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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ____________ TO ____________ .
COMMISSION FILE NO. 0-22446
DECKERS OUTDOOR CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-3015862
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
495-A SOUTH FAIRVIEW AVENUE, GOLETA, CALIFORNIA 93117
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (805) 967-7611
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
NONE NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, $.01 PAR VALUE
(TITLE OF CLASS)
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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (sec.229.405 of this chapter) is not contained herein, and
will not be contained to the best of registrant's knowledge, in definitive proxy
or information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K. [ ]
Aggregate market value of the Common Stock of the registrant held by
nonaffiliates of the registrant on February 26, 1999 based on the closing price
of the Common Stock on the NASDAQ National Market System on such date was
$12,366,053.
The number of shares of the registrant's Common Stock outstanding at
February 26, 1999 was 8,522,679.
Portions of registrant's definitive proxy statement relating to
registrant's 1999 annual meeting of shareholders, which will be filed pursuant
to Regulation 14A within 120 days after the end of registrant's fiscal year
ended December 31, 1998, are incorporated by reference in Part III of this Form
10-K.
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DECKERS OUTDOOR CORPORATION
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
INDEX TO ANNUAL REPORT ON FORM 10-K
CAPTION PAGE
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PART I
Item 1. Business.................................................... 1
Item 2. Properties.................................................. 17
Item 3. Legal Proceedings........................................... 17
Item 4. Submission of Matters to a Vote of Security Holders......... 17
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters......................................... 18
Item 6. Selected Financial Data..................................... 19
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 20
Item 7A. Quantitative and Qualitative Disclosures about Market
Risk........................................................ 27
Item 8. Financial Statements and Supplementary Data................. 27
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................... 27
PART III
Item 10. Directors and Executive Officers of the Registrant.......... 49
Item 11. Executive Compensation...................................... 49
Item 12. Security Ownership of Certain Beneficial Owners and
Management.................................................. 49
Item 13. Security Relationships and Related Transactions............. 49
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K......................................................... 49
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PART I
ITEM 1. BUSINESS
GENERAL
The Company designs and markets innovative, function-oriented footwear and
apparel that have been developed for high-performance outdoor, sports and other
lifestyle related activities, as well as for casual use. Currently, the Company
offers four primary product lines under the following recognized brand names:
Teva(R) -- high-performance sports sandals with a unique, patented strapping
system, as well as casual footwear for everyday use and a line of casual
apparel; Simple(R) -- innovative shoes that combine the comfort elements of
athletic footwear with casual styling; Ugg(R) -- authentic sheepskin boots and
other footwear; and Picante(R) -- casual, hand-woven apparel for men and women.
Teva is a registered trademark of Mark Thatcher, the inventor and licensor of
Teva Sport Sandals. Simple, Ugg and Picante are registered trademarks of the
Company and its subsidiaries. All of the Company's footwear and apparel possess
the common features of high quality with a primary focus on functionality and
comfort. In 1998, the Company sold approximately 3,941,000 pairs of footwear.
Revenues from sales (domestic and international) of Teva products have been
$67,916,000, $61,863,000 and $43,898,000 during 1998, 1997 and 1996,
representing 66.5%, 58.0% and 43.1% of net sales, respectively. For financial
information regarding the Company's industry segments, see note 12 to the
accompanying consolidated financial statements.
MARKET OVERVIEW
The casual, outdoor and athletic footwear market is comprised of footwear
worn for casual everyday use and for outdoor and athletic activities such as
hiking, boating, basketball, tennis, fitness and jogging. The market for such
footwear has grown significantly during the last decade, and even more recently
there appears to be a shift from traditional athletic footwear toward more
casual and outdoor footwear. This shift has occurred as consumers have accepted
the more understated look in contrast to the traditional athletic shoes that had
gained popularity in previous years. The Company believes that the principal
reasons for the growth in sales of such footwear have been the growing
acceptance of casual wear including the increasing casualization of the
workplace, increasingly active consumer lifestyles, as well as the aging
demographics and the related growing emphasis on comfort.
A recent development in the overall footwear market has been the
significant growth of the outdoor segment as well as the growing emphasis on
comfort. Outdoor footwear includes shoes, boots and sandals for outdoor
recreational activities such as hiking, river rafting, camping and casual wear.
Companies engaged in the outdoor footwear market include Nike, Adidas,
Timberland, Merrell, Wolverine and Hi-Tec U.S.A. The Company believes that the
growth in outdoor footwear is driven by several factors including a general
shift in consumer preferences and lifestyles to include more outdoor, sports and
recreational activities such as hiking and camping. As consumers engage in
outdoor activities, they typically desire footwear specifically designed for
these purposes, yet demand the same level of quality and high performance that
they have come to expect from traditional athletic footwear. In addition, with
the aging demographics, more consumers are turning to an emphasis on casual and
comfortable footwear and apparel. The Company believes that its products have
benefited from this growing trend and that its footwear addresses consumers'
demands for highly functional footwear that is durable as well as comfortable
and fashionable.
The casual, outdoor and athletic footwear markets are generally
characterized by a high level of recognition of brand names, logos and
trademarks. Unique and identifying features create brand awareness among
consumers and allow a favorable reputation to be transferred to new products.
The manufacture of casual, outdoor and athletic footwear is typically conducted
overseas through independent manufacturers. Casual and athletic footwear is
distributed through athletic footwear stores, department stores and specialty
retailers. Outdoor footwear is generally distributed through these channels as
well but is to a large extent distributed through outdoor specialty retailers.
Retailers may purchase footwear on a "futures" basis (orders placed in advance
of a season) or an "at once" basis (orders placed and filled immediately).
Futures orders allow the Company to more accurately predict its manufacturing
and sourcing needs. By placing futures
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orders, retailers are also able to reduce the risk that the Company will be
unable to meet the retailer's delivery requirements. Retailers are generally
encouraged to purchase goods on a futures basis by receiving discounts or
special payment terms not otherwise available.
RISK FACTORS
This Annual Report on Form 10-K contains a variety of forward-looking
statements within the meaning of the Private Securities Litigation Reform Act of
1995 including forward-looking statements in this "Risk Factors" section, the
"Outlook" section, the last paragraph under "Liquidity and Capital Resources",
the discussion under "Seasonality" and other statements in this Annual Report.
These forward-looking statements relate to sales and operating expense
expectations, the potential imposition of certain customs duties, the potential
impact of the Teva license expiration, the potential impact of certain
litigation, the potential impact of the Year 2000 issue on the Company and the
impact of seasonality on the Company's operations. These forward-looking
statements involve known and unknown risks, uncertainties and other factors
which may cause the actual results, performance or achievement of the Company,
or industry results, to differ materially from any future results, performance
or achievements expressed or implied by such forward-looking statements. The
factors listed below represent certain important factors the Company believes
could cause such results to differ. These factors are not intended to represent
a complete list of the general or specific risks that may affect the Company. It
should be recognized that other risks may be significant, presently or in the
future, and the risks set forth below may affect the Company to a greater extent
than indicated.
TEVA LICENSE AGREEMENTS
The Company manufactures and sells its Teva sport sandals and clothing line
pursuant to two exclusive licensing agreements with Mark Thatcher, the inventor
of the Teva sport sandal and owner of the Teva patents and trademark. One
license agreement applies to the United States, Canada and the Caribbean, and
the other covers certain countries in Europe and Asia. The current term of each
such licensing agreement continues through August 2001. Mr. Thatcher may
terminate the licensing agreement if specific minimum annual sales targets
(which levels are substantially below the Company's sales during the past
several years) are not met, if the Company breaches its obligations under the
agreements or upon the occurrence of certain other circumstances. Sales of Teva
footwear and apparel accounted for approximately 66.5%, 58.0% and 43.1% of the
Company's net sales for fiscal years 1998, 1997 and 1996, respectively. The
termination of the licenses would have a material adverse effect on the
Company's results of operations.
As announced in November 1998, Mr. Thatcher has engaged a financial advisor
to explore various strategic options for the Teva brand. The Company is in
continuing negotiations with Mr. Thatcher, pursuing various options including a
renewal of the existing license. The Company is hopeful that it will be able to
successfully negotiate a favorable arrangement with Mr. Thatcher. However, there
can be no assurances that such arrangements can be secured. In the event that
the Company does not come to a favorable arrangement with Mr. Thatcher, the
Company will not be able to sell Teva products beyond August 31, 2001, which
would result in a material adverse impact on the Company's results of
operations, financial condition and cash flows.
BRANDS STRENGTH; CHANGES IN FASHION TRENDS
The Company's success is largely dependent on the continued strength of the
Teva, Simple and Ugg brands (collectively, "Deckers Brands") and on its ability
to anticipate the rapidly changing fashion tastes of its customers and to
provide merchandise that appeals to their preferences in a timely manner. There
can be no assurance that consumers will continue to prefer the Deckers Brands or
that the Company will respond in a timely manner to changes in consumer
preferences or that the Company will successfully introduce new
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models and styles of footwear and apparel. Achieving market acceptance for new
products will also likely require substantial marketing and product development
efforts and the expenditure of significant funds to create consumer demand.
Decisions with respect to product designs often need to be made many months in
advance of the time when consumer acceptance can be determined. As a result, the
Company's failure to anticipate, identify or react appropriately to changes in
styles and features could lead to, among other things, excess inventories and
higher markdowns and lower gross margins due to the necessity of providing
discounts to retailers. Conversely, failure by the Company to anticipate
consumer demand could result in inventory shortages, which can adversely affect
the timing of shipments to customers, negatively impacting retailer and
distributor relationships and diminishing brand loyalty. The failure to
introduce new products that gain market acceptance would have a material adverse
effect on the Company's business, financial condition and results of operations,
and could adversely affect the image of the Deckers Brands.
INVENTORY RISK
The footwear industry has relatively long lead times for design and
production of product and, thus, the Company must commit to production tooling
and to production in advance of orders. If the Company fails to accurately
forecast consumer demand or if there are changes in consumer preference or
market demand after the Company has made such production commitments, the
Company may encounter difficulty in filling customer orders or in liquidating
excess inventory, which may have an adverse effect on the Company's sales,
margins and brand image.
QUALITY AND PERFORMANCE
In response to consumer demand, the Company also uses certain specialized
fabrics and materials in its footwear and apparel. The failure of footwear or
apparel using such fabrics and materials to perform to customer satisfaction
could result in a higher rate of customer returns and could adversely affect the
image of the Deckers Brands, which could have a material adverse effect on the
Company's business, financial condition and results of operations.
ECONOMIC CYCLICALITY AND FOOTWEAR RETAILING
The footwear industry historically has been subject to cyclical variation,
with purchases of footwear tending to decline during recessionary periods. This
cyclicality could adversely affect the Company's business. In addition, various
retailers, including some of the Company's customers, have experienced financial
difficulties during the past several years, thereby increasing the risk that
such retailers may not pay for the Company's products in a timely manner. No
assurance can be given that the Company's bad debt expense will not increase
relative to net sales in the future. Any significant increase in the Company's
bad debt expense relative to net sales would adversely impact the Company's net
income and cash flow, and could affect the Company's ability to pay its
obligations as they become due.
DEPENDENCE ON FOREIGN MANUFACTURERS
Virtually all of the Deckers footwear products are manufactured by third
party suppliers in the Far East, Costa Rica, Australia and New Zealand, with the
vast majority of production occurring in China. There can be no assurance that
the Company will not experience difficulties with such manufacturers, including
reduction in the availability of production capacity, errors in complying with
product specifications, inability to obtain sufficient raw materials,
insufficient quality control, failure to meet production and delivery deadlines
or increases in manufacturing costs. In addition, if the Company's relationship
with any of its manufacturers were to be interrupted or terminated, alternative
manufacturing sources will have to be located. The establishment of new
manufacturing relationships involves numerous uncertainties, and there can be no
assurance that the Company would be able to obtain alternative manufacturing
sources on terms satisfactory to it. Should a change in its suppliers become
necessary, the Company would likely experience increased costs, as well as
substantial disruption and a resulting loss of sales.
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Foreign manufacturing is subject to a number of risks, including work
stoppage, transportation delays and interruptions, political instability,
foreign currency fluctuations, changing economic conditions, expropriation,
nationalization, imposition of tariffs, import and export controls and other
non-tariff barriers (including quotas) and restrictions on the transfer of
funds, environmental regulation and other changes in governmental policies. The
Company may also experience general risks associated with managing operations
effectively and efficiently from a far distance and understanding and complying
with local laws, regulations and customs. There can be no assurance that such
factors will not materially adversely affect the Company's business, financial
conditions and result of operations.
Products manufactured overseas and imported into the United States and
other countries are subject to duties collected by the Customs Service in the
applicable country. Customs information submitted by the Company is subject to
review by the Customs Service. The Company is unable to predict whether
additional customs duties, quotas or restrictions may be imposed on the
importation of its products in the future. The enactment of any such duties,
quotas or restrictions could result in increases in the cost of such products
generally and might adversely affect the sales or profitability of the Company.
The European Commission has enacted anti-dumping duties of 49.2% on certain
types of footwear imported into Europe from China and Indonesia. Dutch Customs
has issued an opinion to the Company that certain popular Teva styles are
covered by this anti-dumping duty legislation. The Company does not believe that
these styles are covered by the legislation and is working with Dutch Customs to
resolve the situation. In the event that Dutch Customs makes a final
determination that such styles are covered by the anti-dumping provisions, the
Company expects that it would have an exposure to prior anti-dumping duties for
1997 of approximately $500,000. In addition, if Dutch Customs determines that
these styles are covered by the legislation, the duty amounts could cause such
products to be too costly to import into Europe from China in the future. As a
result, the Company could have to cease shipping such styles from China into
Europe in the future or could have to begin to source these styles from
countries not covered by the legislation. As a precautionary measure, the
Company has obtained alternative sourcing for the majority of the potentially
impacted products from sources outside of China in an effort to reduce the
potential risk in the future. See "Risks of Foreign Operations/Restrictions on
Imports."
COMPETITION AND INFRINGING PRODUCTS
The outdoor and footwear industries are both highly competitive, and the
recent growth in the markets for sports sandals and casual footwear has
encouraged the entry of many new competitors as well as increased competition
from established companies. Many of the Company's competitors have substantially
greater financial, distribution and marketing resources, as well as greater
brand awareness in the footwear market, than the Company. In addition, the
general availability of offshore manufacturing capacity allows rapid expansion
by competitors and new market entrants. The Company believes that it has been
able to compete successfully because of the brand recognition, quality and
selective distribution of its products. From time to time, the Company also
discovers products in the marketplace that infringe upon patent and trademark
rights held by or licensed to the Company. Under the Company's licensing
arrangements with the licensor of the Teva products, Mark Thatcher, Mr. Thatcher
initially may bring proceedings to halt infringement of the Teva patents and
trademark. If Mr. Thatcher elects not to bring such proceedings within one year
after discovery, the Company may initiate such proceedings. To date, Mr.
Thatcher has vigorously pursued infringements following discovery. To the extent
permitted in its agreement with Mr. Thatcher, the Company will vigorously pursue
infringements in the event Mr. Thatcher elects not to do so. However, if Mr.
Thatcher or the Company is unsuccessful in challenging a third party's products
on the basis of patent and trademark infringement, continued sales of such
products by that or any other third party could adversely impact the Company's
business, financial condition and results of operations. See
"Business -- Competition" and "Business -- Legal Proceedings."
DEPENDENCE ON KEY PERSONNEL
The Company's continued success will depend upon its ability to retain
Douglas B. Otto, its Chairman of the Board, Chief Executive Officer and
President, and a core group of key executive officers and employees.
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Mr. Otto has an employment agreement with the Company through 2001. Mr. Otto's
agreement prohibits him from competing with the Company for one year following
termination. However, none of the other executive officers is subject to
agreements that restrict his or her ability to compete with the Company
following termination of employment. The Company believes that its future
success will depend in large part on its ability to attract and retain highly
skilled personnel. Competition for such personnel is intense, and there can be
no assurance that the Company will be successful in attracting and retaining
such personnel. The loss of certain key employees or the Company's inability to
attract and retain other qualified employees could have an adverse impact on the
Company's business.
INTELLECTUAL PROPERTY
The Company believes that its trademarks, technologies and designs are of
great value. From time to time, the Company has been, and may in the future be,
the subject of litigation challenging its ownership of certain intellectual
property. Loss of the Company's Simple or Ugg trademark rights or the ability to
use the licensed Teva trademarks could have a serious impact on the Company's
business. Because of the importance of such intellectual property rights, the
Company's business is subject to the risk of counterfeiting, parallel trade or
intellectual property infringement.
ECONOMIC FACTORS
The Company's business is subject to economic conditions in the Company's
major markets, including, without limitation, recession, inflation, general
weakness in retail markets and changes in consumer purchasing power and
preferences. Adverse changes in such economic factors could have a negative
effect on the Company's business.
TAX RATE CHANGES
If the Company was to encounter significant tax rate changes in the major
markets in which its operates, it could have an adverse effect on its business.
SUBSTANTIAL OWNERSHIP OF THE COMPANY
At December 31, 1998, Douglas B. Otto and all executive officers and
directors of the Company, as a group, owned approximately 43.7% and 49.5%,
respectively of the outstanding shares of the Company's Common Stock. Due to
such ownership position, Mr. Otto, whether acting alone or together with one or
more of the other executive officers of the Company, would likely be able to
control the affairs and policies of the Company and would likely be able to
elect a sufficient number of directors to control the Company's Board of
Directors and to approve or disapprove any matter submitted to a vote of the
stockholders. The ownership positions of Mr. Otto and of the executive officers
of the Company, as a group, together with the anti-takeover effects of certain
provisions in the Delaware General Corporation Law (the "DGCL"), in the
Company's Certificate of Incorporation and Bylaws, and in the Company's
shareholder rights plan would likely have the effect of delaying, deferring or
preventing a change in control of the Company. Such factors could have a
negative effect on the market price of the Company's Common Stock.
BUSINESS STRATEGY
Management's business strategy is to offer diverse lines of footwear and
apparel that emphasize functionality, quality, comfort and technical performance
tailored to a variety of activities and demographic groups. Specifically, the
Company's business strategy emphasizes the following elements:
Acquire or Develop New Brands. The Company intends to continue to focus
on identifying and building brands for growth. The Company has been successful
in taking the concepts of entrepreneurs for innovative, fashionable footwear
targeted at niche markets and building the products into viable brands. The
Company intends to continue to identify concepts for potential future niche
products which have the potential of developing into successful brands or
product lines.
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Introduce New Products under Existing Brands. The Company intends to
leverage consumer recognition of its existing brands by developing and
introducing additional innovative footwear products that satisfy the Company's
standards of practicality, comfort and quality. The Company believes the
introduction of additional products, such as the variety of new models in its
Teva, Simple and Ugg lines which are offered in the Company's 1999 product
offerings, have broadened the Company's customer base, further diversified the
Company's product lines, and helped reduce the effects of seasonality on the
Company's sales. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Seasonality." Relying on the public
awareness and demand for the Teva name, the Company has expanded this brand into
the casual footwear market, with increased offerings of leather and other casual
footwear in recent years. The 1999 Teva line includes many new upper
constructions and outsole designs. Additions to the Teva line for 1999 include a
Bluewater Series of technical deck sandals designed specifically for boating
enthusiasts, several styles of closed amphibious footwear for use in and out of
the water and a range of styles of closed leather casual footwear for women,
among many others. In addition, in 1997, the Company further leveraged the Teva
brand, introducing a line of casual apparel under the Teva brand name. As part
of the Company's strategy for the Simple brand, the 1999 product line has an
increased focus on leather casuals and sandals, in addition to a variety of
sneakers and clogs. In 1999, the Company expects its Ugg product line to be
expanded beyond its heritage boots and slippers by adding a variety of new, more
streetwise products including clogs, driving moccasins and apres ski boots, as
well as more weather-resistant boots with water resistant leathers.
