UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended July 3, 2004 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _______________________ to ______________________ Commission file number 1-8769 R. G. BARRY CORPORATION ------------------------ (Exact name of registrant as specified in its charter) OHIO 31-4362899 - -------------------------------------------------------------------------------- (State or other jurisdiction (IRS Employer of incorporation or organization) Identification Number) 13405 Yarmouth Road NW, Pickerington, Ohio 43147 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) 614-864-6400 ------------ (Registrant's telephone number, including area code) NOT APPLICABLE -------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Common Shares, $1 Par Value, Outstanding as of July 3, 2004 - 9,836,602 Index to Exhibits at page 22 Page 1 PART I - FINANCIAL INFORMATION ITEM 1 - FINANCIAL STATEMENTS R. G. BARRY CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS July 3, 2004 January 3, 2004 (unaudited) ------------ --------------- (in thousands) ASSETS: Cash $ 1,630 $ 2,012 Accounts receivable (less allowances of $5,296 and $18,494, respectively) 8,417 7,118 Assets held for disposal 290 -- Inventory 32,142 32,797 Prepaid expenses 1,735 2,452 -------- -------- Total current assets 44,214 44,379 -------- -------- Property, plant and equipment, at cost 17,095 35,274 Less accumulated depreciation and amortization 12,219 25,905 -------- -------- Net property, plant and equipment 4,876 9,369 -------- -------- Other assets 3,593 7,532 -------- -------- Total assets $ 52,683 $ 61,280 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY: Short-term notes payable 20,678 2,000 Current installments of long-term debt 1,847 3,869 Accounts payable 5,532 7,485 Accrued expenses 6,075 5,180 -------- -------- Total current liabilities 34,132 18,533 -------- -------- Accrued retirement costs and other, net 14,576 14,841 Long-term debt, excluding current installments 1,269 2,141 -------- -------- Total liabilities 49,977 35,515 -------- -------- Minority interest 388 378 Shareholders' equity: Preferred shares, $1 par value per share Authorized 3,775 Class A shares, 225 Series I Junior Participating Class A Shares, and 1,000 Class B Shares, none issued -- -- Common shares, $1 par value per share Authorized 22,500 shares (excluding treasury shares) 9,837 9,834 Additional capital in excess of par value 12,851 12,851 Deferred compensation (35) (84) Accumulated other comprehensive loss (3,419) (3,370) Retained earnings (accumulated deficit) (16,916) 6,156 -------- -------- Net shareholders' equity 2,318 25,387 -------- -------- Total liabilities and shareholders' equity $ 52,683 $ 61,280 ======== ======== Page 2 R. G. BARRY CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS Thirteen weeks ended Twenty-six weeks ended ----------------------------- ----------------------------- July 3, 2004 June 28, 2003 July 3, 2004 June 28, 2003 ------------ ------------- ------------ ------------- (unaudited) (in thousands, except per share amounts) Net sales $ 14,516 $ 19,016 $ 32,946 $ 39,394 Cost of sales 10,483 12,563 23,400 25,856 -------- -------- -------- -------- Gross profit 4,033 6,453 9,546 13,538 Selling, general and administrative expense 8,857 10,018 20,054 21,575 Restructuring and asset impairment charges 3,619 - 11,901 200 -------- -------- -------- -------- Operating loss (8,443) (3,565) (22,409) (8,237) Other income 45 - 90 53 Net interest expense (291) (297) (532) (471) -------- -------- -------- -------- Loss from continuing operations before income tax (expense) benefit and minority interest (8,689) (3,862) (22,851) (8,655) Income tax (expense) benefit (230) 1,474 (228) 3,341 Minority interest, net of tax (10) (7) (9) (35) -------- -------- -------- -------- Loss from continuing operations (8,929) (2,395) (23,088) (5,349) Income (loss) from discontinued operations, net of income tax 16 (390) 16 (1,308) -------- -------- -------- -------- Net loss ($ 8,913) ($ 2,785) ($23,072) ($ 6,657) ======== ======== ======== ======== Net loss per common share Basic and diluted ($ 0.91) ($ 0.29) ($ 2.34) ($ 0.68) ======== ======== ======== ======== Average number of common shares outstanding Basic and diluted 9,839 9,815 9,839 9,813 ======== ======== ======== ======== Page 3 R. G. BARRY CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS Twenty-six weeks ended ----------------------------- July 3, 2004 June 28, 2003 ------------ ------------- (unaudited) (in thousands) Cash flows from operating activities: Net loss ($23,088) ($ 6,657) Net income (loss) from discontinued operations 16 (1,308) -------- -------- Net loss from continuing operations (23,072) (5,349) Adjustments to reconcile net loss to net cash provided