 37.0 37.5 39.4
20
11
CONSOLIDATED BALANCE SHEETS
(CONTINUED)
January 31
in thousands, except per share data 1998 1997
- ----------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Checks released but not yet cleared bank $ 3,200 $ 4,790
Accounts payable 13,324 11,029
Accrued compensation and employee benefits 7,627 7,416
Current portion of long-term debt 3,442 980
Other accrued liabilities 2,594 3,330
-----------------------
Total current liabilities 30,187 27,545
Noncurrent liabilities:
Accrued self-insurance retention 1,277 1,556
Accrued pension expenses 2,776 2,327
Long-term debt, less current portion 9,459 21,513
-----------------------
Total noncurrent liabilities 13,512 25,396
Deferred income taxes 991 1,114
Stockholders' equity:
Preferred stock:
Authorized 3,000,000 shares, $.01 par value;
none issued or outstanding -- --
Common stock:
Authorized 10,000,000 shares, $.01 par value;
issued 8,909,183 shares in 1998 and 8,881,833 shares in 1997 89 59
Additional paid-in capital 50,301 50,104
Retained earnings 27,423 14,251
Less treasury stock at cost (22,389 shares) (172) (172)
Less unearned ESOP shares (316) (277)
-----------------------
Total stockholders' equity 77,325 63,965
-----------------------
Total liabilities and stockholders' equity $ 122,015 $ 118,020
==============================================================================================
See accompanying notes.
STOCKHOLDERS' EQUITY
(in millions)
93.................. 45.6
94.................. 50.5
95.................. 55.5
96.................. 64.0
97.................. 77.3
21
12
CONSOLIDATED STATEMENTS OF INCOME
Year ended January 31
in thousands, except per share data 1998 1997 1996
- -----------------------------------------------------------------------------------
Net sales $ 258,194 $ 236,277 $ 224,349
Costs of goods sold 174,863 166,293 163,728
-----------------------------------
Gross profit 83,331 69,984 60,621
Selling, general and administrative expenses 55,366 51,574 50,050
Provision for doubtful accounts 119 202 67
Provision for plant shutdown 2,970 -- --
Interest expense, net 1,794 2,507 3,130
Other expense (income) 478 647 (1,039)
-----------------------------------
Income before income taxes 22,604 15,054 8,413
Provision for income taxes 8,752 5,728 3,204
-----------------------------------
Net income $ 13,852 $ 9,326 $ 5,209
===================================
Net income per share $ 1.56 $ 1.05 $ .59
Net income per share - assuming dilution $ 1.52 $ 1.04 $ .58
===================================================================================
See accompanying notes.
NET SALES
(in millions)
93.................. 205.6
94.................. 215.7
95.................. 224.3
96.................. 236.3
97.................. 258.2
NET INCOME
(in millions)
93.................. 4.0
94.................. 5.0
95.................. 5.2
96.................. 9.3
97.................. 13.9
NET INCOME PER SHARE
(in dollars)
93.................. .45
94.................. .56
95.................. .58
96.................. 1.04
97.................. 1.52
22
13
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Common Stock Additional
in thousands, except per ----------------------- Paid-In Retained Treasury
share amounts Shares Amount Capital Earnings Stock ESOP Trust Total
- ------------------------------------------------------------------------------------------------------------------------
Balance at January 31, 1995 4,873,236 $49 $36,992 $13,787 $(234) $(128) $50,466
Unearned ESOP shares -- -- -- -- -- (65) (65)
Sale of treasury stock 8,000 -- 4 -- 62 -- 66
Stock dividend (10%) 488,124 5 5,059 (5,064) -- -- --
Cash dividend ($.04) -- -- -- (215) -- -- (215)
Net income -- -- -- 5,209 -- -- 5,209
-----------------------------------------------------------------------------------------
Balance at January 31, 1996 5,369,360 54 42,055 13,717 (172) (193) 55,461
Unearned ESOP shares -- -- -- -- -- (84) (84)
Stock dividend (10%) 536,936 5 8,049 (8,054) -- -- --
Cash dividend ($.125) -- -- -- (738) -- -- (738)
Net income -- -- -- 9,326 -- -- 9,326
-----------------------------------------------------------------------------------------
Balance at January 31, 1997 5,906,296 59 50,104 14,251 (172) (277) 63,965
Unearned ESOP shares -- -- -- -- -- (39) (39)
Stock issued under
option plans 20,600 -- 197 -- -- -- 197
Stock split (3 for 2) 2,959,898 30 -- (30) -- -- --
Cash dividends ($.073) -- -- -- (650) -- -- (650)
Net income -- -- -- 13,852 -- -- 13,852
-----------------------------------------------------------------------------------------
Balance at January 31, 1998 8,886,794 $89 $50,301 $27,423 $(172) $(316) $77,325
========================================================================================================================
See accompanying notes.