Exercise Selective Distribution. The Company has exercised a policy of
selective distribution of its product offerings. The Company has implemented
this strategy by generally limiting its distribution to those retailers who
market products that are consistent with the Company's standards and that
provide a high level of customer service and expertise. This distribution
network includes outdoor retailers, athletic footwear stores, specialty
retailers and upscale department stores. The Company may review or modify its
distribution for Teva in the event it is not able to obtain a favorable
arrangement with respect to Teva beyond the expiration of the existing Teva
licenses. The Company maintains its retailer relationships through an emphasis
on customer service and support. The Company and its independent sales
representatives and technical representatives also provide in-store, technical
training and support, and offer distinctive point-of-purchase displays and other
promotional materials.
Pursue Additional Market Opportunities. Management intends to continue to
explore new markets for its existing line of products. The Company continues to
pursue expansion in international markets. For the years ended December 31,
1998, 1997 and 1996 international net sales totaled $24,194,000, $26,704,000 and
$24,061,000, representing 23.7%, 25.0% and 23.6% of net sales, respectively.
Management believes that significant opportunities exist to market its products
abroad, especially in Europe, and intends to selectively expand its distribution
worldwide. To bolster these efforts, in 1997 the Company opened a European
office, managed by the Company's senior sales executive, to service the
international markets and formed Deckers Japan, a subsidiary to concentrate on
the Japanese market. The Company also has the exclusive distribution rights for
Teva sports sandals in certain countries in Europe, including France, Germany
and the United Kingdom, as well as in Asia and the Caribbean. As a precautionary
measure in response to the European Commission's 1997 enactment of anti-dumping
duty provisions on certain types of footwear produced in China, the Company has
obtained alternative sourcing for the majority of the potentially impacted
products from suppliers outside of China in an effort to reduce the risk of
anti-dumping duties in the future. See "Risks of Foreign Operations/Restrictions
on Imports".
PRODUCTS
The Company currently offers four principal product lines: (1) Teva sports
sandals and apparel; (2) Simple casual footwear; (3) Ugg sheepskin footwear; and
(4) Picante casual apparel. Each of these lines, as well as individual models
within these lines, is designed to appeal to various demographic groups. The
Company's footwear products emphasize function, comfort and technical
performance, and are suitable for a variety of demanding outdoor and athletic
activities, as well as casual and everyday use. The Company's products are
designed and marketed to promote a high level of brand name recognition and
consumer appeal by combining functional and creative designs with quality
materials and construction. The Teva footwear and
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apparel lines and the Simple footwear line are generally previewed twice per
year, once in the summer for deliveries that commence in the fall and once in
the winter for the following back to school and fall season. The Ugg line of
sheepskin footwear is generally previewed in the winter with most deliveries
occurring in the following fall and winter. The Picante line of casual apparel
has been less seasonal than the Company's footwear lines and is previewed
year-round. The following sets forth a summary description of each of the
Company's primary product lines along with the Company's domestic suggested
retail price for adult models.
Teva Sports Sandals and Apparel. The Teva sport sandal is one of the
first sport sandals to be developed and is popular among outdoor enthusiasts and
the general public. The Company licenses the Teva patents and trademark from
Mark Thatcher, a professional river guide who invented the Teva sport sandal.
The terms of such licenses run through August 31, 2001. Certain styles of the
Teva sport sandal incorporate a proprietary strapping configuration ideally
suited for outdoor activities such as hiking, boating and river rafting. This
strapping system consists of high-quality nylon webbing or leather, is fully
adjustable, and holds the foot firmly to the sandal's durable, cellular rubber,
molded EVA, polyurethane or leather footbed. Teva sports sandals are extremely
durable and many of the styles are water resistant. The Spring 1999 line
includes 58 different models designed for a variety of uses. The Wilderness
Series, a category of sandals built for high performance and rugged outdoor use,
includes 14 models of men's and women's sandals. The Utility Series includes 21
styles, combining elements of sport performance with casual everyday comfort.
This series includes a variety of sandals, slides and thongs, as well as the
newly introduced XPDition collection of sandals with new patterned uppers of
performance air-mesh, water-resistant suede, nylon webbing and Dri-Tec linings.
The Circuit, a woman's walking sandal, was designed to deliver performance,
stability and comfort for moderate and brisk fitness walking. The Circuit, which
was introduced in the fall of 1998, is offered in both a nylon and a leather
version. Continuing on the success of recent years, the Spring 1999 line
includes 17 styles of men's and women's leather casuals, including an updated
version of the City Sport collection of women's casual sandals. The Spring 1999
Children's category has been expanded to include six different styles of nylon
and leather sandals. The domestic manufacturer's suggested retail prices for
adult sizes of Teva footwear products range from $19.95 to $79.95.
Teva Apparel and Accessories is a natural extension of the Company's sport
sandal business. The Spring 1999 line is comprised of two very distinctive
collections, the "Wilderness Collection" and the "Utility Collection." Each
collection reflects the same product philosophy, design and functional features
of the corresponding Teva sport sandal categories, and satisfies a broad range
of technical and lifestyle product requirements of the target customer. The line
includes men's and women's shirts, shorts, pants and jackets, among other
apparel and accessory items. Consistent with Teva sports sandals, Teva apparel
is made of high quality, durable fabrics and is designed for outdoor activities
as well as for casual everyday use. The domestic manufacturer's suggested retail
prices range from $12.00 to $96.00.
Simple Casual Footwear. The Simple line consists of casual shoes that
combine the comfort and function of athletic footwear construction with the
simple, understated styling of "back-to-basics," casual lifestyle footwear. The
Simple line is designed to appeal to men and women between the ages of 20-35 and
others who are looking for comfortable, fashionable, basic shoes. The Fall 1999
line includes an emphasis on men's and women's leather casuals, as well as a
variety of sneakers, clogs and sandals. For Fall 1999, Simple is offering 39
models. The variety of styles offered in the Fall 1999 line reflects the
Company's strategy to focus the Simple brand toward men's and women's leather
casuals, while reducing the number of styles offered in the highly competitive
sneaker market. In addition, the Simple Fall 1999 line no longer offers styles
specifically for the children's market due to the high competition and low
margins previously experienced in this area. The domestic manufacturer's
suggested retail prices for adult sizes for the Fall 1999 line range from $40.00
to $90.00.
Ugg Sheepskin Footwear. Ugg is a line of authentic sheepskin footwear,
popularized in Australia in the 1960's and 1970's. These sheepskin boots,
slippers and other footwear styles have high-grade fleece linings which act as a
natural insulator, keeping feet warm and comfortable. The 1999 Ugg line offers a
range of 28 models of casual, fashionable and streetwise styles of sheepskin
footwear in various colors, including several new styles of shoes and boots for
men and women. The 1999 line includes several styles with new innovative
fashionable uppers and several styles with water resistant leather treatments to
address more inclement
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weather conditions. The 1999 line also includes a new "Street Collection" with
products designed for more fashionable and functional everyday use in both warm
and cold climates. This collection includes a variety of boots, clogs and
driving moccasins. The domestic manufacturer's suggested retail prices for adult
sizes for the Ugg line range from $65.00 to $250.00.
Picante Casual Apparel. Picante casual apparel is a line of imported
hand-woven long and short sleeve cotton camp shirts and other casual apparel for
men and women, which are sold through many of the same retail channels as the
Teva and Simple lines. Picante clothing is designed using classic silhouettes
and colorations that are expected to appeal to the same demographic groups as
the Company's footwear lines. The unique fabrication and the quality workmanship
are consistent with the high standards associated with the Company's other
products and are complementary to those products. The domestic manufacturer's
suggested retail prices for this line of apparel range from $20.00 to $120.00.
MARKETING AND DISTRIBUTION
The Company's products are distributed throughout North America by a
network of approximately 51 independent sales representatives, organized
geographically, who make sales, visit retail stores to train personnel and
review sales of the Company's footwear on a periodic basis. The Company's
Vice-Presidents of sales manage this network of representatives, recruit
experienced sales representatives in the industry and coordinate sales to
national accounts. The Company currently sells its products internationally,
through a combination of independent distributors and independent sales
representatives. The Company's goal is to promote retail sales of the Company's
products at attractive profit margins for its customers through selective
distribution and marketing, targeted toward distinct groups of consumers. As a
result of this approach, the Company's accounts have a strong incentive to
devote greater selling space to the Company's products, and the Company is
better able to assess consumer preferences, the future ordering needs of its
customers and inventory requirements.
The Company's principal domestic customers include specialty retailers,
upscale department stores, outdoor retailers and athletic footwear stores which
market products consistent with the Company's standards. The Company's five
largest customers accounted for approximately 17.5% of the Company's net sales
for the year ended December 31, 1998, compared to 16.3% for the year ended
December 31, 1997. No single customer accounted for more than 10% of the
Company's net sales for the years ended December 31, 1998 or 1997.
In order to encourage accounts to place orders early in the season, the
Company has implemented a preseason discount program under which accounts are
offered discounts on preseason orders placed. The Company's strategy is to
emphasize this "futures" program, as compared to "at once" sales, in order to
reduce the risk of customer cancellations and to benefit from the significant
positive impact of the program on the Company's inventory costs, sourcing
schedule and allocation of marketing resources. In addition, as in 1997, the
Company offered a spring 1999 early delivery program that provided retailers an
incentive to order Teva product for delivery in the fourth quarter of 1998. This
early delivery program allows the Company to reduce the impact of peak inventory
warehouse utilization during the Spring and provides retailers the opportunity
to have earlier sell through, lengthening the retail selling season and
increasing the potential for inventory turns at retail. Domestic deliveries
generally originate from the Company's 126,000 square foot warehouse facility in
Ventura County, California. International deliveries also originate from
offshore factories or warehouses in Canada and the Netherlands.
ADVERTISING AND PROMOTION
The Company attempts to maximize the impact of its advertising, public
relations and promotional expenditures by utilizing media that provide high
visibility within targeted market segments. The Company's brand names are
generally advertised and promoted through a variety of consumer print
advertising campaigns in addition to highly visible editorial coverage in both
consumer and trade publications. Retail presence and "point of purchase"
materials along with production packaging provide additional visible brand
support. The
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Company's in-house marketing department works closely with certain accounts in
many aspects of these activities.
Historically, a majority of the Company's advertising has been related to
Teva and has been directed toward the outdoor markets. However, with the
broadened appeal of the Teva offerings, including the leather casual models, the
Company has increased its Teva advertising focus in more mainstream print
publications, including Men's Health, Details, Shape, Elle, Self, and Walking
Magazine, among others.
The national print advertising campaign which has been the focus of the
Company's Simple marketing approach in recent years has been replaced with a
less costly grass roots marketing approach. This new approach includes public
relations and product placement campaigns in addition to regional advertising
efforts. In-house marketing personnel work closely with a public relations firm
and a product placement agency to gain brand visibility in popular magazines,
television shows and feature films. Recent public relations efforts include
coverage in Footwear News, People Magazine, YM Magazine and Footwear Plus.
Simple product has also appeared on popular television programs including
Friends, Will and Grace, Dharma and Greg, and Dawson's Creek. These public
relations efforts have also resulted in Simple products appearing in feature
films including: The League, starring Al Pacino, Cameron Diaz and James Woods;
The Story of Us, starring Bruce Willis, Michelle Pfeiffer and Paul Reiser;
Sundowning, starring Kirk Douglas and Dan Aykroyd; and Kimberly, starring Robert
Mailhouse and Gabrielle Anwar.
In 1999, the Company plans to continue to build on the success of its Ugg
1998 national print advertising campaign. Targeting luxury consumers living or
vacationing in cold weather climates, the Company expects to advertise Ugg
products in upscale publications such as In Style, Elle, Self, Martha Stewart
Living, Fashions of the NY Times and Vanity Fair. In addition, the Company also
continues to support Ugg's core surf audience with ads in Surfing and Longboard
magazines. Regional advertising in local newspapers rounds out the Company's Ugg
print advertising program. In addition to this national print advertising
campaign, the Ugg brand is being supported by public relations and product
placement efforts. In-house marketing personnel work closely with a public
relations firm and a product placement agency to gain brand visibility in
popular magazines, television shows and feature films. Recent public relations
efforts include editorial coverage in magazines such as In Style, Footwear News,
Footwear Plus, Paper, Martha Stewart Living, Jane, YM Magazine, and Us.
Television coverage of Ugg product includes shows such as Dharma and Greg,
Suddenly Susan, X Files, Mad About You, Dawson's Creek, 3rd Rock from the Sun,
Friends, Will and Grace, Ally McBeal, 7th Heaven and Party of Five. These public
relations efforts have also resulted in Ugg product appearances in the following
feature films: Seven Girlfriends, starring Jamie Gertz and Mimi Rogers; Two
Goldsteins, starring Elliot Gould and Alicia Witt; Hanging Up, starring Meg
Ryan, Lisa Kudrow and Diane Keaton; Panic, starring William H. Macy and Neve
Campbell; Snow Day, starring Chevy Chase; and More Dogs Than Bones, starring
Whoopi Goldberg and Mercedes Ruehl.
In order to maintain the Company's historically high visibility among core
enthusiasts such as leading river rafters, kayakers, mountain bikers and rock
climbers, Teva products are given or sold at professional discounts to members
of this group. In order to further bolster the loyalty of these individuals, the
Company offers a line called the "Guide series," incorporating the latest
technological developments and highest quality materials. In 1996, Teva was the
official supplier to the United States Canoe and Kayak Team. Additionally, Ugg
was selected by Champion Sportswear to provide footwear for the winter 1994 and
the summer 1996 U.S. Olympic athletes. By outfitting these highly visible teams,
the Company creates awareness among targeted consumers at relatively low cost.
In addition, the Company has independent technical representatives who
travel to various festivals, outdoor sporting events and competitions including
the Ben and Jerry's Folk Festival in Rhode Island, the Gauley River Festival in
West Virginia, the National Cherry Festival in Michigan, the Mammoth Mountain
Bike Race in California and musical festivals such as the Teva Spirit of Unity
Tour, Reggae on the River and the Telluride Bluegrass Festival in Colorado,
among many others. These representatives promote the Teva products through
exhibits, demonstrations, sponsorships and product give-aways.
In 1998, 1997 and 1996, the Company incurred $5,847,000, $4,096,000 and
$4,738,000 respectively, for advertising, marketing and promotional expenses.
The Company is required under its Teva license agreements
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to spend a minimum amount for advertising and promoting the Teva products, which
ranged from 2.64% to 3.14%, depending on sales levels, of net sales during the
period from September 1995 to August 1997. Subsequent to August 1997, the
required advertising rates reverted to the 3.5% to 4.0% range that was in effect
prior to September 1995. However, the Company has historically spent more on
advertising than is contractually required. The Company may review or modify its
approach to advertising spending and may reduce future spending to approximate
the contractually required amounts in the event it is not able to obtain a
favorable arrangement with respect to Teva beyond the expiration of the existing
Teva licenses. The Company works closely with Mr. Thatcher, the Teva licensor,
in managing its advertising program for the Teva products.
DESIGN AND PRODUCT DEVELOPMENT
The Company's design and product development staff creates and introduces
new innovative footwear products that are consistent with the Company's
standards of high quality, combined with comfort and functionality. Research and
development costs aggregated $2,393,000, $1,780,000 and $1,546,000 in 1998, 1997
and 1996, respectively.
With respect to Teva, in order to ensure that the Company's high
performance technical products continue to satisfy the requirements of its
historical customer base of performance-oriented "core enthusiasts," the
Company's design staff solicits comments and feedback from these professional
outdoorsmen, as well as certain of its retailers, including REI, Track 'n Trail
and L.L. Bean. Certain models are modified and technical innovations are
developed in response to such comments and feedback. For example, certain styles
within the "Guide series" of high-performance Teva sandals employ quick release
buckles rather than "hook and loop" fasteners in response to such feedback. In
addition, for improved traction and durability, the Company recently
incorporated Spider Rubber(TM) into the high performance Wilderness Series.
While Teva continues to develop high performance sport sandals by
continually updating and designing new styles for this category, the Company
continues to increase its focus on the casual footwear market. The Company has
recently introduced several new styles of leather casual footwear for men and
women and has expanded its offering under its collection of children's sandals.
The Company has also expanded the leather casuals offering under the Simple line
for 1999. By monitoring changes in consumer lifestyles and preferences and then
focusing first on function and practicality, the Company develops footwear
designed to appeal to quality-minded consumers seeking comfortable casual
footwear.
Prior to and shortly after the Company's 1995 acquisition of Ugg Holdings,
Inc., the Ugg product was in need of updates and became subject to low cost
imitations. Since then, the Company has taken steps to update the Ugg products
and make them functional for use in cold and wet climates. For example, the
popular Ultra styles of men's and women's boots have been updated with new lug
outsoles to improve traction. In addition, the 1999 Ugg line includes a new
"Street Collection" with products designed for more fashionable and functional
everyday use in both warm and cold climates. New styles include clogs, driving
moccasins and apres ski type boots with water-resistant leathers. More
fashionable and unique upper styles help to differentiate Ugg from the low cost
imitation brands.
Integral factors in the design and product development process include an
evaluation of the availability and cost of raw materials, the capabilities of
the factories that will manufacture products and the target retail cost of new
models and lines. In recent years, the Company has directed significant efforts
and resources toward its design and product development functions. The Company
has been able to increase and strengthen its design and development staff in the
process. This staff works closely with brand management to develop new styles of
footwear and components for their various product lines. Drawings and prototypes
are utilized to produce samples of proposed new concepts. Throughout the
development process, the design staff coordinates closely with each other and
with the Company's product development, manufacturing and sourcing personnel
toward a common goal of developing and sourcing a high-quality product that will
be delivered on a timely basis. The Company endeavors to minimize the risk of
changing fashion trends by offering a diverse line of functional products and
monitoring sales to its accounts after introduction.
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PRODUCT SOURCING
The Company currently sources the majority of its Teva footwear from the
Far East, and to a lesser extent from Costa Rica. In addition, the Company
imports nearly all of its finished Simple footwear from independent contract
manufacturers in the Far East and imports the majority of its finished Ugg
footwear from independent contract manufacturers in Australia, New Zealand and
the Far East. The majority of Picante casual apparel is manufactured in
Guatemala at a wholly owned subsidiary of Heirlooms, Inc., a 50% owned
subsidiary of the Company.
Historically, the Company had manufactured a significant portion of its
Teva products in its company-owned manufacturing facilities in California and
Mexico. However, in efforts to improve its manufacturing cost structure, the
Company closed its California factory in Spring 1997 and closed its Mexican
factory in Fall 1998. The related production has since been reallocated to
independent subcontractors in the Far East and Costa Rica. As a result of the
closure of these facilities, the Company is no longer involved in the direct
manufacture of footwear, but rather sources completed footwear entirely from
independent subcontractors. As the Company continues to grow, it expects to
continue to rely heavily on its independent subcontractors for its sourcing
needs.