by (used in) operating activities: Depreciation and amortization of property, plant and equipment 843 844 Restructuring and impairment non-cash charges 6,486 -- Amortization of deferred compensation 50 58 Minority interest, net of tax 9 35 Changes in: Accounts receivable, net (1,275) (2,366) Inventory 580 (11,174) Prepaid expenses 716 (458) Deferred and recoverable income taxes -- 1,391 Other 826 888 Accounts payable (1,428) 420 Accrued expenses 918 (1,964) Accrued retirement costs and other, net (186) 17 -------- -------- Net cash used in continuing operations (15,533) (17,658) -------- -------- Net cash used in discontinued operations (533) (1,654) -------- -------- Net cash used in operating activities (16,066) (19,312) -------- -------- Cash flows from investing activities: Purchases of property, plant and equipment (123) (1,568) Proceeds from the sale of property, plant and equipment 64 -- -------- -------- Net cash used in investing activities (59) (1,568) -------- -------- Cash flows from financing activities: Proceeds from short-term notes, net 28,936 18,000 Repayments of short-term notes (10,204) -- Repayment of long-term debt (2,976) (446) Proceeds from shares issued and other 2 121 -------- -------- Net cash provided by financing activities 15,758 17,675 -------- -------- Effect of exchange rates on cash (15) 38 -------- -------- Net decrease in cash (382) (3,167) Cash at the beginning of the period 2,012 6,881 -------- -------- Cash at the end of the period $ 1,630 $ 3,714 ======== ======== Supplemental cash flow disclosures: Interest paid $ 508 $ 416 ======== ======== Income taxes paid (refunded), net $ 28 ($ 4,653) ======== ======== Page 4 R. G. BARRY CORPORATION AND SUBSIDIARIES Notes to Consolidated Financial Statements - Under Item 1 of Part I of Form 10-Q for the periods ended July 3, 2004 and June 28, 2003 (in thousands, except per share data) 1. These interim consolidated financial statements are unaudited. All adjustments (consisting solely of normal recurring adjustments) have been made which, in the opinion of management, are necessary to fairly present the results of operations. 2. R. G. Barry Corporation and its subsidiaries (the "Company") operate on a fifty-two or fifty-three week fiscal year, ending annually on the Saturday nearest December 31st. Fiscal 2004 is a fifty-two week year, while fiscal 2003 was a fifty-three week year. 3. The Company has various stock option plans, under which have been granted incentive stock options and nonqualified stock options exercisable for periods of up to 10 years from the date of grant at prices not less than fair market value at the date of grant. In December 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 148, Accounting for Stock- Based Compensation - Transition and Disclosure, an amendment of SFAS No. 123. SFAS No. 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amended the disclosure requirements of SFAS No. 123, Accounting for Stock-Based Compensation, to require prominent disclosures in annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect in measuring compensation expense. The disclosure requirements of SFAS No. 148 were effective for periods beginning after December 15, 2002. The Company has elected, in accordance with the provisions of SFAS No. 123, as amended by SFAS No. 148, to apply the current accounting rules under APB Opinion No. 25 and related interpretations in accounting for employee stock options and, accordingly, has presented the disclosure-only information as required by SFAS No. 123. Had the Company elected to recognize compensation expense based on the fair value of the options granted at the grant date as prescribed by SFAS No. 123, the Company's net loss would approximate the pro forma amounts indicated in the table below, for the periods noted: Thirteen weeks ended Twenty-six weeks ended ------------------------------ ----------------------------- July 3, 2004 June 28, 2003 July 3, 2004 June 28, 2003 ------------ ------------- ------------ ------------- Net loss: As reported $ (8,913) $ (2,785) $ (23,072) $ (6,657) Pro forma (9,057) (2,976) (23,359) (6,988) Net loss per share: As reported $ (0.91) $ (0.29) $ (2.34) $ (0.68) Pro forma (0.93) (0.30) (2.37) (0.70) Page 5 R. G. BARRY CORPORATION AND SUBSIDIARIES Notes to Consolidated Financial Statements Under Item 1 of Part I of Form 10-Q for the periods ended July 3, 2004 and June 28, 2003 - continued (in thousands, except per share data) Using the Black-Scholes option pricing model, the per-share, weighted-average fair value of stock options granted during 2004 and 2003, was $1.20 and $1.69, respectively, on the date of grant. The assumptions used in estimating the fair value of the options as of July 3, 2004, and June 28, 2003 were: July 3, 2004 June 