STOCKHOLDERS' EQUITY PER SHARE
(in millions)
93.................. 5.16
94.................. 5.71
95.................. 6.26
96.................. 7.22
97.................. 8.70
23
14
CASH FLOW HIGHLIGHTS
(in millions)
NET INCOME
(source)
95.................. 5.2
96.................. 9.3
97.................. 13.9
REDUCTION OF
LONG-TERM DEBT
(use)
95.................. 1.0
96.................. 14.3
97.................. 12.7
PURCHASE OF PROPERTY,
PLANT AND EQUIPMENT
(use)
95.................. 11.1
96.................. 7.1
97.................. 10.7
24
15
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended January 31
in thousands, except per share data 1998 1997 1996
- -----------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $ 13,852 $ 9,326 $ 5,209
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 7,110 6,541 5,364
Provision for doubtful accounts 119 202 67
Deferred income taxes 225 77 795
(Gain) loss on sale of property, plant and equipment (575) 49 (51)
Changes in assets and liabilities:
Trade accounts receivable (1,182) 1,082 (146)
Other receivables (269) 1,208 (554)
Inventories (218) (624) (3,800)
Prepaid expenses and other current assets 225 405 (378)
Accounts payable and accrued liabilities 667 3,762 (3,288)
Income taxes payable (372) 514 (1,569)
Other (473) (168) 230
---------------------------------
Net cash provided by operating activities 19,109 22,374 1,879
INVESTING ACTIVITIES
Capital expenditures (10,701) (7,125) (11,068)
Proceeds from sale of property, plant and equipment 2,275 12 118
Net investment in life insurance (760) (650) (1,685)
Restricted short-term investments 660 612 7,665
---------------------------------
Net cash used in investing activities (8,526) (7,151) (4,970)
FINANCING ACTIVITIES
Dividends paid $ (650) $ (738) $ (215)
Issuance of long-term debt 3,067 -- 4,205
Repayment of long-term debt (12,659) (14,340) (824)
Issuance of common stock 197 -- --
Sale of treasury stock -- -- 66
ESOP loan (39) (84) (65)
---------------------------------
Net cash (used in) provided by financing activities (10,084) (15,162) 3,167
---------------------------------
Net increase in cash 499 61 76
Cash at beginning of year 722 661 585
---------------------------------
Cash at end of year $ 1,221 $ 722 $ 661
==================================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 1,911 $ 2,606 $ 3,299
Income taxes 9,021 5,322 3,978
===============================================================================================
See accompanying notes.
25
16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
Virco Mfg. Corporation is engaged in the production and distribution of
furniture for the education and contract furniture markets worldwide. The
majority of sales are made to educational institutions and contract furniture
markets located throughout the United States and Canada.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Virco Mfg.
Corporation and its wholly-owned subsidiaries. All material intercompany
balances and transactions have been eliminated in consolidation.
CONCENTRATION OF CREDIT RISK
Financial instruments which potentially subject the Company to concentrations of
credit risk consist principally of accounts receivable. The Company performs
ongoing credit evaluations of its customers and maintains allowances for
potential credit losses. The Company purchases insurance on receivables from
commercial sales to minimize the Company's credit risk.
INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined using
the last-in, first-out (LIFO) method of valuation for the material content of
inventories and the first-in, first-out (FIFO) method for labor and overhead.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost, less accumulated depreciation.
Depreciation and amortization is computed on the straight-line method for
financial reporting purposes based upon the following estimated useful lives:
Land improvements 5 to 25 years
Buildings (including improvements) 5 to 40 years
Machinery and equipment 3 to 10 years
Leasehold improvements Life of lease
Certain assets are depreciated under accelerated methods for income tax
purposes.
Interest costs, amounting to $120,000, $122,000 and $190,000 for the years ended
January 31, 1998, 1997 and 1996, respectively, have been capitalized as part of
the acquisition cost of property, plant and equipment.
The Company capitalizes costs associated with software developed for its own
use. Such costs are amortized over three years from the date the software is
operational. The Company capitalized $129,000, $359,000 and $398,000 and
recorded depreciation expense of $353,000, $376,000 and $366,000 in fiscal years
ended January 31, 1998, 1997, and 1996, respectively. The net book value of
capitalized software was $322,000 and $546,000 at January 31, 1998 and 1997,
respectively.
The Company is in the process of implementing a new business information system.