With the closure of the last remaining company-owned manufacturing facility
in 1998, the Company now sources completed footwear from a variety of
independent contract manufacturers. The manufacturing of footwear is performed
in accordance with detailed specifications provided by the Company and is
subject to quality control standards. In efforts to ensure the production of
high quality products, many of the materials and components used in production
are purchased from independent suppliers designated by the Company. The Company
believes that its completed footwear as well as the various raw materials and
components used in the manufacture of the footwear, including rubber, leather,
nylon webbing and sheepskin, are generally available from multiple sources at
competitive prices.
In 1992, the Company entered into a long-term manufacturing relationship
with a third party, Prosperous Dragon Manufacturing Co., Ltd. ("Prosperous
Dragon"), for the processing of the Company's footwear and footwear components
in the People's Republic of China ("PRC"). Under the agreement, Prosperous
Dragon is prohibited from manufacturing any products for any person other than
the Company, without the Company's prior consent. In return, the Company agreed
to loan up to $4,000,000 on a revolving basis to Prosperous Dragon to finance
Prosperous Dragon's original start up and expansion, of which $2,282,000 was
outstanding at December 31, 1998 ($782,000 net of allowance). Under the terms of
the arrangement, the Company purchases goods from Prosperous Dragon for an
amount equal to its manufacturing costs plus a fixed percentage. A portion of
the payments that would otherwise be made to Prosperous Dragon by the Company
for products shipped are applied to reduce the balance of the loan. A key
employee of the Company's Hong Kong subsidiary, Holbrook Limited ("Holbrook"),
is the son of the owner of Prosperous Dragon. This employee is currently
entitled to receive up to 8% of certain net profits of Holbrook derived from the
sourcing of products from Prosperous Dragon. This percentage will increase to
16% when 50% or more of both the Company's investment in Holbrook and the
outstanding balance of the original loan from the Company to Prosperous Dragon
are repaid, and to 24% when the Company's investment in Holbrook and the
original loan are repaid in full. As a result of the closure of the last
remaining company-owned manufacturing facility, the Company no longer has a need
to purchase the footwear components previously supplied by Prosperous Dragon.
Accordingly, the Company ceased purchasing products from Prosperous Dragon
during the third quarter of 1998. The owner of Prosperous Dragon is pursuing a
possible sale of Prosperous Dragon or its underlying assets in order to generate
the cash to repay the remaining outstanding net receivable balance owed to the
Company. There are no assurances that this will occur.
The Company generally does not have any remaining long-term agreements with
the manufacturers or suppliers of its products, but does business based on
individual purchase orders.
QUALITY CONTROL
The Company has instituted inspections and other procedures to satisfy the
high quality demanded by users of the Company's products. The Company's quality
assurance program includes inspection procedures at
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the factory level as well as a final inspection upon arrival at the Company's
distribution center. The Company uses on-site inspectors at its independent
suppliers who oversee the production process and perform quality assurance
inspections. In addition, the products undergo further inspection procedures
prior to being accepted by the Company's distribution center.
LICENSES
Teva License. The Company manufactures its Teva footwear line pursuant to
two exclusive license agreements with Mark Thatcher, the inventor of the Teva
sport sandal and the owner of the Teva patents and trademark. Mr. Thatcher owns
two United States patents on strap designs used in Teva sport sandals and has a
United States trademark registration for the Teva mark. The first of these
agreements authorizes the Company to make, use and sell products using the Teva
patents and trademark and any other United States patents later issued to or
acquired by Mr. Thatcher relating to footwear in the United States, Canada,
Puerto Rico and the countries in the Caribbean. Any new sandal developed by Mr.
Thatcher that is not covered by the current patents may be added to the
agreement as a licensed product at the election of the Company. In addition, the
Company has a right of first refusal should Mr. Thatcher offer to license to any
third party the rights to develop, market and sell nonfootwear products that use
the Teva name. In 1996, the Company exercised its right of first refusal with
respect to the licensing of apparel under the Teva name and began selling Teva
apparel as the exclusive licensee in 1997.
In 1992, the Company and Mr. Thatcher entered into the second exclusive
license agreement allowing the Company to manufacture and sell Teva products in
eight countries in Europe in which Mr. Thatcher had registered the Teva
trademark, including France, Germany and the United Kingdom. As Mr. Thatcher
obtains registrations of the Teva trademark in other European countries, such
countries will be included in the license. The material provisions of the
European license agreement are substantially similar to the provisions in the
license agreement for the United States, Canada, Puerto Rico and the Caribbean
as described above and will be automatically terminated upon any termination of
the United States license agreement. Mr. Thatcher may also terminate the
European license agreement if certain minimum sales targets are not met. Upon
any termination of the European license agreement, the Company must cease the
manufacture of Teva sport sandals and, for a period of five years thereafter,
may not directly or indirectly engage in the licensed territory in the
manufacture of products using know-how specifically related only to Teva sport
sandals acquired during the term of the agreement.
As a result of the Company's selling a specified minimum of Teva sport
sandals in Europe for the year ended August 31, 1993, the European license by
its terms was extended to include various countries in the Far East and Pacific
Rim, if Mr. Thatcher registers the Teva trademark in those countries. Mr.
Thatcher has subsequently obtained the Teva registered trademark in the Peoples'
Republic of China, Japan and Australia and has also filed for trademark
protection for the Teva(R) brand name in Hong Kong, New Zealand, Indonesia,
Singapore, Korea, Tahiti and Fiji, among others. Mr. Thatcher and the Company
have separately agreed that the Company may continue to operate in other Pacific
Rim countries until written notice from Mr. Thatcher to the contrary.
The Company has the exclusive rights to manufacture and distribute the Teva
footwear line through August 2001. In conjunction with the exercise of its five
year extension of the license period through August 31, 2001, the Company paid
the licensor consideration of $2,000,000. The Company is required to pay
royalties to the licensor at rates ranging from 5% to 6 1/2% on the net sales of
most Teva products, depending on sales levels, and 3% to 4 1/2% of net sales of
certain styles, depending on sales levels. The Company is required to pay
minimum annual royalties ranging from $420,000 to $820,000 over the license
period. In addition, the Company is obligated to pay minimum annual advertising
costs which ranged from 2.64% to 3.14%, depending on sales levels, of net sales
during the period from September 1995 to August 1997. Subsequent to August 1997,
the required advertising rates reverted to the 3.5% to 4.0% range that was in
effect prior to September 1995.
The Teva license agreements require that the Company obtain the approval of
Mr. Thatcher for new product designs as well as changes in designs or materials.
Mr. Thatcher also has the right to inspect the
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Company's manufacturing facilities and product samples to assure that quality
standards are being maintained and may specify certain sizes and models to be
manufactured by the Company in reasonable quantities. The Company is obligated
to sell Teva sandals to Mr. Thatcher with certain guaranteed terms of delivery.
Either party may terminate the agreement upon a breach which is not cured by the
other, and Mr. Thatcher may terminate the agreement if minimum annual sales
levels (which levels are substantially below levels of the Company's sales
during the past several years) are not met, except if substantial trademark
infringement has occurred. In addition, the agreement will automatically
terminate upon the bankruptcy or insolvency of the Company or a sublicense or
assignment of the licensing agreement by the Company without Mr. Thatcher's
consent. Upon any termination of the agreement, the Company must cease the
manufacture of Teva sport sandals and, for a period of three years thereafter,
may not directly or indirectly engage anywhere in the manufacture of products
using know-how specifically related only to Teva sport sandals acquired during
the term of the agreement.
Such agreement also provides that the Company may not manufacture or sell
sandals during the term of the license that are "competitive" with Teva sport
sandals. "Competitive sandals" are defined as sandals with a secure fit and a
heel strap system with adjustable fasteners attached to the sole in a specified
area. Whether a particular sandal is "competitive" within the meaning of the
agreement is to be determined by Mr. Thatcher and the Company or, if they cannot
agree, by arbitration. To the extent any present or future sandal manufactured,
sold or planned by the Company is determined to be a "competitive sandal," the
Company's results of operations could be adversely affected. In addition, Mr.
Thatcher may not manufacture or sell, or enter into any other agreement for the
assembly, manufacture or sale, of Teva sport sandals within the territory
covered by the license agreement. Concurrent with the Company's acquisition of
the rights to manufacture and distribute Alp(R) sport sandals in February 1995,
the Company agreed with Mr. Thatcher to market such sandals under the Teva
trademark. The Company further agreed to pay a royalty to Mr. Thatcher on net
sales of such products at a rate of 3% to 4 1/2%, depending on sales volume, and
to pay minimum advertising costs similar to those for the other Teva footwear
products.
Under the Company's licensing arrangement with Mr. Thatcher, Mr. Thatcher
initially may elect to bring proceedings to halt infringement of the Teva
patents and trademark. In addition, if, within 365 days of notice of a possible
infringement, Mr. Thatcher declines to pursue an enforcement action against such
infringement, the Company may bring an enforcement action in its own name at its
own cost if the Company delivers to Mr. Thatcher an opinion of patent counsel
that an infringement has occurred. The Company would receive all of any recovery
from such an action. If there is substantial infringement and Mr. Thatcher does
not proceed with any action, the Company may terminate the license agreement
upon 365 days' notice. See "Legal Proceedings."
On May 23, 1996, the Company exercised its right of first refusal with
respect to the licensing of apparel under the Teva name and began selling Teva
apparel in 1997. Under the license agreement, the Company has the exclusive
rights to manufacture and sell Teva apparel in the United States, Canada,
Mexico, Japan and other countries in the world where Licensor has registered
Teva as a trademark and the Company has received Licensor's written approval.
The term of the Teva apparel license is through December 31, 1997, with one year
options to renew through December 31, 1999 provided that the Company meets
minimum annual sales requirements. The Company is required to pay royalties
ranging from 4% to 5% of sales of Teva apparel, depending on specified sales
levels, and is required to spend 5% of net sales on advertising. The agreement
provides for minimum annual sales requirements of $2,500,000 and $4,000,000 in
1997 and 1998, respectively, which the Company has not met. Although the
licensor has not taken any action as a result of the Company's non-compliance
with the minimum sales requirements, the Company cannot provide any assurance
that it will continue to sell Teva apparel products in the future.
As announced in November 1998, Mr. Thatcher has engaged a financial advisor
to explore various strategic options for the Teva brand. The Company is in
continuing negotiations with Mr. Thatcher, pursuing various options including a
renewal of the existing license or the purchase of the underlying Teva rights.
The Company is hopeful that it will be able to successfully negotiate a
favorable arrangement with Mr. Thatcher. However, there can be no assurances
that such arrangements can be secured. In the event that the Company does not
come to a favorable arrangement with Mr. Thatcher, the Company will not be able
to sell Teva
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products beyond August 31, 2001, which would result in a material adverse impact
on the Company's results of operations, financial condition and cash flows.
SIMPLE SHOES AGREEMENT
The Company was a party to an agreement with Eric Meyer, the founder of
Simple Shoes, Inc. under which Mr. Meyer provided consulting services to the
Company at a rate of $225,000 per year through December 31, 1998 for
advertising, marketing, brand image, strategic planning, pricing and product
line design, development and extension. The parties also agreed that the Company
would continue to use Mr. Meyer's name for advertising and promotional purposes
under a three year licensing agreement through December 31, 1998. Mr. Meyer also
received a licensing fee equal to 0.2% of net sales of Simple Shoes, Inc. plus
0.1% of the net sales resulting from any licensing of Simple products by the
Company to third parties. Upon the expiration of the agreement on December 31,
1998, the Company agreed with Mr. Meyer to license a Simple trademark which
incorporates Mr. Meyer's name from Mr. Meyer for $25,000 through December 31,
1999.
HEIRLOOMS, INC. AGREEMENT
The Company and Bob Eason, the designer and founder of Picante clothing,
entered into an agreement that became effective in December 1993, pursuant to
which the Company paid $125,000 and became a 50% owner of Heirlooms, Inc.
("Heirlooms"), the manufacturer and distributor of Picante clothing. Mr. Eason
transferred to Heirlooms all of his rights to the related products. The Company
has also agreed to extend credit to Heirlooms. All obligations of Heirlooms to
the Company under such credit arrangement are secured by the assets of
Heirlooms.
Pursuant to the agreement, as amended, Mr. Eason has granted the Company
the option to acquire all or part of his interest in Heirlooms, exercisable
through June 30, 1999. The purchase price for such shares is $2,000,000. Mr.
Eason may elect to retain a 20% interest in Heirlooms, in which case the
purchase price would be reduced proportionately. Mr. Eason is employed as
President of Heirlooms on an at-will basis.
PATENTS AND TRADEMARKS
Mr. Thatcher holds two United States patents and one patent in each of
Australia, New Zealand and Korea for the Teva strapping system. As a result of
the expiration of the applicable period during which foreign patent applications
were required to have been filed, Mr. Thatcher does not and cannot hold such
patent rights in other countries. Mr. Thatcher also currently holds Teva
trademark rights in the United States and in several other countries, including,
among others, France, Germany, the United Kingdom, Japan and Australia. Mr.
Thatcher's patent and trademark rights are licensed to the Company under the two
license agreements discussed previously. Both the Company and Mr. Thatcher
regard such proprietary rights as valuable assets, and the Company cooperates
with Mr. Thatcher in vigorously protecting such rights against infringement by
third parties. To date, Mr. Thatcher has successfully enforced his patent and
trademark rights in all 20 concluded lawsuits brought against such third
parties. Under certain circumstances, if Mr. Thatcher declines to challenge a
potential infringement, the Company may bring an infringement action at its own
cost. See "Licenses -- Teva License."
The Company also owns the Simple and Ugg trademarks and has applied for or
received registrations for them in the United States and several foreign
countries. In addition, the Company has filed for patent registrations on
several of its designs and has filed trademark applications for the names of
many of its models and features and for certain marketing slogans.
The Company has acquired the patent and trademarks for Alp(R)sport sandals
and holds the trademark on the Deckers(R) name. The trademark registrations for
the Picante mark in the United States and Benelux (Belgium, Netherlands and
Luxembourg) and the mark for Rancho Picante in the United States are currently
held by Heirlooms, Inc.
BACKLOG
Historically, the Company has encouraged and has received a significant
portion of its orders as preseason orders, which are generally placed by
customers approximately four to eight months prior to shipment date. The Company
emphasizes this "futures" business, as compared to "at once" sales, as it allows
the Company to better forecast its inventory requirements and assists with the
Company's sourcing schedule. As a result, the
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Company provides its customers with incentives to participate in such preseason
programs. Unfilled customer orders ("backlog"), as of any date, represent orders
scheduled to be shipped at a future date and do not represent firm sales. The
mix of future and immediate delivery orders can vary significantly from quarter
to quarter and year to year. The backlog as of a particular date is affected by
a number of factors, including seasonality and the scheduling of manufacture and
shipment of products as well as variations in the quarter to quarter and year to
year preseason incentive programs. As a result, comparisons of backlog from
period to period are not meaningful and the Company's backlog at any given time
is generally not indicative of sales levels expected to be achieved in the
future.
COMPETITION
The casual, outdoor and athletic footwear markets are highly competitive.
The Company believes that its largest current competitors for the Teva line are
Nike, Adidas, Timberland, Clarks and Salomon. The principal competitors for the
Simple line include Rockport, Clarks, Hush Puppy, Birkenstock, Ecco, Dr.
Martens, Naot, Vans and Airwalk. The Ugg line's most significant competitors
include Acorn, Aussie Dogs and Minnetonka, as well as retailers' private label
footwear. Many of the Company's competitors have substantially greater
financial, distribution and marketing resources than the Company.
Competition in the Company's footwear is primarily based on brand
awareness, product quality, design, pricing, fashion appeal, marketing,
distribution, performance and brand positioning. The Company's Teva line of
footwear competes primarily on the basis of its authenticity and consumer brand
recognition as one of the first sandals of its kind, as well as its high
performance nature and its diversity of styles offered. In addition, several of
the most popular styles employ a distinctive patented strapping system, which
contributes to performance and the brand's consumer recognition. The Company
competes through its Simple line by offering a diversity of styles designed for
a variety of recreational and leisure activities. Ugg competes with others
primarily on the basis of its authenticity as well as its brand name
recognition, identifiable with the United States sheepskin footwear market. The
Company believes that its business strategy has resulted in increasing brand
awareness. However, no assurance can be given that in the future the Company
will be able to further increase its brand awareness, increase its market share
or respond to changing consumer preferences.
RISKS OF FOREIGN OPERATIONS/RESTRICTIONS ON IMPORTS
The Company's operations are subject to the customary risks of doing
business abroad, including, but not limited to, currency fluctuations, customs
duties and related fees, various import controls and other non-tariff barriers
(e.g., quotas), the cost of transportation, restrictions on the transfer of
funds, labor unrest and strikes, and in certain parts of the world, political
instability. Countries where the Company's products are manufactured and sold
may, from time to time, seek to increase customs duties or impose other
non-tariff barriers (e.g., quotas), all of which have the potential to affect
the Company's operations and its ability to maintain or increase the current
level of importations of the Company's products. The Company is unable to
predict the likelihood or frequency of the occurrence of any of these events.
The products imported by the Company into the United States are subject to
various duty rates which are established by law. At the present time these
duties range between 8.5% and 10% of the entered value of footwear made
principally of leather, 7.5% and 37.5%, plus $.90 per pair, of the entered value
of footwear made of synthetic textiles, and 0% and 6.8% of the entered value of
footwear components of various materials. "Entered value" means the value taken
into account for purposes of determining the amount of any customs duties or any
other duties which may be imposed on the importation of any property. In
general, the entered value is normally based on the price paid or payable by the
Company to the seller of the imported merchandise. Certain footwear and
components manufactured in countries designated as beneficiary countries for
purposes of the Caribbean Basin Economic Recovery Act, using components and
ingredients of United States origin, may be imported without payment of duties.
Tariff preferences are also available pursuant to the North American Free Trade
Agreement for qualifying footwear products and components originating in Mexico
or Canada. Certain of the items imported by the Company are not finished
products, but are raw materials or components used by the Company's domestic
subcontractors. In most instances, raw materials or components have a lower duty
rate than finished footwear.
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From time to time, the Company may be subject to claims for additional
duties arising as a result of the United States Customs Service, or similar
agencies of foreign countries, disagreeing with the classification and/or
valuation used by the Company to enter various styles of footwear.
The United States Trade Representative ("USTR") is required by the Trade
Act of 1974, as amended by the Trade and Tariff Act of 1984, the Omnibus Trade
and Competitiveness Act of 1988 and the 1994 Uruguay Round Agreements Act to
submit an annual National Trade Estimates Report on Foreign Trade Barriers (the
"NTE Report") identifying significant restrictions or barriers on United States
access to foreign markets. In January 1999, the President reinstated, by
Executive Orders, the "Super 301" Provisions of the Trade Act. Relying on the
NTE Report, the USTR is required to report to Congress any trade barriers, trade
distorting practices and particular countries identified as priorities for trade
liberalization.
On April 30, 1997, the USTR designated China for monitoring under Section
306 of the 1974 Trade Act. This provision focuses on compliance with bilateral
trade agreements and allows the U.S. government to impose a variety of sanctions
if a party fails to comply with the terms of a bilateral agreement. The USTR
noted on April 30, 1998, "that China now has a functioning system to protect
intellectual property rights." The USTR will continue to monitor China's
commitment under the 1995 IPR Enforcement Agreement and the June 17, 1996 IPR
Accord to insure compliance. The Company is not in a position at this time to
determine whether or not a "Special 301" will be used in the future against
China.