At January 31, 1998, the Company had capitalized $3.5 million related to this
implementation including $465,000 of the Company's labor costs. Such costs will
be amortized over seven years from the date the system is operational.
IMPAIRMENT OF LONG-LIVED ASSETS
Effective February 1, 1996, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of." SFAS No. 121
establishes accounting standards for the impairment of long-lived assets,
certain identifiable intangible assets, and goodwill related to these assets.
SFAS No. 121 prescribes an impairment loss be recognized in the event facts and
circumstances indicate the carrying amount of an asset may not be recoverable,
and an estimate of future undiscounted cash flows is less than the carrying
amount of the asset. Impairment is recorded based on the excess of the carrying
amount of the impaired asset over the fair value. Generally, fair value
represents the Company's expected future cash flows from the use of an asset or
group of assets, discounted at a rate commensurate with the risks involved.
Adoption of SFAS No. 121 had no material effect on the financial statements as
the Company's previous method of estimating impairment was based on net
realizable value which approximated fair value.
26
17
NET INCOME PER SHARE
In 1997, the Company adopted SFAS No. 128, "Earnings Per Share." SFAS No. 128
which replaced the calculation of primary and fully diluted net income per share
with basic and diluted net income per share. Basic net income per share is
calculated by dividing net income by the weighted average number of common
shares outstanding. Diluted net income per share is calculated by dividing net
income by the weighted average number of common shares outstanding plus the
dilutive effect of convertible securities. The weighted average number of shares
used in the computation of basic net income per share was 8,886,794, 8,859,444
and 8,859,444 for the years ended January 31, 1998, 1997 and 1996, respectively.
The weighted average number of shares used in the computation of diluted net
income per share was 9,131,739, 9,007,253 and 8,962,109 for the years ended
January 31, 1998, 1997 and 1996, respectively. All prior year net income per
share data has been restated in accordance with the new standard.
1997 1996 1995
- -----------------------------------------------------------------------------------------------------
Numerator:
Net Income $13,852,000 $ 9,326,000 $ 5,209,000
Denominator:
Denominator for basic earnings per share --
weighted-average shares 8,886,794 8,859,444 8,859,444
Dilutive potential common shares 244,945 147,809 102,665
-----------------------------------------
Denominator for diluted earnings per share - adjusted
weighted-average shares and assumed conversions 9,131,739 9,007,253 8,962,109
-----------------------------------------
Basic earnings per share $ 1.56 $ 1.05 $ .59
Diluted earnings per share $ 1.52 $ 1.04 $ .58
On August 19, 1997, the Company's Board of Directors authorized a three for two
stock split effected in the form of a 50% stock dividend payable on September
30, 1997 to stockholders of record on September 5, 1997. This resulted in the
issuance of 2,959,898 additional shares of common stock as of September 3, 1997.
All per share and weighted average share amounts have been restated to reflect
this stock split and stock dividends previously declared.
FOREIGN CURRENCY TRANSLATION
The "functional currency" for the financial statements of the Mexico subsidiary
is the U.S. dollar. In accordance with SFAS No. 52, all non-monetary balance
sheet accounts have been remeasured using historical rates. Income statement
amounts have been remeasured using the average exchange rate in effect during
the year. All remeasurement gains and losses are included in the consolidated
statement of income. The effect on the statement of income of gains and losses
is insignificant for all years presented.
INTANGIBLE ASSETS
Intangible assets, which consist principally of deferred pension assets and
which are included in other noncurrent assets, are recorded at cost and are
amortized over their estimated useful lives using the straight-line method.
ENVIRONMENTAL COSTS
Costs incurred to investigate and remediate environmental waste are expensed as
incurred, unless the remediation extends the useful life of the assets employed
at the site. Remediation costs which extend the useful life of assets are
capitalized and amortized over the useful life of the assets.
ADVERTISING COSTS
Advertising costs are expensed in the period in which they occur. Selling,
general and administrative expenses include advertising costs of $3,007,000 in
1997, $3,024,000 in 1996 and $2,790,000 in 1995.
SELF-INSURANCE
The Company has a self-insured retention for general and product liability
claims. Consulting actuaries assist the Company in determining its liability for
the self-insured component of claims which have been discounted to their net
present value.
STOCK-BASED COMPENSATION PLANS
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25) and related interpretations
in accounting for its employee stock options because the alternative fair value
accounting provided for under FASB Statement No. 123, "Accounting for
Stock-Based Compensation" (SFAS No. 123), requires use of option valuation
models that were not developed for use in valuing employee stock options. Under
APB 25, because the exercise price of the Company's employee stock options
equals the market price of the underlying stock on the date of grant, no
compensation expense is recognized.
27
18
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
USE OF ESTIMATES AND ASSUMPTIONS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
REVENUE RECOGNITION
Revenue from product sales is recognized upon shipment of merchandise.
FISCAL YEAR END
Fiscal years 1997, 1996 and 1995 refer to the years ended January 31, 1998, 1997
and 1996, respectively.
FUTURE ACCOUNTING REQUIREMENTS
During the year ending January 31, 1999, the Company will adopt SFAS No. 130,
"Reporting Comprehensive Income," and Statement of Financial Accounting
Standards No. 131, "Disclosures About Segments of an Enterprise and Related
Information," which become effective during that year. During the year ending
January 31, 2000, the Company will adopt SFAS No. 132, "Employer's Disclosures
about Pensions and Other Postretirement Benefits," which becomes effective
during that year. The adoption of these new accounting standards is not expected
to have a material impact on the Company.
In March 1998, the AICPA issued SOP 98-1, Accounting For the Costs of Computer
Software Developed For or Obtained For Internal-Use. The SOP is effective for
the Company beginning on February 1, 1999. The SOP will require the
capitalization of certain costs incurred after the date of adoption in
connection with developing or obtaining software for internal-use. The Company
currently capitalizes costs associated with software developed for its own use.
The Company does not believe adoption of this SOP will have a material impact on
the Company's future earnings or financial position.
2. INVENTORIES
The current material cost for inventories exceeded LIFO cost by $3,930,000 and
$5,180,000 at January 31, 1998 and 1997, respectively. Liquidation of prior year
LIFO layers due to a reduction in certain inventories increased (decreased)
income by $29,000 and $(90,000) in the years ended January 31, 1998 and 1997,
respectively.
The material portion of inventory which is valued at LIFO at January 31, 1998
and 1997 are as follows (in thousands):
January 31, 1998
Material Labor,
Content at LIFO Overhead
FIFO Reserve and Other Total
- -----------------------------------------------------------------------------
Finished goods $17,080 $(2,149) $10,536 $25,467
Work in process 5,605 (786) 3,920 8,739
Raw materials and supplies 10,651 (995) -- 9,656
--------------------------------------------
Total $33,336 $(3,930) $14,456 $43,862
============================================
January 31, 1997
Material Labor,
Content LIFO Overhead
at FIFO Reserve and Other Total
- -----------------------------------------------------------------------
Finished goods $19,272 $(2,969) $10,599 $26,902
Work in process 4,857 (823) 2,368 6,402
Raw materials and supplies 11,728 (1,388) -- 10,340
-----------------------------------------
Total $35,857 $(5,180) $12,967 $43,644
=========================================
28
19
3. RESTRICTED SHORT-TERM INVESTMENTS
In December 1994, the City of Torrance issued an $8,900,000 Industrial Revenue
Bond (IRB) which was privately placed with General Electric Capital Corporation
(GECC). The proceeds from this bond were held in money market funds in trust at
U.S. Trust Company and were only be used to pay for improvements and equipment
at the Torrance, California facility. The terms of the IRB restricted capital
expenditures at the Torrance location to a cumulative total of $8,900,000 for a
three year period ending December 1997.
4. NOTES PAYABLE
Outstanding balances (in thousands) for the Company's long-term debt were as
follows:
January 31
1998 1997
- --------------------------------------------------------------------
Revolving credit line with Wells Fargo Bank(a) $ 1,318 $13,000
IRB with the City of Torrance(b) 6,698 7,457
Equipment credit line with GECC(c) 2,493 --
Other 2,392 2,036
------------------
12,901 22,493
Less current portion 3,442 980
------------------
$ 9,459 $21,513
==================
Outstanding stand-by letters of credit $ 4,936 $ 3,911
==================
(a) A credit facility with Wells Fargo Bank effective October 1996 provides
an unsecured revolving line of credit of up to $49,500,000 with a letter
of credit subfeature. Approximately $43,246,000 was available for
borrowing as of January 31, 1998. This is a three year non-amortizing
line with interest payable monthly at a fluctuating rate equal to the
Bank's prime rate (8.25% at January 31, 1998). The new line also allows
the Company the option to borrow under 30, 60 and 90 day fixed term
rates at LIBOR plus 1.25%. This new facility replaced a two year
facility with comparable terms.
(b) Ten year $8,900,000 IRB issued through the City of Torrance. This 5.994%
fixed interest rate bond is payable in monthly installments of $99,000,
including interest, through December 2004.