In June 1998, President Clinton extended non-discriminating "normal trade
relations" ("NTR," formerly "most favored nation") trading status with China
through June 1999 and Congress supported this decision. While NTR status has
been extended for another year, this topic has traditionally been the subject of
vigorous debate and the Company is unable to predict if the United States will
revoke China's NTR status at some point in the future. If a revocation of NTR
status were to occur, it would result in significantly higher duties on imports
from China.
On April 30, 1998, the USTR announced that 31 countries had been placed on
the "special 301" watch list and 15 countries on the priority watch list because
of intellectual property protection concerns. Watch list countries include:
Australia, Canada, Denmark, Costa Rica, Hong Kong and Korea. The Company is
unable to predict whether or not additional countries will be added to the
priority watch list, or if any other actions will be imposed by the United
States and if such actions were taken, whether such actions would include
footwear imports or otherwise result in increased costs for the Company's
products or restrict the supply of footwear, generally, or of the Company's
footwear in particular.
The European Commission has enacted anti-dumping duties of 49.2% on certain
types of footwear imported into Europe from China and Indonesia. Dutch Customs
has issued an opinion to the Company that certain popular Teva styles are
covered by this anti-dumping duty legislation. The Company does not believe that
these styles are covered by the legislation and is working with Dutch Customs to
resolve the situation. In the event that Dutch Customs makes a final
determination that such styles are covered by the anti-dumping provisions, the
Company expects that it would have an exposure to prior anti-dumping duties for
1997 of up to approximately $500,000. In addition, if Dutch Customs determines
that these styles are covered by the legislation, the duty amounts could cause
such products to be too costly to import into Europe from China in the future.
As a result, the Company could have to cease shipping such styles from China
into Europe in the future or could have to begin to source these styles from
countries not covered by the legislation.
The European communities also impose quantitative limits on imports from
China of certain leather upper and textile upper footwear. The Company is unable
to predict how long the anti-dumping duty and import quota restrictions will
remain in effect or changes in the scope or severity of such restrictions.
EMPLOYEES
At December 31, 1998, the Company employed approximately 161 full-time
employees in its U.S. facilities, 13 at its European subsidiary and 30 at its
Hong Kong subsidiaries, none of whom is represented by a union. The Company
believes its relationship with its employees is good.
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ITEM 2. PROPERTIES
The Company leases approximately 30,000 square feet for its corporate
offices in Goleta, California and approximately 126,000 square feet for its
warehouse facility in Ventura County, California. In addition, through a
second-tier subsidiary, the Company leased an approximately 18,000 square foot
manufacturing facility in Mexico. However, in connection with the closure of the
Mexican production facility in 1998, the Company terminated the underlying
lease. The Company also leases approximately 10,000 square feet of office and
warehouse space in the Netherlands for its European sales and distribution
efforts and approximately 2,000 square feet of office space in Macau for its Far
East staff. The Company paid approximately $1,122,000 in rent for all of its
facilities in 1998. The terms of the leases for the Company's corporate offices
and its Ventura County warehouse expire in 2001. The lease for the Company's
European facilities expires in July 1999 and the lease for the Company's Macau
office space expires in August 2000. The Company's Ugg subsidiary leases
approximately 23,000 square feet of office and manufacturing space in Oregon
through 2000 which it has subleased, as Ugg's operations have been consolidated
with the Company's other facilities. The Company believes that its existing
corporate, manufacturing and warehousing space will be adequate to meet its
current and foreseeable requirements, and that suitable additional or
alternative space will be available as needed on commercially reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
An action was brought against the Company in 1995 in the United States
District Court, District of Montana (Missoula Division), by Molly Strong-Butts
and Yetti by Molly, Ltd. (collectively, "Molly") which alleged, among other
things, that the Company violated a non-disclosure agreement and obtained
purported trade secrets regarding a line of winter footwear which Deckers
stopped producing in 1994. The matter resulted in a jury verdict which was
announced in open court March 17, 1999. The various parts of the verdict
aggregated $1,785,000 for the two separate plaintiffs. Molly claimed specified
damages of $18 million, as well as other unspecified damages. The Company is
appealing the verdict and continues to believe such claims are without merit.
The Company intends to continue contesting this claim vigorously.
In October 1998, the Company was served in an action brought by a Plaintiff
claiming, among other things, breach of contract and misrepresentation related
to the Company's sale of its interest in Trukke Winter Sports Products, Inc.
("Trukke") to the founder of Trukke, rather than to the Plaintiff. The Plaintiff
contended, among other things, that a letter of intent between the Company and
the Plaintiff was a binding agreement. The Plaintiff was indebted to the Company
for approximately $270,000 for goods previously purchased by the Plaintiff from
the Company in the ordinary course of business. This action was to be heard in
the federal district court in Pocatello, Idaho. Effective February 1999, all
parties settled the matter and the action is expected to be dismissed with
prejudice. As full settlement, the terms provided that the Company extend the
due dates of the $270,000 of previous indebtedness, requiring periodic payments
through 2002.
The Company is also involved in routine litigation arising in the ordinary
course of business. Such routine matters, if decided adversely to the Company,
would not, in the opinion of management, have a material adverse effect on the
financial condition or results of operations of the Company. From time to time,
Mr. Thatcher and the Company are also involved in other legal proceedings to
protect the Teva patents and trademarks from infringement by third parties. Any
decision or settlement in any such infringement proceeding which allowed a third
party to continue to manufacture and sell the products at issue could have an
adverse effect on the Company's sales to the extent such other products are
purchased in lieu of the Company's products.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
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20
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is traded in the National Market System of the
NASDAQ stock market (the "NMS") under the symbol "DECK."
As of February 28, 1999, the number of holders of record of the Common
Stock was 146, and the number of beneficial owners was approximately 2,300.
1998 1997
-------------- --------------
HIGH LOW HIGH LOW
----- ----- ----- -----
First Quarter............................................. $8.50 $7.13 $7.88 $6.25
Second Quarter............................................ 7.94 6.63 8.50 6.00
Third Quarter............................................. 7.50 4.56 8.44 6.88
Fourth Quarter............................................ 5.25 1.25 10.00 7.00
The Company has never declared or paid cash dividends on its capital stock.
The Company currently intends to retain any earnings for use in its business and
does not anticipate paying any cash dividends in the foreseeable future. Payment
of dividends is within the discretion of the Company's Board of Directors and
will depend upon, among other factors, the Company's earnings, financial
condition and capital requirements. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Liquidity and Capital
Resources."
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ITEM 6. SELECTED FINANCIAL DATA
The following tables set forth selected consolidated financial data of the
Company for, and as of the end of, each of the years in the five-year period
ended December 31, 1998.
YEARS ENDED DECEMBER 31
---------------------------------------------------
INCOME STATEMENT DATA 1998 1997 1996 1995 1994
--------------------- -------- -------- -------- -------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net sales................................ $102,172 $106,713 $101,838 $102,334 $85,818
Cost of sales............................ 65,592 62,453 61,009 65,856 43,979
-------- -------- -------- -------- -------
Gross profit........................... 36,580 44,260 40,829 36,478 41,839
Selling, general and administrative
expenses............................... 39,378 35,648 32,989 32,373 24,287
Loss on factory closure.................. -- 500 -- -- --
-------- -------- -------- -------- -------
Earnings (loss) from operations........ (2,798) 8,112 7,840 4,105 17,552
Other (income) expense................... 1,320 143 1,241 1,382 (563)
-------- -------- -------- -------- -------
Earnings (loss) before income taxes.... (4,118) 7,969 6,599 2,723 18,115
Income taxes (benefit)................... (1,211) 3,445 2,943 1,287 7,609
-------- -------- -------- -------- -------
Net earnings (loss).................... $ (2,907) $ 4,524 $ 3,656 $ 1,436 $10,506
======== ======== ======== ======== =======
Net earnings (loss) per common share:
Basic.................................. $ (.34) $ .50 $ .40 $ .13 $ 1.09
Diluted................................ (.34) .50 .39 .13 1.09
-------- -------- -------- -------- -------
Weighted average common shares
outstanding:
Basic.................................. 8,632 8,961 9,248 9,324 9,630
Diluted................................ 8,632 9,012 9,292 9,352 9,673
======== ======== ======== ======== =======
AT DECEMBER 31
---------------------------------------------------
BALANCE SHEET DATA 1998 1997 1996 1995 1994
------------------ -------- -------- -------- -------- -------
(IN THOUSANDS)
Current assets........................... $ 59,309 $ 48,801 $ 49,348 $ 50,031 $53,987
Current liabilities...................... 17,174 9,579 9,618 6,262 5,731
Total assets............................. 84,373 74,693 74,897 74,917 62,651
Long-term debt, less current
installments........................... 15,199 7,983 10,290 15,170 --
Total stockholders' equity............... 52,000 57,131 54,989 53,485 56,920
======== ======== ======== ======== =======
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
The following table is derived from the Company's statement of operations
and sets forth, for the periods indicated, certain operating data as a
percentage of net sales.
YEARS ENDED DECEMBER 31
-----------------------
1998 1997 1996
----- ----- -----
Net sales................................................... 100.0% 100.0% 100.0%
Cost of sales............................................... 64.2 58.5 59.9
----- ----- -----
Gross profit.............................................. 35.8 41.5 40.1
Selling, general and administrative expenses................ 38.5 33.4 32.4
Loss on factory closure..................................... 0.0 0.5 0.0
----- ----- -----
Earnings (loss) from operations........................... (2.7) 7.6 7.7
Other expense............................................... 1.3 0.2 1.2
----- ----- -----
Earnings (loss) before income taxes....................... (4.0) 7.4 6.5
Income taxes (benefit)...................................... (1.2) 3.2 2.9
----- ----- -----
Net earnings (loss)......................................... (2.8)% 4.2% 3.6%
===== ===== =====
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Net sales decreased by $4,541,000, or 4.3%, between the years ended
December 31, 1998 and 1997. Sales of the Teva line increased to $67,916,000 for
the year ended December 31, 1998 from $61,863,000 for the year ended December
31, 1997, a 9.8% increase. The increase in Teva sales was partially due to an
increase in sales under the Company's early delivery program in 1998, compared
to that in 1997. Under this program, retailers are encouraged to take early
delivery of spring product in the fourth quarter in an effort to expand the
length of the selling season. In addition, the Company introduced several
successful new styles and experienced a general increase in demand for the Teva
products. Sales of Teva products represented 66.5% and 58.0% of net sales for
the years ended December 31, 1998 and 1997, respectively. Net sales of footwear
under the Simple product line decreased 31.0% to $19,939,000 from $28,901,000
between the years ended December 31, 1998 and 1997. Simple sales represented
19.5% of sales in 1998 and 27.1% of sales in 1997. The decrease in Simple sales
occurred due to a decline in demand for Simple products caused by a variety of
factors, including competition, an abundance of similar products at retail, and
a general decrease in the popularity of the products. Sales of Ugg footwear
increased 16.8% to $10,710,000 in 1998 from $9,169,000 in 1997, representing
10.5% of sales for the year ended December 31, 1998 and 8.6% for the year ended
December 31, 1997. The increase in Ugg sales was due to a general increase in
demand for the products, caused in part by an improved print advertising and
public relations campaign in 1998. In addition, the Company's overall sales
declined as the Company exited two businesses since 1997. The Company sold it's
interest in the Trukke line of winter sport boots effective December 31, 1997
and ceased its business of supplying footwear components for independent
factories in the Far East during the third quarter of 1998. In the aggregate,
the reduced sales contribution from these two businesses was $2,928,000.
Overall, international sales for all of the Company's products decreased 9.4% to
$24,194,000 from $26,704,000, representing 23.7% of net sales in 1998 and 25.0%
in 1997. This decrease in international sales was caused in part by the
reduction in sales of footwear components in the Far East, when the Company
exited that business in 1998. The volume of footwear sold worldwide increased
2.0% to 3,941,000 pairs during the year ended December 31, 1998 from 3,865,000
pairs during the year ended December 31, 1997, for the reasons discussed above.
The weighted average wholesale price per pair sold during the year ended
December 31, 1998 decreased by 4.4% to $24.84 from $25.97 for the year ended
December 31, 1997. The decrease occurred as a result of an increase in the
proportion of footwear sold at closeout prices in 1998 compared to 1997,
primarily related to the Simple line.
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23
Cost of sales increased by $3,139,000, or 5.0%, to $65,592,000 for the year
ended December 31, 1998, compared with $62,453,000 for the year ended December
31, 1997. Gross profit decreased by $7,680,000, or 17.4%, to $36,580,000 for the
year ended December 31, 1998 from $44,260,000 for the year ended December 31,
1997 and decreased as a percentage of net sales to 35.8% from 41.5%. The
decrease in gross margin during the period was due to several factors. As a
result of the Simple sales decline, the Company experienced inventory
write-downs on excess Simple inventory, as well as an increase in the volume of
Simple closeouts. In addition, the Company experienced write-downs of Teva raw
materials inventory, partially as a result of the Company's closure of its
Mexican manufacturing facility, the last remaining Company owned manufacturing
facility. The Company also experienced increased airfreight costs in 1998
compared to 1997. Lastly, the Company announced a product recall on the Teva
nylon infant sandals during 1998. The Company recorded a loss of approximately
$460,000 related to this recall, of which approximately $360,000 was included as
a reduction of gross profit and approximately $100,000 was included in selling,
general and administrative expenses.
Selling, general and administrative expenses increased by $3,730,000, or
10.5%, for the year ended December 31, 1998, compared with the year ended
December 31, 1997, and increased as a percentage of net sales to 38.5% in 1998
from 33.4% in 1997. In its continuing efforts to improve sales growth, the
Company increased its advertising and marketing and increased its research and
development to improve design as well as to improve the transition from design
to production. Accordingly, the Company incurred approximately $1,880,000 more
in advertising, marketing and promotion costs, including $130,000 of in-house
costs, and approximately $613,000 more in research and development costs in 1998
than in 1997. The Company also experienced an increase in warehouse costs of
approximately $730,000, an increase in Teva apparel operating costs of
approximately $340,000, an increase in costs associated with its management
information systems of approximately $460,000, an increase in sales sample
expenses of approximately $220,000, increased European office expenses of
approximately $140,000, product recall costs of approximately $100,000, and
severance costs of approximately $200,000 in conjunction with the closure of the
Mexican manufacturing facility in 1998.
Net interest expense was $1,171,000 for the year ended December 31, 1998
compared with net interest expense of $344,000 for the year ended December 31,
1997, primarily due to increased borrowings on the Company's credit facility in
1998 compared to 1997.
For the year ended December 31, 1998, the Company experienced an income tax
benefit of $1,211,000, as a result of the Company's loss for the period,
reflecting the Company's ability to recover income taxes previously paid. This
represents an effective income tax rate of 29.4%. For the year ended December
31, 1997, the Company had income tax expense of $3,445,000, representing an
effective income tax rate of 43.2%. The change in the effective income tax rate
is due to certain non-deductible expenses, primarily goodwill amortization,
which were a greater proportion of earnings (loss) before income taxes in 1998
than in 1997. In addition, for California state income tax purposes, net
operating losses cannot be carried back to offset income taxes previously paid
in prior years and, therefore, the income tax benefit is reduced accordingly.
The Company had a net loss of $2,907,000 for the year ended December 31,
1998 as compared with net earnings of $4,524,000 for the year ended December 31,
1997 due to the reasons discussed above.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
Net sales increased by $4,875,000 or 4.8% between the years ended December
31, 1997 and 1996. Sales of the Teva line increased to $61,863,000 for the year
ended December 31, 1997 from $43,898,000 for the year ended December 31, 1996, a
40.9% increase. Sales of Teva products represented 58.0% and 43.1% of net sales
for the years ended December 31, 1997 and 1996, respectively. The increase in
Teva sales was primarily due to increased demand for this line. In addition, in
early 1996, sales of the Teva line were adversely impacted by the excess
inventory at retail, which the retailers had carried into 1996 from the 1995
season. This situation did not recur in 1997. Also, in the fourth quarter of
1997, the Company implemented a spring 1998 early delivery program that provided
retailers an incentive to bring Teva products in for the fourth quarter and
expand the length of the selling season. Due to the success of this program
approximately $5 to $6 million of Teva product was shipped in the fourth quarter
of 1997, which the Company believes ordinarily would have
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shipped in the first quarter of 1998. Net sales of footwear under the Simple
product line decreased 19.8% to $28,901,000 for the year ended December 31, 1997
from $36,029,000 for the year ended December 31, 1996. This decrease was
primarily due to the continued repositioning of the Simple brand and its
distribution, and the non-recurrence of last year's demand for certain styles of
Simple clogs. Net sales of footwear under the Ugg product line decreased 38.2%
to $9,169,000 for the year ended December 31, 1997 from $14,831,000 for the year
ended December 31, 1996. This decrease was due to reduced demand for the
Company's product offering, resulting from pricing pressures, reduced
advertising spending and a carry-over of product at retail from 1996. Overall,
international sales for all of the Company's products increased 11.0% to
$26,704,000 from $24,061,000, representing 25.0% of net sales in 1997 and 23.6%
in 1996. Because the increase in the volume of sales of Teva footwear products
more than offset the decrease in the volume of sales of Simple and Ugg footwear
products, the volume of footwear sold increased 7.8% to 3,865,000 pairs for the
year ended December 31, 1997 from 3,587,000 pairs for the year ended December
31, 1996.
The weighted average wholesale price per pair sold during the years ended
December 31, 1997 and 1996 decreased 6.7% to $25.97 from $27.85. The decrease
was primarily due to a change in the sales mix resulting from the reduction in
sales of Ugg products in 1997, which have a significantly higher weighted
average selling price than the Company's other product lines. In addition, the
Company experienced a change in the sales mix for Simple products, with
significantly greater sales of the relatively higher priced clogs and fewer
close-outs during the year ended December 31, 1996 compared to the year ended
December 31, 1997. This decrease was partially offset by the lower volume of
Teva close-outs during the year ended December 31, 1997 compared to the year
ended December 31, 1996.
Cost of sales increased by $1,444,000 or 2.4% to $62,453,000 for the year
ended December 31, 1997, compared with $61,009,000 for the year ended December
31, 1996. Gross profit increased by $3,431,000, or 8.4% to $44,260,000 for the
year ended December 31, 1997 from $40,829,000 for the year ended December 31,
1996 and increased as a percentage of net sales to 41.5% from 40.1%. The
increase in gross profit margin as a percentage of net sales was primarily due
to significantly reduced levels of Teva and Ugg close-outs during the year ended
December 31, 1997 compared to the corresponding levels for the year ended
December 31, 1996. This increase was partially offset by higher levels of Simple
close-outs during this period.
Selling, general and administrative expenses increased by $2,659,000, or
8.1% for the year ended December 31, 1997, compared with the year ended December
31, 1996, and increased as a percentage of net sales to 33.4% in 1997 from 32.4%
in 1996. The increase was largely a result of increased royalties payable to the
licensor of the Teva patents and trademarks due to a change in the sales mix
toward Teva products. In addition the Company experienced increased legal costs
related to disputes with some of the former shareholders of Ugg Holdings, Inc.,
increased European operating expenses due to the opening and operation of the
European office in 1997, increased amortization of intangible assets, increased
costs associated with the Teva apparel line and an increase in research and
development spending. The increase in amortization of intangible assets was
primarily due to the amortization of Teva license fees for the five year period
beginning September 1996, as well as increased goodwill amortization associated
with the 1997 Ugg acquisition payments. These increases were partially offset by
a decrease in bad debt expense and Ugg advertising costs between the years ended
December 31, 1996 and December 31, 1997.