(c) In October 1997, the Company has established a new credit facility with
GECC to finance the new business information system. It provides a
secured line of credit of up to $5,000,000. Approximately $2,500,000 was
available for borrowing as of January 31, 1998. This is a four-year
amortizing capital lease with principal and interest (approximately
7.5%) payable monthly. The Company has the option of buying out the
lease three years into the lease period.
Long-term debt repayments for the next five years and thereafter are
approximately as follows (in thousands):
Year ending January 31
- -------------------------------------------------------------------------
1999 $ 3,442
2000 3,278*
2001 1,673
2002 1,334
2003 1,027
Thereafter 2,147
--------
$ 12,901
========
* The $1,318,000 due under Wells Fargo Bank's line of credit will be
payable in fiscal year ended January 31, 2000 if the agreement is not
renewed. It is the Company's intent to renew this agreement annually.
The Company believes that the carrying value of debt under the Wells Fargo
credit facility approximates fair value at January 31, 1998 and 1997, as the
debt bears interest at variable rates or is fixed for periods equal to or less
than 90 days. The carrying value of other debt instruments approximates their
fair value given the Company's incremental borrowing rate for similar types of
financing arrangements.
The Company guarantees a $1,500,000 line of credit from Wells Fargo Bank to the
Virco Employee Stock Ownership Plan (ESOP). At January 31, 1998 and 1997,
$316,000 and $277,000, respectively, was outstanding under the line.
5. RETIREMENT PLANS
The Company and its subsidiaries cover all of the United States based employees
under a noncontributory defined benefit retirement plan, the Virco Employees'
Retirement Plan (Plan). Benefits under the Plan are based on years of service
and career average earnings. The Company's general funding policy is to
contribute amounts deductible for federal income tax purposes. Assets of the
Plan are invested in common trust funds.
29
20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table sets forth (in thousands) the funded status of the Plan at
December 31, 1997 and 1996:
1997 1996
- -----------------------------------------------------------------------------------------
Accumulated benefit obligation:
Vested $ (8,027) $ (7,528)
Nonvested (244) (228)
---------------------
$ (8,271) $ (7,756)
=====================
Projected benefit obligation $(10,151) $ (9,430)
Plan assets at fair value 8,312 7,480
---------------------
Projected benefit obligation in excess of plan assets (1,839) (1,950)
Unrecognized net transition asset being recognized over 15 years (393) (434)
Recognition of minimum liability -- (121)
Unrecognized net loss 2,358 2,229
---------------------
Accrued pension asset (cost) $ 126 $ (276)
=====================
The total pension expense for the Plan (in thousands) included the following
components:
December 31
1997 1996 1995
- ----------------------------------------------------------------
Service cost $ 740 $ 670 $ 620
Interest cost 693 645 591
Actual return on plan assets (1,127) (671) (916)
Net amortization and deferral 527 66 486
-------------------------------
Net periodic pension cost $ 833 $ 710 $ 781
===============================
The weighted average discount rate was 8%, the rate of increase in future
compensation levels was 5%, and the expected long-term rate of return on assets
was 9.75% for 1997, 1996 and 1995. Gains and losses are amortized on a
straight-line basis over the average remaining service life of the employees.
The Company provides a supplementary retirement plan for certain key employees,
the VIP Retirement Plan (VIP Plan). The VIP Plan provides a benefit up to 50% of
average compensation for the last five years in the VIP Plan, offset by benefits
earned under the Virco Employees' Retirement Plan. The VIP Plan is funded by a
life insurance program.
The cash surrender values of the policies funding the VIP Plan were $2,393,000
and $2,099,000 at January 31, 1998 and 1997, respectively. These cash surrender
values are included in other assets in the consolidated balance sheets.
The following table sets forth (in thousands) the funded status of the VIP Plan
at January 31, 1998 and 1997.
1998 1997
- ------------------------------------------------------------------------------------------
Accumulated benefit obligation:
Vested $(4,390) $(3,407)
Nonvested (88) (230)
-------------------
$(4,478) $(3,637)
===================
Projected benefit obligation $(4,976) $(4,284)
Plan assets at fair value -- --
-------------------
Projected benefit obligation in excess of plan assets (4,976) (4,284)
Unrecognized prior service cost 353 450
Unrecognized net transition liability being amortized over 15 years 16 20
Recognition of minimum liability (856) (625)
Unrecognized net loss 985 802
-------------------
Accrued pension cost $(4,478) $(3,637)
===================
30
21
The total pension expense for the VIP Plan (in thousands) included the following
components:
January 31
1998 1997 1996
- -----------------------------------------------------
Service cost $332 $332 $241
Interest cost 333 314 228
Actual return on plan assets -- -- --
Net amortization and deferral 167 208 124
--------------------
Net periodic pension cost $832 $854 $593
====================
The weighted average discount rate was 8%, the rate of increase in future
compensation levels was 5% and the expected long-term rate of return on assets
was 9.75% for 1997, 1996 and 1995. Prior service cost and gains and losses are
amortized on a straight-line basis over the average remaining service life of
the employees.
The Company's Employee Stock Ownership Plan, which covers all U.S. employees,
allows participants to defer from 1% to 15% of their eligible compensation
through a 401(k) retirement program. One of the four investment options is the
Virco Stock Fund. Shares owned by the ESOP are held by the Plan Trustee, U.S.
Trust Company. At January 31, 1998, the Plan held 422,484 shares of Virco Stock
including 403,845 shares allocated to participants accounts. Using the January
31, 1998 closing price of $26.44, the unallocated account has 18,639 shares
valued at $492,778. At January 31, 1998, the Plan had borrowed $316,000 directly
from Wells Fargo Bank. This loan is secured by the unallocated shares and
guaranteed by Virco. Allocated shares held by the Trust are included in shares
outstanding and the related dividends are charged to retained earnings. For the
fiscal years ended January 31, 1998 and 1997, there was no employer match and
therefore no compensation cost to the Company.
The Company provides current and post-retirement life insurance to certain
salaried employees with split dollar life insurance policies under the Dual
Option Life Insurance Plan. Cash surrender values of these policies which are
included in other assets in the consolidated balance sheets were $2,681,000 and
$2,174,000 at January 31, 1998 and 1997, respectively.
The Company established, effective January 1, 1997, a Deferred Compensation
Plan, which allows certain key employees to defer up to a maximum of 90% of
their base annual salary and/or up to 90% of their annual bonus on a pretax
basis. The total participant deferrals were $231,000 for the year ended January
31, 1998.
In 1996, the Company created a Rabbi Trust to hold assets related to the VIP
Retirement Plan, the Dual Option Life Insurance Plan and the Deferred
Compensation Plan. Substantially all assets funding these Plans are held in the
Rabbi Trust.
6. STOCK OPTIONS AND STOCKHOLDERS RIGHTS
The Company's two stock plans are the 1997 Employee Incentive Plan (the "1997
Plan") and the 1993 Employee Incentive Stock Plan (the "1993" Plan). Under these
stock plans, the Company may grant an aggregate of 500,000 shares (889,230
shares as adjusted for the stock split and stock dividends) to its employees in
the form of stock options. Non-employee directors automatically receive a grant
for options to purchase 500 shares of common stock on the first business day
following each annual meeting of the Company's stockholders. As of January 31,
1998, 357,549 shares remain available for future grant.
Options granted under the plans have an exercise price equal to the market price
at the date of grant, have a maximum term of 10 years and generally become
exercisable ratably over a five-year period.
On October 15, 1996, the Board of Directors granted 75,250 (112,875 shares as
adjusted for the stock split) options to 34 management employees, contingent
upon attaining certain profit levels for the fiscal year ended January 31, 1997.
On March 12, 1997 (measurement date), it was determined that the required profit
level was met and the options were awarded to the employees. These options
vested and became exercisable on the measurement date. On October 1, 1997, the
Board of Directors granted 93,500 stock options to 80 management employees.
These options become fully exercisable 50% on January 31, 1998 and 50% on
January 31, 1999.
Pro forma information regarding net income and earnings per share is required by
SFAS No. 123, and has been determined as if the Company had accounted for its
employee stock options under the fair value method of SFAS No. 123. The fair
value for these options was estimated at the date of grant using a Black-Scholes
option pricing model with the following ranges of weighted-average assumptions:
risk-free interest rates of 5.00% to 6.26%; dividend yields of 0.41% to 0.98%;
volatility factors of the expected market price of the Company's common stock of
0.264 to 0.325; and a weighted-average expected life of the option of five
years.
31
22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. Given this method of
amortization, the initial impact of applying SFAS No. 123 on pro forma net
income and pro forma net income per share is not representative of the potential
impact on pro forma amounts in future years, when the effect of the amortization
from multiple awards would be reflected. The Company's pro forma information
follows (in thousands except for net income per share information):
Year ended January 31
1998 1997 1996
- ------------------------------------------------------------------------------------
Pro forma net income $ 13,549 $ 9,316 $ 5,208
Pro forma net income per share - assuming dilution $ 1.48 $ 1.03 $ .58
A summary of the Company's stock option activity, and related information for
the years ended January 31 follows:
1998 1997 1996
------------------------------------------------------------------------------------
Weighted- Weighted- Weighted-
Average Average Average
Options Exercise Options Exercise Options Exercise
(000's) Price (000's) Price (000's) Price
- -------------------------------------------------------------------------------------------------------------------------------
Outstanding at beginning of year 322,307 $ 4.59 251,507 $ 3.05 247,877 $ 3.03
Granted 209,375 16.59 70,800 10.06 3,630 4.68
Exercised (24,350) 6.80 -- -- -- --
Forfeited -- -- -- -- -- --
------- ------- --------
Outstanding at end of year 507,332 9.44 322,307 4.59 251,507 3.05
======= ======= ========
Exercisable at end of year 350,909 8.20 148,853 3.03 98,552 3.01
Weighted-average fair value of
options granted during the year $ 5.92 $ 3.47 $ 1.82
The data included in the above table has been retroactively adjusted, if
applicable, for the stock split and stock dividends.