In 1997, the Company also incurred a loss on factory closure aggregating
$500,000 related to the March 1997 closure of its California manufacturing
facility. Upon closure, the Company moved the related production requirements to
its manufacturing facility in Mexico and to other independent subcontractors in
the Far East, Costa Rica and the United States. The $500,000 loss included
property and equipment write-downs, employee severance and other exit costs. No
similar closure occurred in 1996.
Other expense decreased to $143,000 in 1997 from $1,241,000 in 1996. The
decrease resulted from a $566,000 decrease in net interest expense, primarily
due to repayments on the Company's borrowings under its credit facility in 1997.
In addition, the Company had a net gain on disposal of assets of $51,000 in
1997, compared with a loss on disposal of assets aggregating $548,000 in 1996.
Income taxes were $3,445,000 for the year ended December 31, 1997,
representing an effective income tax rate of 43.2% compared with income taxes of
$2,943,000 for the year ended December 31, 1996,
22
25
representing an effective income tax rate of 44.6%. The lower effective income
tax rate in 1997 compared to 1996 is due to certain non-deductible expenses and
losses being a lower proportion to earnings before income taxes in 1997 than in
1996. Such non-deductible items include the amortization of goodwill and losses
at certain subsidiaries which are consolidated for financial reporting purposes
but which are not consolidated for income tax reporting purposes.
The Company had net earnings of $4,524,000 for the year ended December 31,
1997 as compared with net earnings of $3,656,000 for the year ended December 31,
1996, an increase of 23.7%, for the reasons discussed above.
OUTLOOK
This "Outlook" section, the "Risk Factors" section, the last paragraph
under "Liquidity and Capital Resources," the discussion under "Seasonality" and
other statements in this Annual Report contain a number of forward-looking
statements including forward-looking statements relating to sales and operating
expense expectations, the potential imposition of certain customs duties, the
potential impact of the Teva license expiration, the potential impact of certain
litigation, the potential impact of the Year 2000 on the Company and the impact
of seasonality on the Company's operations. All of the forward-looking
statements are based on current expectations. Actual results may differ
materially for a variety of reasons, including the reasons discussed below and
under "Risk Factors."
Sales and Operating Expense Expectations. The Company's sales under the
Teva and Ugg product lines increased in 1998 compared to 1997. The Company
expects sales for both of these lines to increase in 1999.
The Company experienced a 31.0% decrease in Simple sales in 1998 compared
to 1997. The Company expects sales under the Simple line to be lower in 1999
than in 1998.
The Company's selling, general and administrative expenses increased to
38.5% of sales in 1998, for a variety of reasons. The Company expects that these
costs will decrease as a percentage of sales in 1999.
The foregoing forward-looking statements represent the Company's current
analysis of trends and information. Actual results could vary as a result of
numerous factors. For example, the Company's results are directly dependent on
consumer preferences, which are difficult to assess and can shift rapidly. Any
shift in consumer preferences away from one or more of the Company's product
lines could result in lower sales as well as obsolete inventory and the
necessity of selling products at significantly reduced selling prices, all of
which would adversely affect the Company's results of operations, financial
condition and cash flows. The Company is also dependent on its customers
continuing to carry and promote its various lines. The Company's sales can be
adversely impacted by the ability of the Company's suppliers to manufacture and
deliver products in time for the Company to meet its customers' orders. In
addition, sales of each of the Company's different lines have historically been
higher in different seasons, with the highest percentage of Teva sales occurring
in the first and second quarter of each year, the highest percentage of Simple
sales occurring in the third quarter and the highest percentage of Ugg sales
occurring in the fourth quarter. Consequently, the results for these product
lines are highly dependent on results during these specified periods.
In addition, the Company's results of operations, financial condition and
cash flows are subject to risks and uncertainties with respect to the following:
overall economic and market conditions; competition; demographic changes; the
loss of significant customers or suppliers; the performance and reliability of
the Company's products; customer service; the Company's ability to secure and
maintain intellectual property rights; the Company's ability to secure and
maintain adequate financing; the Company's ability to forecast and subsequently
achieve those forecasts; its ability to attract and retain key employees; and
the general risks associated with doing international business including foreign
exchange risks, duties, quotas and political instability.
Sales of the Company's products, particularly those under the Teva and Ugg
lines, are very sensitive to weather conditions. Extended periods of unusually
cold weather during the spring and summer could adversely impact demand for the
Company's Teva line. Likewise, unseasonably warm weather during the fall and
winter months could adversely impact demand for the Company's Ugg product line.
23
26
Year 2000 Issue. The Year 2000 issue results from computer hardware or
software programs written using two digits to identify the year. These computer
programs and hardware were designed and developed without consideration of the
impact of the upcoming change in the century. As a result, such systems may not
be able to properly distinguish between years that begin with a "20" and years
that begin with a "19". If not corrected, such hardware and software programs
could create erroneous information by or at the year 2000, causing the Company,
or its customers or suppliers, to become unable to process normal business
transactions accurately or at all.
State of Readiness. The Company's Year 2000 compliance strategy includes
several overlapping phases, which the Company has defined as follows:
Identification -- This phase involves the identification of the hardware
and software systems used by the Company which could be adversely impacted by
the Year 2000 issue. It includes identification of information technology ("IT")
systems and non-IT systems (including telecommunications systems and systems
associated with facilities -- such as utilities and security, among others), as
well as identification of the impact that Year 2000 issues may have on the
Company's key third party relationships (including customers, suppliers and
financing sources, among others).
Analysis -- This phase involves the determination of the likelihood, impact
and magnitude of potential Year 2000 non-compliance for each of the items in the
areas previously identified in the Identification phase.
Conversion -- This phase involves the development and execution of a plan
to bring the previously identified items into Year 2000 compliance.
Testing -- This phase involves the testing of the various systems to
ascertain that the conversion procedures were successful at bringing the systems
into compliance.
Implementation -- This phase involves putting the various Year 2000
compliant systems into use in the Company's operations.
The Company is continuing to assess the readiness of its various systems
for handling the Year 2000 issue. The Company determined that the version of the
software that operated the Company's enterprise business systems prior to 1999
was not Year 2000 compliant. These enterprise business systems include the
Company's systems for order entry and processing, allocations, inventory,
accounts receivable, accounts payable and financial reporting. In late 1998, the
Company received the current version of the underlying software, which the
software vendor has stated is Year 2000 compliant. The Company has completed the
Conversion phase of its Year 2000 strategy with respect to its enterprise
business systems, and is currently in the Testing phase. The Company currently
anticipates that it will complete the Testing and Implementation phases for its
enterprise business systems by June 30, 1999.
With respect to the Company's remaining IT systems, including desktops,
networks and several departmental hardware and software systems, and its non-IT
systems, the Company has recently completed the Analysis phase and has begun the
Conversion phase. The Company currently expects completion of the Conversion
phase for the majority of the remaining IT and non-IT systems by June 30, 1999
and currently anticipates completion of the Testing and Implementation phases by
September 30, 1999. The Company's plan for addressing the readiness of its key
external business partners includes requesting information from these partners
regarding their own readiness to address their Year 2000 issues, and an
assessment of the potential impact that any non-compliance might have on the
Company's operations. The Company has requested compliance information from key
business partners and has begun to receive responses. The Company may add
additional business partners to its Year 2000 program as the Company's Year 2000
readiness plan progresses. The various phases for this segment are expected to
continue throughout 1999.
Estimated Costs. The Company currently estimates that total costs related
to all phases of the Year 2000 strategy with respect to its enterprise business
systems will aggregate $350,000. This estimate is for outside goods and service
providers only. The estimate does not include the time and costs associated with
its in-house employees, the amount of which is not currently determinable In
addition, the estimated costs to
24
27
bring the remaining IT and non-IT systems into compliance and to address and
remedy any non-compliance issues at its key business partners are not yet
determinable, but will likely exceed $200,000. These costs are expected to be
funded through operating cash flows and the Company's bank facility. The Company
does not currently anticipate using any independent verification or validation
processes. The Company anticipates that the Year 2000 compliance efforts will
ultimately result in the deferral of other IT projects. However, the deferral of
such projects is not expected to have a material adverse impact on the Company's
results of operations, financial condition or cash flows. The estimated Year
2000 compliance costs are based on the Company's current assessment of its Year
2000 situation and could change significantly as the Year 2000 compliance
strategy progresses. As of December 31, 1998, the Company had incurred Year 2000
compliance costs of approximately $100,000.
Risks and Contingency Plan. Although the Company is not aware of any
material operational issues associated with preparing its internal systems for
the year 2000, there can be no assurance that there will not be a delay in, or
increased costs associated with, the implementation of the necessary systems and
changes to address the Year 2000 issues, and the Company's inability to
implement such systems and changes in a timely manner could have a material
adverse effect on future results of operations, financial condition and cash
flows.
The potential inability of the Company's business partners to address their
own Year 2000 issues sufficiently and timely remains a risk which is difficult
to assess. Among other things, the Company is currently highly dependent on the
combination of approximately 12 key suppliers, primarily located in the Far
East, for the production of its footwear products. The failure of one or more of
these suppliers to adequately address their own Year 2000 issues could cause
them to be unable to manufacture or deliver product to the Company on a timely
basis, materially adversely impacting the Company's results of operations,
financial condition and cash flows. In addition, the inability of one or more of
the Company's significant customers to become compliant could adversely impact
the customers' operations, thus impacting the Company's sales and subsequent
collections with respect to those customers.
The Company's Year 2000 compliance efforts are subject to many additional
risks including the following, among others: the Company's failure to adequately
identify and analyze issues, convert to compliant systems, fully test converted
systems, and implement compliant systems; unanticipated issues or delays in any
of the phases of the Company's strategy; the inability of customers, suppliers
and other business partners to become compliant; and the breakdown of local and
global infrastructures resulting from the non-compliance of utilities, banking
systems, transportation, government and communications systems.
As the Company has not yet completed various phases of its internal
readiness and has not yet determined the readiness of its key business partners,
the Company cannot yet fully and accurately identify and quantify the most
reasonably likely worst case Year 2000 scenario at this time. However, the
Company is currently assessing scenarios and will take steps to mitigate the
impact of these scenarios if they were to occur. This contingency planning has
been completed for certain areas while the contingency plans for most areas are
still in process. the Company expects to more fully address such contingencies
by the end of the second quarter of 1999.
The Company's above assessment of the risks associated with Year 2000
issues is forward-looking. Actual results may vary for a variety of reasons
including those described above.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity consists primarily of cash, trade accounts
receivable, inventories and a revolving credit facility. At December 31, 1998,
working capital was $42,135,000 including $263,000 of cash. Cash used in
operating activities aggregated $10,156,000 for the year ended December 31,
1998. Trade accounts receivable increased 18.0% since December 31, 1997 as a
result of the increase in sales in the fourth quarter of 1998 compared to 1997,
an increase in the amount of receivables with extended payment terms at
year-end, and the impact of a general decline in the average collection periods.
Inventories increased 24.7% since December 31, 1998 primarily as the Company
requested its suppliers to deliver its Spring 1999 Teva inventory earlier than
it had done in the prior year. This acceleration of inventory deliveries was
intended to increase
25
28
available inventory to improve the Company's ability to fulfill its customers'
orders on a timely basis and to improve the Company's ability to address its
Spring Teva fill-in business.
At December 31, 1998, the Company had outstanding borrowings of $20,380,000
under its existing credit facility and had outstanding letters of credit
aggregating $4,419,000.
On January 21, 1999, the Company replaced the existing credit facility with
a new revolving credit facility (the "Facility") with a new lender. The new
Facility provides a maximum availability of $50,000,000, subject to a borrowing
base of up to 85% of eligible accounts receivables, as defined, and 65% of
eligible inventory, as defined. Up to $15,000,000 of borrowings may be in the
form of letters of credit. The Facility bears interest at the lender's prime
rate (7.75% at December 31, 1998), or at the Company's election at an adjusted
Eurodollar rate plus 2%. The Facility is secured by substantially all assets of
the Company. The agreement underlying the Facility includes a tangible net worth
covenant, requiring the Company to maintain tangible net worth, as defined, of
$30,000,000. At December 31, 1998, the actual tangible net worth, as defined,
was approximately $31,300,000. The Facility expires July 1, 2001. However, in
the event that the Teva license agreements are extended beyond August 31, 2001
on terms acceptable to the lender, the Facility will be extended through the
earlier of 60 days preceding the expiration of any new license arrangement or
January 21, 2002.
Under the terms of the Facility, if the Company terminates the arrangement
prior to the expiration date of the Facility, the Company may be required to pay
the lender an early termination fee ranging between 1% and 3% of the Facility's
commitment amount, depending upon when such termination occurs.
The Company has an agreement with a supplier, Prosperous Dragon, to provide
financing for the supplier's operations, of which $2,282,000 was outstanding at
December 31, 1998 ($782,000 net of allowance). The note is secured by all assets
of the supplier and bears interest at the prime rate (7.75% at December 31,
1998) plus 1%. See "Business -- Manufacturing."
Capital expenditures totaled $1,916,000 for the year ended December 31,
1998. The Company's capital expenditures related primarily to a new warehouse
management system at the Company's Ventura County, California distribution
center, molds purchased for production, upgrades to corporate computer systems
and a new booth for European tradeshows. The Company currently has no material
future commitments for capital expenditures.
In December 1998, the Company's Board of Directors approved an increase in
the number of shares of common stock authorized for repurchase under its
existing stock repurchase program from 1,200,000 shares to 2,200,000 shares.
Such repurchases are authorized to be made from time to time in open market or
in privately negotiated transactions, subject to price and market conditions as
well as the Company's cash availability. Under this program, the Company
repurchased 300,000 shares in 1996 for cash consideration of $2,390,000, 330,000
shares in 1997 for cash consideration of $2,581,000 and 343,000 shares in 1998
for cash consideration of $2,528,000. At December 31, 1998, 1,227,000 shares
remained available for repurchase under the program.
The Company is endeavoring to come to an agreement with the Teva licensor
which would provide the Company with the ability to continue to sell the Teva
products beyond the expiration of the current license terms. Among the possible
arrangements, the Company may pursue the purchase of the underlying Teva rights,
a renewal of the existing licenses or a variety of other possibilities. Certain
of these possible arrangements may require a significant amount of additional
financing. There are no assurances that the additional financing will be
available or that a favorable arrangement with the licensor can be achieved.
The Company believes that internally generated funds, the available
borrowings under its existing credit facility, and the cash on hand will provide
sufficient liquidity to enable it to meet its current and foreseeable working
capital requirements. However, risks and uncertainties which could impact the
Company's ability to maintain its cash position include the Company's growth
rate, its ability to collect its receivables in a timely manner, the Company's
ability to effectively manage its inventory, and the volume of letters of credit
used to purchase product, among others. See also the discussion regarding
forward-looking statements in the preceding "Outlook" section.
26
29
SEASONALITY
Financial results for the outdoor and footwear industries are generally
seasonal. Sales of each of the Company's different product lines have
historically been higher in different seasons, with the highest percentage of
Teva sales occurring in the first and second quarter of each year, the highest
percentage of Simple sales occurring in the third quarter and the highest
percentage of Ugg sales occurring in the fourth quarter.
Based on the Company's historical experience, the Company would expect
greater sales in the first and second quarters than in the third and fourth
quarters. The actual results could differ materially depending upon consumer
preferences, availability of product, competition, and the Company's customers
continuing to carry and promote it's various product lines, among other risks
and uncertainties. See also the discussion regarding forward-looking statements
under "Outlook".
OTHER
The Company believes that the relatively moderate rates of inflation in
recent years have not had a significant impact on its net sales or
profitability.
RECENTLY ISSUED PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards (FAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities." FAS No. 133 modifies the accounting for
derivative and hedging activities and is effective for all fiscal quarters of
fiscal years beginning after June 15, 1999. Since the Company does not presently
invest in derivatives or engage in hedging activities, the Company expects that
the adoption of SFAS No. 133 will not impact the Company's financial position or
results of operations.
In March 1998, the American Institute of Certified Public Accountants
("AICPA") issued Statement of Position 98-1 ("SOP 98-1"), "Accounting for the
Costs of Computer Software Developed or Obtained for Internal Use." The Company
will adopt SOP 98-1 effective in 1999. The adoption of SOP 98-1 will require the
Company to modify its method of accounting for software. Based on information
currently available, the Company does not expect the adoption of SOP 98-1 to
have a significant impact on its financial position or results of operations.
In April 1998, the AICPA Accounting Standards Executive Committee issued
Statement of Position 98-5 (SOP 98-5), "Reporting on the Costs of Start-Up
Activities." SOP 98-5 requires that costs of start-up activities, including
organization costs and retail store openings, be expensed as incurred. SOP 98-5
is effective for financial statements for fiscal years beginning after December
15, 1998. Earlier application is encouraged. Restatement of previously issued
financial statements is not permitted. In the fiscal year in which the SOP is
first adopted, the application should be reported as a cumulative effect of a
change in accounting principle. The Company has not yet determined whether the
application of SOP 98-5 will have a material impact upon the Company's financial
position or results of operations.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See Item 14(a) and page 28 for an index to the consolidated financial
statements and supplementary information included herein.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
27
30
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULE
PAGE
--------
Independent Auditors' Report................................ 29
Consolidated Balance Sheets as of December 31, 1998 and
1997...................................................... 30
Consolidated Statements of Operations for each of the years
in the three-year period ended December 31, 1998.......... 31
Consolidated Statements of Stockholders' Equity for each of
the years in the three-year period ended December 31,
1998...................................................... 32
Consolidated Statements of Cash Flows for each of the years
in the three-year period ended December 31, 1998.......... 33
Notes to Consolidated Financial Statements.................. 34
Consolidated Financial Statement Schedule:
Valuation and Qualifying Accounts......................... 48
All other schedules are omitted because they are not applicable or the
required information is shown in the Company's consolidated financial statements
or the related notes thereto.
28
31
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Deckers Outdoor Corporation:
We have audited the accompanying consolidated financial statements of
Deckers Outdoor Corporation and subsidiaries as listed in the accompanying
index. In connection with our audits of the consolidated financial statements,
we also have audited the financial statement schedule as listed in the
accompanying index. These consolidated financial statements and financial
statement schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements and financial statement schedule 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Deckers
Outdoor Corporation and subsidiaries as of December 31, 1998 and 1997 and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1998 in conformity with generally accepted
accounting principles. Also, in our opinion, the related consolidated financial
statement schedule, when considered in relation to the basic consolidated
financial statements taken as a whole, presents fairly, in all material
respects, the information set forth therein.
KPMG LLP
Los Angeles, California
February 24, 1999, except
for the fourth paragraph
of note 11, which is
as of March 17, 1999.