Exercise prices for options outstanding as of January 31, 1998 ranged from $3.02
to $24.25. The weighted-average remaining contractual life of those options is
five years.
On October 15, 1996, the Board of Directors declared a dividend of one preferred
stock purchase right (a Right) for each outstanding share of the Company's
common stock. Each Right entitles a stockholder to purchase for an exercise
price of $50.00 ($33.33 as adjusted for the stock split), subject to adjustment,
one one-hundredth of a share of Series A Junior Participating Cumulative
Preferred Stock of the Company, or under certain circumstances, shares of common
stock of the Company or a successor company with a market value equal to two
times the exercise price. The Rights are not exercisable, and would only become
exercisable for all other persons when any person has acquired or commences to
acquire a beneficial interest of at least 20% of the Company's outstanding
common stock. The Rights expire on October 25, 2006, have no voting privileges,
and may be redeemed by the Board of Directors at a price of $.001 per Right at
any time prior to the acquisition of a beneficial ownership of 20% of the
outstanding common shares. There are 200,000 shares (300,000 shares as adjusted
by the stock split) of Series A Junior Participating Cumulative Preferred Stock
reserved for issuance upon exercise of the Rights.
32
23
7. PROVISION FOR INCOME TAXES
The Company utilizes the liability method to determine the provision for income
taxes. Deferred tax assets and liabilities are determined based on differences
between the financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
differences are expected to reverse.
The provisions for the last three years are reconciled to the statutory federal
income tax rate using the liability method as follows:
January 31
1998 1997 1996
- -------------------------------------------------------------------------
Statutory 35.0% 34.0% 34.0%
State taxes (net of federal tax) 2.9 2.4 1.5
Nondeductible expenses .8 1.6 2.5
------------------------------
38.7% 38.0% 38.0%
==============================
Significant components of the provision for income taxes (in thousands) are as
follows:
January 31
1998 1997 1996
- --------------------------------------------------------------------------------
Current:
Federal $7,336 $4,910 $2,121
State 1,191 741 288
--------------------------------------------
8,527 5,651 2,409
Deferred:
Federal 222 66 694
State 3 12 101
--------------------------------------------
225 77 795
--------------------------------------------
$8,752 $5,728 $3,204
============================================
Significant components of the provision for income taxes (in thousands) are as
follows:
January 31
1998 1997
- --------------------------------------------------------------------------------
Deferred tax assets:
Allowance for doubtful accounts $ 41 $ 40
Accrued vacation and sick leave 630 613
Retirement plans 1,656 1,430
Insurance reserves 418 419
Inventory 204 407
-------------------------
2,949 2,909
Deferred tax liabilities:
Tax in excess of book depreciation 2,929 2,569
Other 25 120
-------------------------
2,954 2,689
-------------------------
Net deferred tax (liability) asset $ (5) $ 220
=========================
33
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. COMMITMENTS
The Company has long-term leases on real property and equipment which expire at
various dates. Certain of the leases contain renewal and purchase options and
require payment for property taxes and insurance.
Minimum future lease payments (in thousands) for operating leases in effect as
of January 31, 1998 are as follows:
Year ending January 31
- --------------------------------------------------------------------------------
1999 $ 7,329
2000 5,563
2001 4,993
2002 4,195
2003 3,924
Thereafter 6,116
-------
$32,120
=======
Rent expense relating to operating leases was as follows (in thousands):
Year ending January 31
- --------------------------------------------------------------------------------
1998 $ 8,255
1997 7,849
1996 7,545
The Company leases machinery and equipment from GECC under a ten year true tax
lease arrangement. Total amount of machinery and equipment leased for 1997, 1996
and 1995 was $1,090,000, $60,000 and $2,200,000, respectively. The Company has
the option of buying out the leases three years into the lease period.