29
32
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
ASSETS
1998 1997
----------- -----------
Current assets:
Cash and cash equivalents................................. $ 263,000 $ 3,238,000
Trade accounts receivable, less allowance for doubtful
accounts of $1,204,000 and $1,092,000 as of December
31, 1998 and 1997, respectively........................ 27,180,000 23,037,000
Inventories (note 4)...................................... 23,665,000 18,979,000
Prepaid expenses and other current assets................. 2,178,000 2,190,000
Refundable income taxes (note 8).......................... 4,267,000 --
Deferred tax assets (note 8).............................. 1,756,000 1,357,000
----------- -----------
Total current assets.............................. 59,309,000 48,801,000
Property and equipment, at cost, net (note 5)............... 2,994,000 2,509,000
Intangible assets, less applicable amortization............. 20,702,000 21,866,000
Note receivable from supplier, net (note 7)................. 782,000 966,000
Other assets, net........................................... 586,000 551,000
----------- -----------
$84,373,000 $74,693,000
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Notes payable (note 2).................................... $ -- $ 2,000,000
Current installments of long-term debt (note 6)........... 6,236,000 107,000
Trade accounts payable.................................... 7,947,000 3,629,000
Accrued bonuses........................................... 66,000 1,095,000
Other accrued expenses.................................... 2,925,000 2,726,000
Income taxes payable (note 8)............................. -- 22,000
----------- -----------
Total current liabilities......................... 17,174,000 9,579,000
----------- -----------
Long-term debt, less current installments (note 6).......... 15,199,000 7,983,000
Commitments and contingencies (notes 10 and 11)
Stockholders' equity (note 9):
Preferred stock, $.01 par value. Authorized 5,000,000
shares; none issued.................................... -- --
Common stock, $.01 par value. Authorized 20,000,000
shares; issued 9,495,631 and outstanding 8,522,679 at
December 31, 1998; issued 9,419,431 and outstanding
8,789,431 at December 31, 1997......................... 85,000 88,000
Additional paid-in capital.................................. 22,813,000 25,034,000
Retained earnings........................................... 29,726,000 32,633,000
----------- -----------
52,624,000 57,755,000
Less note receivable from stockholder/officer............... 624,000 624,000
----------- -----------
Total stockholders' equity........................ 52,000,000 57,131,000
----------- -----------
$84,373,000 $74,693,000
=========== ===========
See accompanying notes to consolidated financial statements.
30
33
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE-YEAR PERIOD ENDED DECEMBER 31, 1998
1998 1997 1996
------------ ------------ ------------
Net sales (notes 10 and 12)...................... $102,172,000 $106,713,000 $101,838,000
Cost of sales.................................... 65,592,000 62,453,000 61,009,000
------------ ------------ ------------
Gross profit.............................. 36,580,000 44,260,000 40,829,000
Selling, general and administrative expenses..... 39,378,000 35,648,000 32,989,000
Loss on factory closure (note 3)................. -- 500,000 --
------------ ------------ ------------
Earnings (loss) from operations........... (2,798,000) 8,112,000 7,840,000
Other expense (income):
Interest expense, net.......................... 1,171,000 344,000 910,000
(Gain) loss on disposal of assets.............. 13,000 (51,000) 548,000
Minority interest in net loss of unconsolidated
subsidiary.................................. -- (45,000) (55,000)
Miscellaneous expense (income)................. 136,000 (105,000) (162,000)
------------ ------------ ------------
Earnings (loss) before income taxes....... (4,118,000) 7,969,000 6,599,000
Income taxes (benefit) (note 8).................. (1,211,000) 3,445,000 2,943,000
------------ ------------ ------------
Net earnings (loss)....................... $ (2,907,000) $ 4,524,000 $ 3,656,000
============ ============ ============
Net earnings (loss) per share:
Basic.......................................... $ (0.34) $ 0.50 $ 0.40
Diluted........................................ (0.34) 0.50 0.39
============ ============ ============
Weighted average shares:
Basic.......................................... 8,632,000 8,961,000 9,248,000
Diluted........................................ 8,632,000 9,012,000 9,292,000
============ ============ ============
See accompanying notes to consolidated financial statements.
31
34
DECKER OUTDOOR CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
THREE-YEAR PERIOD ENDED DECEMBER 31, 1998
COMMON STOCK ADDITIONAL STOCKHOLDER/ TOTAL
------------------- PAID-IN RETAINED OFFICER NOTE STOCKHOLDERS'
SHARES AMOUNT CAPITAL EARNINGS RECEIVABLE EQUITY
--------- ------- ----------- ----------- ------------ -------------
Balance at December 31,
1995.................... 9,242,375 $92,000 $28,940,000 $24,453,000 $ -- $53,485,000
Common stock
repurchased............. (300,000) (2,000) (2,388,000) -- -- (2,390,000)
Common stock issuance
under stock incentive
plan.................... 11,000 -- 66,000 -- -- 66,000
Common stock issued under
the employee stock
purchase plan........... 17,008 -- 86,000 -- -- 86,000
Noncash stock
compensation............ 13,173 -- 86,000 -- -- 86,000
Net earnings.............. -- -- -- 3,656,000 -- 3,656,000
--------- ------- ----------- ----------- --------- -----------
Balance at December 31,
1996.................... 8,983,556 90,000 26,790,000 28,109,000 -- 54,989,000
Common stock
repurchased............. (330,000) (3,000) (2,578,000) -- -- (2,581,000)
Common stock issuance
under stock incentive
plan.................... 126,000 1,000 771,000 -- (624,000) 148,000
Common stock issued under
the employee stock
purchase plan........... 9,875 -- 51,000 -- -- 51,000
Net earnings.............. -- -- -- 4,524,000 -- 4,524,000
--------- ------- ----------- ----------- --------- -----------
Balance at December 31,
1997.................... 8,789,431 88,000 25,034,000 32,633,000 (624,000) 57,131,000
Common stock
repurchased............. (342,952) (3,000) (2,525,000) -- -- (2,528,000)
Common stock issuance
under stock incentive
plan.................... 57,572 -- 213,000 -- -- 213,000
Common stock issued under
the employee stock
purchase plan........... 18,628 -- 91,000 -- -- 91,000
Net loss.................. -- -- -- (2,907,000) -- (2,907,000)
--------- ------- ----------- ----------- --------- -----------
Balance at December 31,
1998.................... 8,522,679 $85,000 $22,813,000 $29,726,000 $(624,000) $52,000,000
========= ======= =========== =========== ========= ===========
See accompanying notes to consolidated financial statements.
32
35
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE-YEAR PERIOD ENDED DECEMBER 31, 1998
1998 1997 1996
------------ ----------- -----------
Cash flows from operating activities:
Net earnings (loss)................................... $ (2,907,000) $ 4,524,000 $ 3,656,000
------------ ----------- -----------
Adjustments to reconcile net earnings (loss) to net
cash provided by (used in) operating activities:
Depreciation of property and equipment.............. 1,276,000 1,235,000 1,338,000
Amortization of intangible assets................... 1,362,000 1,271,000 965,000
Provision for doubtful accounts..................... 589,000 966,000 2,587,000
(Gain) loss on disposal of assets................... 13,000 (51,000) 548,000
Loss on factory closure............................. -- 500,000 --
Stock compensation.................................. 166,000 84,000 86,000
Minority interest in net loss of unconsolidated
subsidiary....................................... -- (45,000) (55,000)
Changes in assets and liabilities (net of effects of
acquisitions and dispositions):
(Increase) decrease in:
Trade accounts receivable........................ (4,732,000) (5,575,000) 263,000
Inventories...................................... (4,686,000) 5,951,000 (5,374,000)
Prepaid expenses and other current assets........ 12,000 1,448,000 (1,101,000)
Deferred tax assets.............................. (399,000) 265,000 403,000
Refundable income taxes.......................... (4,267,000) -- 2,969,000
Note receivable from supplier.................... 184,000 372,000 1,000
Other assets..................................... (233,000) (159,000) (877,000)
Increase (decrease) in:
Trade accounts payable........................... 4,318,000 (1,870,000) 2,474,000
Accrued expenses................................. (830,000) 948,000 55,000
Income taxes payable............................. (22,000) (963,000) 983,000
------------ ----------- -----------
Total adjustments.............................. (7,249,000) 4,377,000 5,265,000
------------ ----------- -----------
Net cash provided by (used in) operating
activities................................... (10,156,000) 8,901,000 8,921,000
------------ ----------- -----------
Cash flows from investing activities:
Proceeds from sale of property and equipment.......... 142,000 -- --
Purchase of property and equipment.................... (1,916,000) (1,731,000) (1,407,000)
Cash paid for acquisitions, net of cash received...... (2,000,000) (954,000) (495,000)
------------ ----------- -----------
Net cash used in investing activities.......... (3,774,000) (2,685,000) (1,902,000)
------------ ----------- -----------
Cash flows from financing activities:
Proceeds from (repayments of) notes payable and
long-term debt...................................... 13,345,000 (1,799,000) (4,891,000)
Cash received from issuances of common stock.......... 138,000 739,000 152,000
Cash paid for repurchases of common stock............. (2,528,000) (2,581,000) (2,390,000)
Cash paid for purchase of stock option................ -- -- (1,825,000)
Cash paid to stockholder/officer...................... -- (624,000) --
------------ ----------- -----------
Net cash provided by (used in) financing
activities................................... 10,955,000 (4,265,000) (8,954,000)
------------ ----------- -----------
Net increase (decrease) in cash and cash
equivalents.................................. (2,975,000) 1,951,000 (1,935,000)
Cash and cash equivalents at beginning of year.......... 3,238,000 1,287,000 3,222,000
------------ ----------- -----------
Cash and cash equivalents at end of year................ $ 263,000 $ 3,238,000 $ 1,287,000
============ =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest............................................ $ 1,092,000 $ 524,000 $ 874,000
Income taxes........................................ $ 3,800,000 $ 3,437,000 $ 480,000
============ =========== ===========
Supplemental disclosure of noncash investing and financing activities -- In
connection with the Ugg shareholder settlement in 1997, the Company incurred
$2,000,000 of debt which was allocated to goodwill.
See accompanying notes to consolidated financial statements.
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36
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998 AND 1997
(1) THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) The Company and Basis of Presentation
The consolidated financial statements include the accounts of Deckers
Outdoor Corporation and its subsidiaries (collectively referred to as the
Company). All significant intercompany balances and transactions have been
eliminated in consolidation.
The Company designs, manufactures and markets innovative function-oriented
footwear and apparel, developed specifically for high-performance outdoor,
sports and other lifestyle-related activities as well as for casual use. The
Company's products are offered under the Teva, Simple, Ugg and Picante brand
names.
(b) Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market
(net realizable value).
(c) Revenue Recognition
Revenue is recognized upon shipment of the merchandise. Allowances for
estimated returns and discounts are provided when related revenue is recorded.
(d) Long-Lived Assets
It is the Company's policy to account for long-lived assets, including
intangibles, at amortized cost. As part of an ongoing review of the valuation
and amortization of long-lived assets, management assesses the carrying value of
such assets if facts and circumstances suggest that it may be impaired. If this
review indicates that the long-lived assets will not be recoverable, as
determined by a non-discounted cash flow analysis over the remaining
amortization period, the carrying value of the Company's long-lived assets would
be reduced to its estimated fair market value based on discounted cash flows. As
a result, the Company has determined that its long-lived assets are not impaired
as of December 31, 1998 and 1997.
(e) Depreciation and Amortization
Depreciation of property and equipment is computed using the straight-line
method based on estimated useful lives ranging from three to ten years.
Leasehold improvements are amortized on the straight-line basis over their
estimated economic useful lives or the lease term, whichever is shorter.
Goodwill and other intangibles are amortized on the straight-line basis
over periods of 20 to 30 years, and 5 to 15 years, respectively. Accumulated
amortization at December 31, 1998 and 1997 was $4,042,000 and $2,676,000,
respectively.
(f) Fair Value of Financial Instruments
The fair values of the Company's cash, trade accounts receivable, prepaid
expenses, refundable income taxes and other current assets, trade accounts
payable, accrued expenses and current notes payable approximate the carrying
values due to the relatively short maturities of these instruments.
The fair value of the Company's revolving credit line approximates the
carrying value due to variable interest rates associated with the credit line.
The fair values of the Company's other notes payable are estimated by
discounting future cash flows of each instrument at rates currently available to
the Company for similar debt instruments of comparable maturities by the
Company's bankers. The fair values of these notes approximate the carrying
value.
34
37
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
(g) Stock Compensation
The Company accounts for stock-based compensation under the provisions of
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" (SFAS 123). Under the provisions of SFAS 123, the Company has
elected to continue to measure compensation cost under APBO No. 25 and comply
with the pro forma disclosure requirements.
(h) Use of Estimates
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets, liabilities, revenues and expenses and the
disclosure of contingent assets and liabilities to prepare these consolidated
financial statements in conformity with generally accepted accounting
principles. Actual results could differ from these estimates.
(i) Research and Development Costs
Research and development costs are charged to expense as incurred. Such
costs amounted to $2,393,000, $1,780,000, $1,546,000 in 1998, 1997 and 1996,
respectively.
(j) Advertising, Marketing and Promotion Costs
The Company expenses the cost of advertising, marketing and promotion as
incurred. These expenses charged to operations for the years ended 1998, 1997
and 1996 were $5,847,000, $4,096,000 and $4,738,000, respectively.
(k) Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred
taxes of a change in tax rates is recognized in income in the period that
includes the enactment date.
(l) Earnings per Share
The Company accounts for earnings per share under the provisions of SFAS
No. 128, "Earnings per Share." SFAS 128 specifies the computation, presentation
and disclosure requirements for earnings (loss) per share (EPS).
The reconciliations of basic to diluted weighted average shares are as
follows:
1998 1997 1996
----------- ---------- ----------
Net earnings (loss) used for basic and diluted
earnings (loss) per share................... $(2,907,000) $4,524,000 $3,656,000
=========== ========== ==========
Weighted average shares used in basic
computation................................. 8,632,000 8,961,000 9,248,000
Dilutive stock options........................ -- 51,000 44,000
----------- ---------- ----------
Weighted average shares used for
diluted computation............... 8,632,000 9,012,000 9,292,000
=========== ========== ==========
35
38
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
Options to purchase 698,000 shares of common stock at prices ranging from
$5.50 to $13.75 were outstanding during 1998, but were not included in the
computation of diluted loss per share because the options' exercise price was
greater than the average market price of the common shares. Options to purchase
811,000 shares of common stock at a price of $1.56 per share were outstanding
during 1998, but were not included in the computation of diluted loss per share
because the options were anti-dilutive, as the Company incurred a net loss for
the period.
Options to purchase 572,000 and 430,000 shares of common stock at prices
ranging from $7.50 to $15.00 and $7.00 to $15.00 were outstanding during 1997
and 1996, respectively, but were not included in the computation of diluted EPS
because the options' exercise price was greater than the average market price of
the common shares.
(m) Foreign Currency Translation
Assets and liabilities of the foreign operations denominated in local
currencies are translated at the rate of exchange at the balance sheet date.
Expenses have been translated at the weighted average rate of exchange during
the period of existence. Foreign currency translation adjustments were
immaterial to the accompanying consolidated financial statements.
(n) Comprehensive Income
The Company adopted SFAS No. 130, "Reporting Comprehensive Income" on
January 1, 1998. SFAS No. 130 establishes standards to measure all changes in
equity that result from transactions and other economic events other than
transactions with owners. Comprehensive income is the total of net earnings
(loss) and all other non-owner changes in equity. Except for net earnings (loss)
and foreign currency translation adjustments, the Company does not have any
transactions and other economic events that qualify as comprehensive income as
defined under SFAS No. 130. As foreign currency translation adjustments were
immaterial to the Company's consolidated financial statements, net earnings
(loss) approximated comprehensive income for each of the years in the three year
period ended December 31, 1998.
(o) Business Segment Reporting
The Company adopted SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information," effective in 1998. SFAS No. 131 establishes
new standards for reporting information about business segments and related
disclosures about products and services, geographic areas and major customers,
if applicable. Management of the Company has determined its reportable segments
are strategic business units that offer geographic brand images. Significant
reportable business segments are the domestic Teva, Simple and Ugg brands.
Information related to these segments is summarized in Note 12.
(2) ACQUISITION
Effective August 1, 1995, the Company acquired all of the issued and
outstanding shares of Ugg Holdings, Inc. and subsidiaries (Ugg), which
manufactures and markets a line of sheepskin footwear, for cash consideration of
$12.2 million (including out-of-pocket expense of $200,000) and a note payable
to sellers of $500,000. Additionally, the Company was required to make future
payments equal to 2 1/2% of net sales of Ugg, as defined in the agreement for
the years ended March 31, 1996 through March 31, 2000, plus an amount equal to
earnings before income taxes for Ugg for the year ended March 31, 1996
(collectively referred to as the earn-out payments). Pursuant to this provision,
the Company paid additional cash consideration of $351,000 in 1997. During 1997,
the former stockholders of Ugg gave notice of a demand for arbitration regarding
the earn-out payments, asserting that additional payments were due them. In
September 1997, the
36
39
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
Company and the former Ugg stockholders reached an agreement. In addition, the
remaining Ugg stockholders who were not a party to the arbitration agreed to
accept the same economic terms as those involved in the arbitration. The
settlement called for total payments of $2.6 million to be made to the former
stockholders, thus eliminating any future due payments. As of December 31, 1997,
the Company had unpaid notes payable to the former stockholders of $2 million,
which were paid in full in January 1998. These amounts are included in the
overall purchase price and allocated to goodwill. During 1997, the Company
incurred legal and other administrative costs associated with the arbitration
aggregating $607,000. Such costs were charged to operations as incurred. This
acquisition was accounted for as a purchase and the results of Ugg's operations
are included in the Company's consolidated financial statements from the date of
acquisition. The excess of the purchase price over the estimated fair values of
the net assets acquired aggregating $17,505,000 has been recorded as goodwill
and is being amortized over 30 years.
(3) FACTORY CLOSURE
In March 1997, the Company closed its California manufacturing facility.
The Company moved the related production requirements to its manufacturing
facility in Mexico and to other independent subcontractors in the Far East,
Costa Rica and the United States. In connection with the closure, the Company
incurred property and equipment write-downs, employee severance and other exit
costs aggregating $500,000.
(4) INVENTORIES
Inventories are summarized as follows:
1998 1997
----------- -----------
Finished goods...................................... $22,396,000 $14,081,000
Work in process..................................... 35,000 1,189,000
Raw materials....................................... 1,234,000 3,709,000
----------- -----------
Total inventories......................... $23,665,000 $18,979,000
=========== ===========
(5) PROPERTY AND EQUIPMENT
Property and equipment is summarized as follows:
1998 1997
---------- ----------
Machinery and equipment............................... $5,185,000 $4,328,000
Furniture and fixtures................................ 616,000 529,000
Leasehold improvements................................ 535,000 560,000
---------- ----------
6,336,000 5,417,000
Less accumulated depreciation and amortization........ 3,342,000 2,908,000
---------- ----------
Net property and equipment.................. $2,994,000 $2,509,000
========== ==========
37
40
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
(6) LONG-TERM DEBT
Long-term debt consists of the following:
1998 1997
----------- ----------
Revolving credit line, secured by all the assets of
the Company........................................ $20,751,000 $7,300,000
Unsecured note payable in quarterly installments of
$41,700, including interest at a rate of 7.93%, due
December 2003...................................... 684,000 790,000
----------- ----------
21,435,000 8,090,000
Less current installments............................ 6,236,000 107,000
----------- ----------
$15,199,000 $7,983,000
=========== ==========
The aggregate maturities of long-term debt as of December 31, 1998 are as
follows:
1999............................ $ 6,236,000
2000............................ 126,000
2001............................ 14,767,000
2002............................ 147,000
2003............................ 159,000
-----------
$21,435,000
===========
The Company's revolving credit agreement with a bank at December 31, 1998,
as amended, permitted borrowings up to $40,000,000 through May 31, 1999,
reducing to $25,000,000 on June 1, 1999, and expiring July 31, 1999. This
revolving credit facility was for working capital and general corporate
purposes. The borrowing availability was subject to a borrowing base of eligible
assets, as defined. Borrowings bear interest at the bank's prime rate (7.75% at
December 31, 1998) plus up to 1%, depending on whether the Company satisfied
certain financial ratios. Alternatively, the Company may have elected borrowings
bear interest at LIBOR plus 1.5% to 1.75%, depending on whether the Company
satisfied such financial ratios.
On January 21, 1999, the Company replaced its existing revolving credit
agreement with a new financial institution. Under the new agreement, the Company
is permitted borrowings up to $50,000,000, subject to a borrowing base up to 85%
of eligible accounts receivable and 65% of eligible inventory, as defined. Up to
$15,000,000 of borrowings may be in the form of letters of credit. The agreement
bears interest at the lenders' prime rate (7.75% at December 31, 1998) or, at
the Company's election, an adjusted Eurodollar rate plus 2%, is secured by
substantially all assets of the Company and expires July 1, 2001. However, in
the event that the Teva license agreements are extended beyond August 31, 2001
on terms acceptable to the lender, the agreement will be extended through the
earlier of 60 days preceding the expiration of any new license arrangement or
January 21, 2002. Additionally, under the terms of the agreement, should the
Company terminate the arrangement prior to the expiration date, the Company may
be required to pay the lender an early termination fee ranging between 1% and 3%
of the commitment amount, depending upon when such termination occurs. The new
agreement underlying the credit facility includes a tangible net worth covenant.
At December 31, 1998, the Company was in compliance with the terms of the new
agreement.
(7) NOTE RECEIVABLE FROM SUPPLIER
The Company has an Equipment Purchase and Loan Agreement, as amended, with
a Hong Kong supplier (the Supplier) to provide up to $4,000,000 of financing.
The Supplier produces completed footwear and footwear components for sale to
Holbrook, Ltd., a wholly owned subsidiary of the Company (Holbrook).
38
41
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
The note is secured by all the assets of the Supplier and bears interest at
prime (8.25% at December 31, 1998) plus 1%. The outstanding balance of the note
is being repaid primarily through Company purchases of goods from the Supplier.
In connection with this agreement, the Supplier is prohibited from manufacturing
any products for any person other than Holbrook without Holbrook's prior
consent. In addition, a key employee of Holbrook is the son of the owner of the
Supplier. This employee is entitled to receive a bonus of up to 24% of certain
net profits of Holbrook when the loan is fully repaid. The outstanding balance
under the note at December 31, 1998 and 1997 was $2,282,000 and $2,466,000,
respectively. Additionally, the Company has a valuation allowance related to the
note of $1,500,000 at December 31, 1998 and 1997.
(8) INCOME TAXES
Components of income taxes (benefit) are as follows:
FEDERAL STATE TOTAL
---------- --------- -----------
1996:
Current................................. $2,018,000 $ 614,000 $ 2,632,000
Deferred................................ 263,000 48,000 311,000
---------- --------- -----------
$2,281,000 $ 662,000 $ 2,943,000
========== ========= ===========
1997:
Current................................. $3,108,000 $ 900,000 $ 4,008,000
Deferred................................ (509,000) (54,000) (563,000)
---------- --------- -----------
$2,599,000 $ 846,000 $ 3,445,000
========== ========= ===========
1998:
Current................................. $ (866,000) $ 54,000 $ (812,000)
Deferred................................ (105,000) (294,000) (399,000)
---------- --------- -----------
$ (971,000) $(240,000) $(1,211,000)
========== ========= ===========
Actual income taxes differ from that obtained by applying the statutory
Federal income tax rate to earnings (loss) before income taxes (benefit) as
follows:
1998 1997 1996
----------- ---------- ----------
Computed "expected" tax expense
(benefit)............................... $(1,400,000) $2,710,000 $2,244,000
State income taxes, net of Federal income
tax benefit............................. (288,000) 492,000 405,000
Losses of subsidiary not deductible....... 241,000 -- --
Other..................................... 236,000 243,000 294,000
----------- ---------- ----------
$(1,211,000) $3,445,000 $2,943,000
=========== ========== ==========
39
42
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
Deferred income tax (benefit) expense resulted from the following for the
years ended December 31, 1998, 1997 and 1996:
1998 1997 1996
--------- --------- ---------
Inventory obsolescence...................... $ (30,000) $ 8,000 $ 401,000
State income taxes.......................... 314,000 (134,000) (100,000)
Accrued expenses............................ (215,000) (211,000) (213,000)
Goodwill.................................... 18,000 18,000 18,000
Bad debt reserve............................ (343,000) (282,000) 214,000
Net operating losses........................ (193,000) -- --
Other....................................... 50,000 38,000 (9,000)
--------- --------- ---------
$(399,000) $(563,000) $ 311,000
========= ========= =========
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and deferred tax liabilities at December 31,
1998 and 1997 are presented below:
1998 1997
---------- ----------
Deferred tax assets:
Uniform capitalization adjustment to inventory...... $ 171,000 $ 144,000
Inventory obsolescence reserve...................... 9,000 --
Bad debt and other reserves......................... 1,445,000 1,547,000
Amortization........................................ 518,000 (248,000)
Net operating loss carryforwards.................... 620,000 268,000
---------- ----------
Total gross deferred tax assets............. 2,763,000 1,711,000
Less valuation allowance............................ (509,000) (268,000)
---------- ----------
Net deferred tax assets..................... 2,254,000 1,443,000
---------- ----------
Deferred tax liabilities:
Depreciation........................................ 319,000 27,000
State taxes......................................... 179,000 (275,000)
Accounts receivable................................. -- 334,000
---------- ----------
Total deferred tax liabilities.............. 498,000 86,000
---------- ----------
Net deferred tax assets..................... $1,756,000 $1,357,000
========== ==========
Although the Company incurred an operating loss in 1998, management
believes it is more likely than not that the results of future operations will
generate sufficient taxable income to realize the net deferred tax assets.
Certain federal and state tax laws reduce the availability of net operating
losses generated outside the group which is consolidated for tax purposes.
Accordingly, management has provided a full valuation allowance against such
losses. Any subsequently recognized tax benefits related to the portion of the
valuation allowance of $268,000, which relates to preacquisition net operating
loss carryforwards will be applied to reduce the related goodwill.
Refundable income taxes as of December 31, 1998 arise primarily from the
overpayment of estimated taxes.
40
43
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
(9) STOCKHOLDERS' EQUITY
In February 1998, the Company amended the 1993 Stock Incentive Plan (1993
Plan). Under the terms of the amended 1993 Plan, 2,000,000 shares of common
stock are reserved for issuance to officers, directors, employees and
consultants of the Company. Awards to 1993 Plan participants are not restricted
to any specified form and may include stock options, securities convertible into
or redeemable for stock, stock appreciation rights, stock purchase warrants or
other rights to acquire stock. Under the 1993 Plan, 57,572, 126,000 and 24,173
shares of common stock were issued in 1998, 1997 and 1996, respectively,
including 100,000 shares in 1997 issued to an officer of the Company, which was
financed through the issuance of a note receivable to such officer (bearing
interest at 6.39%, secured by the underlying Company stock as well as any
accrued bonuses or severance, with principal and interest due April 18, 2002 or
upon termination of employment) and common stock options exercised as noted
below.
Common stock option activity under the 1993 Plan for the years ended
December 31, 1998, 1997, and 1996 is as follows:
WEIGHTED-
AVERAGE
SHARES EXERCISE PRICE
--------- --------------
Outstanding at December 31, 1995...................... 744,250 $ 5.38
Granted............................................... 98,500 6.98
Exercised............................................. (11,000) 5.95
Canceled.............................................. (218,000) 10.75
---------
Outstanding at December 31, 1996...................... 613,750 8.59
Granted............................................... 237,500 7.96
Exercised............................................. (26,000) 5.65
Canceled.............................................. (108,000) 9.08
---------
Outstanding at December 31, 1997...................... 717,250 8.42
Granted............................................... 925,000 2.23
Exercised............................................. (34,250) 1.40
Canceled.............................................. (99,000) 9.17
---------
Outstanding at December 31, 1998...................... 1,509,000 4.73
========= ======
Options exercisable at December 31, 1998.............. 574,650 $ 7.11
========= ======
The per share weighted average fair value of stock options granted during
1996, 1997 and 1998 was $3.92, $4.44 and $1.25, respectively, on the date of
grant using the Black-Scholes option pricing model with the following weighted
average assumptions: 1996 -- expected dividend yield of 0%, stock volatility of
48.4%, risk-free interest rate of 5.9%, and an expected life of seven years.
1997 -- expected dividend yield of 0%, stock volatility of 43.3%, risk-free
interest rate of 6.1%, and an expected life of seven years. 1998 -- expected
dividend yield of 0%, stock volatility of 48.5%, risk-free interest rate of
4.7%, and an expected life of seven years.
41
44
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
The Company applies APB Opinion No. 25 in accounting for its plans. Had the
Company determined compensation cost based on the fair value at the grant date
for its stock options under SFAS 123, the Company's net earnings (loss) would
have been changed to the pro forma amounts below:
1998 1997 1996
----------- ---------- ----------
Pro forma net earnings (loss)............. $(3,400,000) 4,318,000 3,281,000
=========== ========== ==========
Pro forma net earnings (loss) per share:
Basic................................... $ (.39) $ .48 $ .35
Diluted................................. (.39) .48 .35
=========== ========== ==========
Pro forma net earnings reflect only options granted in 1998, 1997 and 1996.
Therefore, the full impact of calculating compensation cost for stock options
under SFAS No. 123 is not reflected in the pro forma amounts presented above
because compensation cost is reflected over the options' vesting period of up to
five years and compensation cost for options granted prior to January 1, 1995 is
not considered.
In August 1995, the Company adopted the 1995 Employee Stock Purchase Plan
(1995 Plan). The 1995 Plan is intended to qualify as an Employee Stock Purchase
Plan under Section 423 of the Internal Revenue Code. Under the terms of the 1995
Plan, 100,000 shares of common stock are reserved for issuance to employees who
have been employed by the Company for at least six months. The 1995 Plan
provides for employees to purchase the Company's common stock at a discount
below fair market value, as defined by the 1995 Plan. Under the 1995 Plan,
18,628, 9,875 and 17,008 shares were issued in 1998, 1997 and 1996,
respectively.
In December 1998, the Company's Board of Directors approved an increase in
the number of shares of common stock authorized for repurchase under its
existing stock repurchase program, from 1,200,000 shares to 2,200,000 shares.
Under this program, the Company repurchased 300,000 shares in 1996 for cash
consideration of $2,390,000, 330,000 shares in 1997 for cash consideration of
$2,581,000 and 343,000 shares in 1998 for cash consideration of $2,528,000. At
December 31, 1998, 1,227,000 shares remained available for repurchase under the
program.
On October 9, 1998, the Company adopted a stockholder rights plan. The
Company adopted the plan to protect stockholders against unsolicited attempts to
acquire control of the Company that do not offer what the Company believes to be
an adequate price to all stockholders. As part of the plan, the Board of
Directors of the Company declared a dividend of one preferred share purchase
right (a "Right") for each outstanding share of common stock, par value $0.01
per share (the "Common Shares"), of the Company.
The dividend is payable to stockholders of record on December 1, 1998 (the
"Record Date"). In addition, one Right shall be issued with each Common Share
that becomes outstanding (i) between the Record Date and the earliest of the
Distribution Date, the Redemption Date and the Final Expiration Date (as such
terms are defined in the Rights Agreement) or (ii) following the Distribution
Date and prior to the Redemption Date or Final Expiration Date, pursuant to the
exercise of stock options or under any employee plan or arrangement or upon the
exercise, conversion or exchange of other securities of the Company, which
options or securities were outstanding prior to the Distribution Date, in each
case upon the issuance of the Company's common stock in connection with any of
the foregoing. Each Right entitles the registered holder to purchase from the
Company one one-hundredth of a share of Series B Junior Participating Preferred
Stock, par value $0.01 per share (the "Preferred Shares"), of the Company, at a
price of $50.00, subject to adjustment.
The rights have no voting power and expire on November 11, 2008. The rights
may be redeemed by the Company for $.01 per right until the right becomes
exercisable.
42
45
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
(10) LICENSING AGREEMENT
The Company has the exclusive rights to manufacture and distribute the Teva
product line through August 31, 2001. The Company is required to pay royalties
to Teva Sports Sandals, Inc. ("licensor") at rates ranging from 5% to 6 1/2% on
the net sales of most Teva products, depending on sales levels and 3% to 4 1/2%
of net sales of certain styles, depending on sales levels. The Company is
required to pay minimum annual royalties ranging from $420,000 to $820,000 over
the license period. In addition, the Company is obligated to pay minimum annual
advertising costs of 3.5% to 4% of net sales of Teva products, depending on
sales levels.
Royalty expense related to Teva sales is included in selling, general and
administrative expenses in the accompanying consolidated financial statements
and was $3,657,000, $3,503,000 and $2,281,000 during the years ended December
31, 1998, 1997 and 1996, respectively. Advertising expense, which is included in
selling, general and administrative expenses in the accompanying consolidated
financial statements, related to Teva sales was $3,261,000, $1,960,000 and
$2,177,000 during the years ended December 31, 1998, 1997 and 1996,
respectively.
The owner of Teva Sports Sandals, Inc., has engaged a financial advisor to
explore various strategic option for the Teva brand. The Company is in
continuing negotiations with the owner, pursuing various options including a
renewal of the existing license or the purchase of the underlying Teva rights.
The Company is hopeful that it will be able to successfully negotiate a
favorable arrangement with the owner. In the event that the Company does not
come to a favorable arrangement with the owner, the Company will not be able to
sell Teva products beyond August 31, 2001, which would result in a material
adverse impact on the Company's results of operations, financial condition, and
cash flows.
(11) COMMITMENTS AND CONTINGENCIES
The Company leases office facilities under operating lease agreements which
expire through December 2001.
Future minimum commitments under the lease agreements are as follows:
Year ending December 31:
1999............................ $959,000
2000............................ 904,000
2001............................ 830,000
========
Total rent expense for the years ended December 31, 1998, 1997 and 1996 was
approximately $1,122,000, $1,153,000 and $1,207,000, respectively.
An action was brought against the Company in 1995 in the United States
District Court, District of Montana (Missoula Division), by Molly Strong-Butts
and Yetti by Molly, Ltd. (collectively, "Molly") which alleged, among other
things, that the Company violated a certain non-disclosure agreement and
obtained purported trade secrets regarding a line of winter footwear which
Deckers stopped producing in 1994. Molly claimed specified damages of $18
million, as well as other unspecified damages. The matter resulted in a jury
verdict which was announced in open court March 17, 1999. The various parts of
the verdict aggregated $1,785,000 for the two separate plaintiffs. The Company
is appealing the verdict and continues to believe such claims are without merit.
The Company intends to continue contesting this claim vigorously. The Company,
based on advice from legal counsel, does not anticipate that the ultimate
outcome will have a material adverse effect upon its financial condition,
results of operations or cash flows.
43
46
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
The European Commission has enacted anti-dumping duties of 49.2% on certain
types of footwear imported into Europe from China and Indonesia. Dutch Customs
has issued an opinion to the Company that certain popular Teva styles are
covered by this anti-dumping duty legislation. The Company does not believe that
these styles are covered by the legislation and is working with Customs to
resolve the situation. In the event that Customs makes a final determination
that such styles are covered by the anti-dumping provisions, the Company expects
that it would have an exposure to prior anti-dumping duties from 1997 of up to
approximately $500,000. In addition, if Customs determines that these styles are
covered by the legislation, the duty amounts could cause such products to be too
costly to import into Europe from China in the future. As a result, the Company
may have to cease shipping such styles from China into Europe in the future or
may have to begin to source these styles from countries not covered by the
legislation. As a precautionary measure, the Company has obtained alternative
sourcing for the potentially impacted products from sources outside of China in
an effort to reduce the potential risk in the future. The Company is unable to
predict the outcome of this matter and the effect, if any, on the Company's
consolidated financial statements.
The Company is currently involved in various other legal claims arising
from the ordinary course of business. Management does not believe that the
disposition of these matters will have a material effect on the Company's
financial position or results of operations.
(12) BUSINESS SEGMENTS, CONCENTRATION OF BUSINESS AND CREDIT RISK AND
SIGNIFICANT CUSTOMERS
The Company's accounting policies of the segments below are the same as
those described in the summary of significant accounting policies, except that
the Company does not allocate income taxes or unusual items to segments. The
Company evaluates performance based on net revenues and profit or loss from
operations. The Company's reportable segments are strategic business units that
offer geographic brand images. They are managed separately because each business
requires different marketing, sourcing and sales strategies. Business segment
information is summarized as follows:
1998 1997 1996
------------ ------------ ------------
Sales to external customers:
Teva, domestic................... $ 54,775,000 $ 50,573,000 $ 34,830,000
Simple, domestic................. 13,699,000 21,554,000 30,110,000
Ugg, domestic.................... 10,710,000 9,169,000 14,831,000
Other............................ 22,988,000 25,417,000 22,067,000
------------ ------------ ------------
$102,172,000 $106,713,000 $101,838,000
============ ============ ============
Intersegment sales:
Teva, domestic................... $ 1,171,000 $ 1,539,000 $ 2,036,000
Simple, domestic................. 150,000 315,000 --
Ugg, domestic.................... -- -- --
Other............................ 8,702,000 8,732,000 7,246,000
------------ ------------ ------------
$ 10,023,000 $ 10,586,000 $ 9,282,000
============ ============ ============
Earning (loss) from operations:
Teva, domestic................... $ (1,473,000) $ 2,363,000 $ (1,476,000)
Simple, domestic................. (1,973,000) 1,823,000 6,509,000
Ugg, domestic.................... (1,091,000) (321,000) (721,000)
Other............................ 1,551,000 4,388,000 3,674,000
------------ ------------ ------------
$ (2,986,000) $ 8,253,000 $ 7,986,000
============ ============ ============
44
47
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
1998 1997 1996
------------ ------------ ------------
Depreciation and amortization:
Teva, domestic................... $ 1,326,000 $ 1,057,000 $ 701,000
Simple, domestic................. 267,000 244,000 244,000
Ugg, domestic.................... 635,000 575,000 624,000
Other............................ 410,000 630,000 734,000
------------ ------------ ------------
$ 2,638,000 $ 2,506,000 $ 2,303,000
============ ============ ============
Net interest expense (income):
Teva, domestic................... $ 229,000 $ (597,000) $ (684,000)
Simple, domestic................. 51,000 154,000 511,000
Ugg, domestic.................... 938,000 803,000 1,105,000
Other............................ (47,000) (16,000) (22,000)
------------ ------------ ------------
$ 1,171,000 $ 344,000 $ 910,000
============ ============ ============
Capital expenditures:
Teva, domestic................... $ 1,382,000 $ 1,241,000
Other............................ 534,000 490,000
------------ ------------
$ 1,916,000 $ 1,731,000
============ ============
Total assets:
Teva, domestic................... $ 67,467,000 $ 53,833,000
Simple, domestic................. 8,358,000 11,693,000
Ugg, domestic.................... 24,680,000 23,530,000
Other............................ 7,255,000 14,996,000
------------ ------------
$107,760,000 $104,052,000
============ ============
45
48
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
The Teva-domestic operating segment includes shared costs of the
consolidated group, including domestic payroll costs, facilities costs,
warehouse costs and other administrative costs. The Company has allocated costs
to the Simple-domestic, Ugg-domestic and other segments based on a percentage of
revenues for each of these segments. Because each segment's sales volume and the
resulting allocation of shared costs continually change, the allocations to
individual segments may or may not be reflective of the actual costs directly
attributable to each segment.