Minimum future lease receipts (in thousands) for leases relating to properties
owned or subleased as of January 31, 1998, are as follows:
Year ending January 31
- --------------------------------------------------------------------------------
1999 $ 1,167
2000 1,126
2001 378
2002 378
2003 378
Thereafter 2,930
-------
$ 6,357
=======
9. CONTINGENCIES
The Company and other furniture manufacturers are subject to federal, state and
local laws and regulations relating to the discharge of materials into the
environment and the generation, handling, storage, transportation and disposal
of waste and hazardous materials. The Company has expended, and may be expected
to expend, significant amounts for the investigation of environmental
conditions, installation of environmental control equipment and remediation of
environmental contamination.
In connection with its plans to dispose of certain real estate, the Company must
investigate environmental conditions, and may be required to take certain
corrective action prior or pursuant to any such disposition. At January 31, 1998
and 1997, there are no required reserves for environmental contingencies and the
Company does not expect the cost of any such corrective action to have a
significant effect on the Company's financial position, results of operations,
or upon the net realizable value of assets. The Company carries no insurance for
environmental liabilities. The Company has not incurred any material costs for
any corrective actions in 1997, 1996 and 1995.
34
25
The Company has a self-insured retention for product and general liability
losses up to $100,000 per occurrence. The Company has purchased insurance to
cover losses in excess of $100,000 up to a limit of $30,000,000. The Company has
obtained an actuarial estimate of, and recorded the net present value of its
total expected future losses for liability claims ($2.2 million before discount,
$1.7 million after discount at January 31, 1998), based upon the Company's
estimated payout period of four years using a 10% discount rate.
Workers' compensation, automobile, general and product liability claims may be
asserted in the future for events not currently known by management. Management
does not anticipate that any related settlement, after consideration of the
existing reserve for claims incurred and potential insurance recovery, would
have a material adverse effect on the Company's financial position, results of
operations or cash flows.
The Company and its subsidiaries are defendants in various legal proceedings
resulting from operations in the normal course of business. It is the opinion of
management that the ultimate outcome of all such matters will not materially
affect the Company's financial position, results of operations or cash flows.
The Company has received a $621,000 claim from the General Services
Administration regarding price reductions relating to $6,400,000 of sales made
during the period August 1984 through June 1987. The Company has established a
reserve to cover any ultimate liability under this claim. It is the opinion of
management that the ultimate payment, if any, under this claim will not
materially affect the Company's financial position, results of operations or
cash flows.
10. FOREIGN OPERATION
In May 1997, the Company decided to shut down its Mexico manufacturing facility.
Subsequently, the Company sold a majority of the assets of the Mexican facility
on October 8, 1997. The facility ceased operations on October 20, 1997. Total
revenues of this operation, consisting primarily of transfers between geographic
areas of the Company, were $5,389,000, $11,735,000 and $30,042,000 for the years
ended January 31, 1998, 1997 and 1996, respectively. The production requirements
from this facility were transferred to the Torrance, CA, and Conway, AR,
manufacturing plants. As of January 31, 1998, all 550 employees were terminated.
The Company incurred $2,970,000 in connection with the shutdown of the facility.
The primary component of this amount is related to severance benefits paid to
the employees in accordance with Mexican law.
11. ASSETS HELD FOR SALE
A manufacturing facility in North Carolina which is being used to warehouse
finished goods is currently held for sale. The net book value of this property
was $1,087,000 and $1,174,000 at January 31, 1998 and 1997, respectively, and is
classified as a non current asset in the consolidated balance sheets. Subsequent
to January 31, 1998, the Company has reached an agreement to dispose of its
North Carolina facility subject to certain terms and contingencies. The overall
terms would have no material impact on the Company's earnings for 1998 or
beyond.
12. QUARTERLY RESULTS (UNAUDITED)
The Company's quarterly results for the years ended January 31, 1998 and 1997
are summarized as follows (in thousands, except per share data):
First Second Third Fourth
Quarter Quarter Quarter Quarter
- -----------------------------------------------------------------------------------------------
Year ended January 31, 1998:
Net sales $ 40,958 $ 83,809 $ 87,239 $ 46,188
Gross profit 13,201 26,992 28,433 14,705
Net income 499 4,228 6,765 2,360
Net income per share .06 .46 .74 .26
Year ended January 31, 1997:
Net sales $ 36,745 $ 72,538 $ 79,834 $ 47,160
Gross profit 9,379 21,106 25,032 14,467
Net income (loss) (1,439) 3,348 5,097 2,320
Net income (loss) per share (.16) .37 .57 .26
Net income (loss) per share has been adjusted to reflect a 3 for 2 stock split
declared in August 1997 and 10% stock dividends declared in August 1996.
35