In addition, virtually all shared assets, capital expenditures and the
related depreciation of these assets are generally included in the Teva-domestic
segment. As a result, this segment has a disproportionately high amount of these
items, while the other segments have a disproportionately low amount.
Reconciliations of net sales, earnings (loss) from operations and total
assets from segment information to the consolidated financial statements are as
follows:
1998 1997 1996
------------ ------------ ------------
Total sales for reportable segments...... $112,195,000 $117,299,000 $111,120,000
Elimination of intersegment revenues..... 10,023,000 10,586,000 9,282,000
------------ ------------ ------------
Consolidated net sales................... $102,172,000 $106,713,000 $101,838,000
============ ============ ============
Total earnings (loss) from operations for
reportable segments.................... $ (2,986,000) $ 8,253,000 $ 7,986,000
Intersegment profit change in beginning
and ending inventories................. 188,000 359,000 (146,000)
Unallocated loss on factory closure...... -- (500,000) --
------------ ------------ ------------
Consolidated earnings (loss) from
operations............................. $ (2,798,000) $ 8,112,000 $ 7,840,000
============ ============ ============
Total assets for reportable segments..... $107,760,000 104,052,000
Elimination of profit in ending
inventories............................ (118,000) (306,000)
Elimination of intersegment
investments............................ (15,268,000) (16,601,000)
Elimination of intersegment
receivables............................ (14,024,000) (13,809,000)
Unallocated refundable income taxes and
deferred tax assets.................... 6,023,000 1,357,000
------------ ------------
Consolidated total assets................ $ 84,373,000 $ 74,693,000
============ ============
The Company sells its footwear products principally to customers throughout
the United States. The Company also sells its footwear products to foreign
customers located in Europe, Canada, Australia and Asia, among other regions.
Export sales to unaffiliated customers were 23.7%, 25.0% and 23.6% of net sales
for the years ended December 31, 1998, 1997 and 1996, respectively. Management
performs regular evaluations concerning the ability of its customers to satisfy
their obligations and records a provision for doubtful accounts based upon these
evaluations. For the years ended December 31, 1998, 1997 and 1996, the Company
had no single customer exceeding 10% of net sales. As of December 31, 1998 and
1997, the Company had no single customer exceeding 10% of trade accounts
receivable.
The Company's operations are subject to the customary risks of doing
business abroad, including, but not limited to, currency fluctuations, customs
duties and related fees, various import controls and other non-tariff barriers,
restrictions on the transfer of funds, labor unrest and strikes and, in certain
parts of the world, political instability.
46
49
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998 AND 1997
(13) QUARTERLY SUMMARY OF INFORMATION (UNAUDITED)
Summarized unaudited financial data are as follows:
1998
------------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
----------- ----------- ------------ -----------
Net sales........................... $32,177,000 $31,142,000 $13,558,000 $25,295,000
Gross profit........................ 13,537,000 12,922,000 1,307,000 8,814,000
Net earnings (loss)................. 1,753,000 1,406,000 (5,133,000) (933,000)
=========== =========== =========== ===========
Net earnings (loss) per share:
Basic............................. $ .20 $ .16 $ (.60) $ (.11)
Diluted........................... .20 .16 (.60) (.11)
=========== =========== =========== ===========
1997
------------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
----------- ----------- ------------ -----------
Net sales........................... $34,441,000 $28,103,000 $20,783,000 $23,386,000
Gross profit........................ 14,950,000 12,532,000 7,330,000 9,448,000
Net earnings........................ 1,990,000 1,589,000 468,000 477,000
=========== =========== =========== ===========
Net earnings per share:
Basic............................. $ .22 $ .18 $ .05 $ .05
Diluted........................... .22 .18 .05 .05
=========== =========== =========== ===========
47
50
DECKERS OUTDOOR CORPORATION
AND SUBSIDIARIES
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
THREE-YEAR PERIOD ENDED DECEMBER 31, 1998
BALANCE AT
BEGINNING OF BALANCE AT
DESCRIPTION PERIOD ADDITIONS DEDUCTIONS END OF PERIOD
----------- ------------ ---------- ---------- -------------
Year ended December 31, 1996:
Allowance for doubtful accounts......... $2,625,000 $1,587,000 $2,920,000 $1,292,000
Reserve for sales discounts............. 214,000 482,000 555,000 141,000
Reserve for inventory obsolescence...... 3,815,000 574,000 3,375,000 1,014,000
Allowance for doubtful note
receivable........................... -- 1,000,000 -- 1,000,000
========== ========== ========== ==========
Year ended December 31, 1997:
Allowance for doubtful accounts......... $1,292,000 $ 466,000 $ 666,000 $1,092,000
Reserve for sales discounts............. 141,000 492,000 377,000 256,000
Reserve for inventory obsolescence...... 1,014,000 1,594,000 1,040,000 1,568,000
Allowance for doubtful note
receivable........................... 1,000,000 500,000 -- 1,500,000
========== ========== ========== ==========
Year ended December 31, 1998:
Allowance for doubtful accounts......... $1,092,000 $ 589,000 $ 477,000 $1,204,000
Reserve for sales discounts............. 256,000 1,053,000 655,000 654,000
Reserve for inventory obsolescence...... 1,568,000 2,543,000 1,221,000 2,890,000
Allowance for doubtful note
receivable........................... 1,500,000 -- -- 1,500,000
========== ========== ========== ==========
48
51
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information relating to Directors and Executive Officers of the Registrant
is set forth in the Company's definitive proxy statement relating to the
Registrant's 1999 annual meeting of shareholders, which will be filed pursuant
to Regulation 14A within 120 days after the end of the Company's fiscal year
ended December 31, 1998, and such information is incorporated herein by
reference.
ITEM 11. EXECUTIVE COMPENSATION
Information relating to Executive Compensation is set forth in the
Company's definitive proxy statement relating to the Registrant's 1999 annual
meeting of shareholders, which will be filed pursuant to Regulation 14A within
120 days after the end of the Company's fiscal year ended December 31, 1998, and
such information is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information relating to Security Ownership of Certain Beneficial Owners and
Management is set forth in the Company's definitive proxy statement relating to
the Registrant's 1999 annual meeting of shareholders, which will be filed
pursuant to Regulation 14A within 120 days after the end of the Company's fiscal
year ended December 31, 1998, and such information is incorporated herein by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information relating to Certain Relationships and Related Transactions is
set forth in the Company's definitive proxy statement relating to the
Registrant's 1999 annual meeting of shareholders, which will be filed pursuant
to Regulation 14A within 120 days after the end of the Company's fiscal year
ended December 31, 1998, and such information is incorporated herein by
reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Consolidated Financial Statements and Schedules required to be filed
hereunder are indexed on page 28 hereof.
(b) Reports on Form 8-K. The Company filed the following Current Reports
on Form 8-K:
(1) Form 8-K filed on November 6, 1998 (Item 5 -- On November 2, 1998, the
Company issued a press release announcing that Mark Thatcher, owner of
Teva Sport Sandals, Inc., has engaged an investment firm for purposes
of exploring various strategic options for the Teva brand).
(c) Consolidated Financial Statements and Schedules required to be filed
hereunder are indexed on page 28 hereof.
(d) Exhibits
EXHIBIT
- -------
2.1 Certificate of Ownership and Merger Merging Deckers
Corporation into Deckers Outdoor Corporation. (Exhibit 2.1
to the Registrant's Registration Statement on Form S-1, File
No. 33-67248 and incorporated by reference herein)
3.1 Amended and Restated Certificate of Incorporation of Deckers
Outdoor Corporation. (Exhibit 3.1 to the Registrant's
Registration Statement on Form S-1, File No. 33-67248 and
incorporated by reference herein)
3.2 Restated Bylaws of Deckers Outdoor Corporation. (Exhibit 3.2
to the Registrant's Registration Statement on Form S-1, File
No. 33-67248 and incorporated by reference herein)
49
52
EXHIBIT
- -------
10.1 License Agreement, dated as of March 13, 1991, by and
between Mark Thatcher d/b/a Teva Sport Sandals and Deckers
Corporation. (Exhibit 10.1 to the Registrant's Registration
Statement on Form S-1, File No. 33-67248 and incorporated by
reference herein)
10.2 License Agreement for Europe, dated as of November 15, 1991,
by and between Mark Thatcher d/b/a Teva Sport Sandals and
Deckers Corporation. (Exhibit 10.2 to the Registrant's
Registration Statement on Form S-1, File No. 33-67248 and
incorporated by reference herein)
10.3 Letter Amendment to License Agreement, dated as of December
3, 1992, by and between Mark Thatcher d/b/a Teva Sport
Sandals and Deckers Corporation. (Exhibit 10.3 to the
Registrant's Registration Statement on Form S-1, File No.
33-67248 and incorporated by reference herein)
10.4 License Agreement Amendment for U.S. License, dated as of
August 5, 1993, by and between Mark Thatcher d/b/a Teva
Sport Sandals and Deckers Corporation. (Exhibit 10.4 to the
Registrant's Registration Statement on Form S-1, File No.
33-67248 and incorporated by reference herein)
10.5 License Agreement Amendment for Europe, dated as of August
5, 1993, by and between Mark Thatcher d/b/a Teva Sport
Sandals and Deckers Corporation. (Exhibit 10.5 to the
Registrant's Registration Statement on Form S-1, File No.
33-67248 and incorporated by reference herein)
10.6 Subsidiary Agreement, dated as of August 5, 1993, by and
between Mark Thatcher d/b/a Teva Sport Sandals and Deckers
Corporation. (Exhibit 10.6 to the Registrant's Registration
Statement on Form S-1, File No. 33-67248 and incorporated by
reference herein)
10.7 1993 Employee Stock Incentive Plan. (Exhibit 99 to the
Registrant's Registration Statement on Form S-8, File No.
33-47097 and incorporated by reference herein)
10.8 Form of Incentive Stock Option Agreement under 1993 Employee
Stock Incentive Plan. (Exhibit 10.9 to the Registrant's
Registration Statement on Form S-1, File No. 33-67248 and
incorporated by reference herein)
10.9 Form of Non-Qualified Stock Option Agreement under 1993
Employee Stock Incentive Plan. (Exhibit 10.10 to the
Registrant's Registration Statement on Form S-1, File No.
33-67248 and incorporated by reference herein)
10.10 Form of Restricted Stock Agreement. (Exhibit 10.11 to the
Registrant's Registration Statement on Form S-1, File No.
33-67248 and incorporated by reference herein)
10.11 Employment Agreement with Douglas B. Otto. (Exhibit 10.13 to
the Registrant's Registration Statement on Form S-1, File
No. 33-67248 and incorporated by reference herein)
10.12 First Amendment to Employment Agreement with Douglas B.
Otto. (Exhibit 10.14 to the Registrant's Registration
Statement on Form S-1, File No. 33-67248 and incorporated by
reference herein)
10.13 Second Amendment to Employment Agreement with Douglas B.
Otto. (Exhibit 10.15 to the Registrant's Registration
Statement on Form S-1, File No. 33-67248 and incorporated by
reference herein)
10.14 Modification Agreement, dated August 9, 1993, by and between
Mark Thatcher d/b/a Teva Sport Sandals and Deckers
Corporation. (Exhibit 10.25 to the Registrant's Registration
Statement on Form S-1, File No. 33-67248 and incorporated by
reference herein)
10.15 Loan and Guarantee Agreement, dated as of June 1, 1993,
among Holbrook Limited, Prosperous Dragon Manufacturing
Company Limited, Zhongshan Prosperous Dragon Shoes Co. Ltd.
and Robin Huang. (Exhibit 10.26 to the Registrant's
Registration Statement on Form S-1, File No. 33-67248 and
incorporated by reference herein)
10.16 Assignment and Assumption of Loan and Guarantee Agreement
and Promissory Note, dated as of July 1, 1993, among
Holbrook Limited, Prosperous Dragon Manufacturing Company
Limited, Zhongshan Prosperous Dragon Shoes Co. Ltd., Robin
Huang and Deckers Corporation. (Exhibit 10.27 to the
Registrant's Registration Statement on Form S-1, File No.
33-67248 and incorporated by reference herein)
10.17 Third Amendment to Employment Agreement with Douglas B.
Otto. (Exhibit 10.30 to the Registrant's Registration
Statement on Form S-1, File No. 33-67248 and incorporated by
reference herein)
10.18 Adjustment Agreement, dated March 21, 1994, between Mark
Thatcher and Deckers Outdoor Corporation. (Exhibit 10.35 to
the Registrant's Form 10-K for the period ended December 31,
1993 and incorporated by reference herein)
50
53
EXHIBIT
- -------
10.19 Agreement for Sales of Assets, dated January 26, 1995,
between Ken and Nancy Young and Deckers Acquisition
Corporation. (Exhibit 10.36 to the Registrant's Form 10-K
for the period ended December 31, 1994 and incorporated by
reference herein)
10.20 Amendment of Loan and Guarantee Agreement and Promissory
Note, dated December 31, 1994, among Holbrook Limited,
Prosperous Dragon Manufacturing Company Limited, Zhongshan
Prosperous Dragon Shoes Company Limited, Robin Huang and
Deckers Outdoor Corporation. (Exhibit 10.38 to the
Registrant's Form 10-K for the period ended December 31,
1994 and incorporated by reference herein)
10.21 Consent and Agreement re: Alp Sport Sandals, dated December
30, 1994, between Mark Thatcher and Deckers Outdoor
Corporation. (Exhibit 10.39 to the Registrant's Form 10-K
for the period ended December 31, 1994 and incorporated by
reference herein)
10.22 Credit Agreement for Deckers Outdoor Corporation and First
Interstate Bank, dated July 27, 1995. (Exhibit 10.41 to the
Registrant's Form 10-Q for the period ended September 30,
1995 and incorporated by reference herein)
10.23 Promissory Note for Deckers Outdoor Corporation and First
Interstate Bank, dated July 27, 1995. (Exhibit 10.42 to the
Registrant's Form 10-Q for the period ended September 30,
1995 and incorporated by reference herein)
10.24 Pledge Agreement for Deckers Outdoor Corporation and First
Interstate Bank, dated July 27, 1995. (Exhibit 10.43 to the
Registrant's Form 10-Q for the period ended September 30,
1995 and incorporated by reference herein)
10.25 Security Agreement for Deckers Outdoor Corporation and First
Interstate Bank, dated July 27, 1995. (Exhibit 10.44 to the
Registrant's Form 10-Q for the period ended September 30,
1995 and incorporated by reference herein)
10.26 Deckers Outdoor Corporation 1995 Employee Stock Purchase
Plan. (Exhibit 4.4 to the Registrant's Registration
Statement on Form S-8, File No. 33-96850 and incorporated by
reference herein)
10.27 Letter agreement dated March 5, 1996 between Deckers Outdoor
Corporation and First Interstate Bank. (Exhibit 10.39 to the
Registrant's Form 10-K for the period ended December 31,
1995 and incorporated by reference herein)
10.28 Employment Agreement between Diana M. Wilson and Deckers
Outdoor Corporation, dated December 12, 1995. (Exhibit 10.40
to the Registrant's Form 10-K for the period ended December
31, 1995 and incorporated by reference herein)
10.29 Amended Compensation Plan for Outside Members of the Board
of Directors. (Exhibit 10.42 to the Registrant's Form 10-Q
for the period ended September 30, 1996 and incorporated by
reference herein)
10.30 Extension Agreement to Employment Agreement with Douglas B.
Otto. (Exhibit 10.36 to the Registrant's Form 10-K for the
period ended December 31, 1996 and incorporated by reference
herein)
10.31 Extension and Restatement of Employment Agreement between
Diana M. Wilson and Deckers Outdoor Corporation, dated April
18, 1997. (Exhibit 10.37 to the Registrant's Form 10-Q for
the period ended March 31, 1997 and incorporated by
reference herein)
10.32 Limited Recourse Secured Promissory Note between Diana M.
Wilson and Deckers Outdoor Corporation, dated April 18,
1997. (Exhibit 10.38 to the Registrant's Form 10-Q for the
period ended March 31, 1997 and incorporated by reference
herein)
10.33 Stock Pledge Agreement between Diana M. Wilson and Deckers
Outdoor Corporation, dated April 18, 1997. (Exhibit 10.39 to
the Registrant's Form 10-Q for the period ended March 31,
1997 and incorporated by reference herein)
10.34 Third Amendment to Credit Agreement between Deckers Outdoor
Corporation and Wells Fargo Bank, dated March 24, 1998.
(Exhibit 10.35 to the Registrant's Form 10-K for the period
ended December 31, 1998 and incorporated by reference
herein).
10.35 Fourth Amendment to Credit Agreement between Deckers Outdoor
Corporation and Wells Fargo Bank, dated March 25, 1998.
(Exhibit 10.36 to the Registrant's Form 10-K for the period
ended December 31, 1998 and incorporated by reference
herein).
10.36 Fifth Amendment to Credit Agreement between Deckers Outdoor
Corporation and Wells Fargo Bank, dated May 29, 1998.
(Exhibit 10.37 to the Registrant's Form 10-Q for the period
ended June 30, 1998 and incorporated by reference herein)
51
54
EXHIBIT
- -------
10.37 Sixth Amendment to Credit Agreement between Deckers Outdoor
Corporation and Wells Fargo Bank, dated July 22, 1998.
(Exhibit 10.38 to the Registrant's Form 10-Q for the period
ended June 30, 1998 and incorporated by reference herein)
10.38 Shareholder Rights Agreement, dated as of November 12, 1998.
(Exhibit 10.39 to the Registrant's Form 10-Q for the period
ended September 30, 1998 and incorporated by reference
herein)
10.39 Letter agreement between Deckers Outdoor Corporation and
Wells Fargo Bank, dated November 20, 1998. (Exhibit 10.40 to
the Registrant's 10-Q for the period ended September 30,
1998 and incorporated by reference herein).
10.40 Loan and Security Agreement by and among Congress Financial
Corporation (Western) and Deckers Outdoor Corporation,
Deckers Outdoor Corporation International, Simple Shoes,
Inc., Ugg Holdings, Inc. and Heirlooms, Inc., dated January
21, 1999.
21.1 Subsidiaries of Registrant.
23.1 Independent Auditors' Consent.
52
55
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
DECKERS OUTDOOR CORPORATION
(Registrant)
/s/ DOUGLAS B. OTTO
--------------------------------------
Douglas B. Otto
Chief Executive Officer
Date:
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
/s/ DOUGLAS B. OTTO Chairman of the Board, President and
- --------------------------------------------- Chief Executive Officer (Principal
Douglas B. Otto Executive Officer)
/s/ M. SCOTT ASH Chief Financial Officer
- --------------------------------------------- (Principal Financial and Accounting Officer)
M. Scott Ash
/s/ RONALD D. PAGE Director
- ---------------------------------------------
Ronald D. Page
/s/ KARL F. LOPKER Director
- ---------------------------------------------
Karl F. Lopker
/s/ GENE E. BURLESON Director
- ---------------------------------------------
Gene E. Burleson
/s/ REX A. LICKLIDER Director
- ---------------------------------------------
Rex A. Licklider
Director
- ---------------------------------------------
Diana M. Wilson
53