28, 2003 ------------ ------------- Expected dividend yield 0% 0% Expected volatility 60% 50% Risk-free interest rate 3.00% 3.00% Expected life-ISO grants 6 years 6 years Expected life-nonqualified grants 2 - 8 years 8 years 4. Income tax expense (benefit), from continuing operations, for the twenty-six week periods ended July 3, 2004 and June 28, 2003, consisted of: 2004 2003 ---- ---- U. S. Federal and Foreign tax expense (benefit) $228 $(2,952) State & Local tax expense (benefit) -- (389) ---- ------- Total $228 $(3,341) ==== ======= Income tax expense (benefit) for the twenty-six week periods ended July 3, 2004 and June 28, 2003 differed from the amounts computed by applying the U. S. federal income tax rate of 34.0 percent to pretax loss, as a result of the following: 2004 2003 ---- ---- Computed "expected" tax: U. S. Federal $(7,850) $(2,943) Valuation allowance 7,850 -- Foreign and other, net 228 (141) State & Local benefit, net of Federal tax benefit -- (257) ------- ------- Total $ 228 $(3,341) ======= ======= 5. Basic net loss per common share has been computed based on the weighted average number of common shares outstanding during each period. Diluted net loss per common share is based on the weighted average number of outstanding common shares during the period, plus, when their effect is dilutive, potential common shares consisting of certain common shares subject to stock options and the employee stock purchase plan. Diluted loss per common share as of July 3, 2004 and June 28, 2003 does not include the effect of potential common shares due to the antidilutive effect of these instruments, as a result of the losses incurred during the periods noted. Page 6 R. G. BARRY CORPORATION AND SUBSIDIARIES Notes to Consolidated Financial Statements Under Item 1 of Part I of Form 10-Q for the periods ended July 3, 2004 and June 28, 2003 - continued (in thousands, except per share data) 6. Inventory by category for the Company consisted of the following: July 3, January 3, 2004 2004 ---- ---- Raw materials $ 2,172 $ 3,771 Work in process 155 615 Finished goods 29,815 28,471 ------- ------- Total inventory $32,142 $32,797 ======= ======= Inventory is presented at its net realizable value, net of write-downs. Raw materials reflect a write-down balance of $2,153 as of July 3, 2004 and $2,839 as of January 3, 2004, and finished goods reflect a write-down balance of $194 as of July 3, 2004 and $3,022 as of January 3, 2004. 7. Restructuring and asset impairment charges - The Company has previously announced plans to reduce costs and improve operating efficiencies, and has recorded restructuring and asset impairment charges as components of operating expense. The following schedule highlights actual activities for the twenty-six week period through July 3, 2004, with comparative information through June 28, 2003. Non-Cash As of Write-Offs As of Jan. 3, Charges Estimate and July 3, 2004 in 2004 Adjustments Paid in 2004 2004 ---- ------- ----------- ------------ ---- Employee separations $ 174 $ 2,566 $ (9) $ 2,021 $ 710 Other exit costs -- 1,708 -- 1,708 -- Noncancelable lease costs -- 1,349 -- 77 1,272 Asset impairments -- 6,287 -- 6,287 -- ------ -------- ----- -------- ------- Total restructuring costs $ 174 $ 11,901 $ (9) $ 10,093 $ 1,982 ====== ======== ===== ======== ======= The Company expects that a substantial portion of the accrued obligations will be paid before the end of the 2004 fiscal year. Non-Cash As of Write-Offs As of Dec. 28, Charges Estimate and June 28, 2002 in 2003 Adjustments Paid in 2003 2003 ---- ------- ----------- ------------ ---- Employee separations $ 1,530 - - $ 1,010 $ 520 Asset impairments - 200 - 200 - Noncancelable lease costs 208 - - 8 200 ------- ----- ----- ------- ----- Total restructuring costs $ 1,738 $ 200 - $ 1,218 $ 720 ======= ===== ===== ======= ===== Page 7 R. G. BARRY CORPORATION AND SUBSIDIARIES Notes to Consolidated Financial Statements Under Item 1 of Part I of Form 10-Q for the periods ended July 3, 2004 and June 28, 2003 - continued (in thousands, except per share data) 8. Segment Information - The Company manufactures and markets comfort footwear for at- and around-the-home. The Company considers its "Barry Comfort" at- and around-the-home comfort footwear groups in North America and in Europe, as its two operating segments. The accounting policies of the operating segments are substantially similar, except that the disaggregated information has been prepared using certain management reports, which by their very nature require estimates. In addition, certain items from these management reports have not been allocated between the operating segments, including such items as a) costs of certain administrative functions, b) current and deferred income tax expense (benefit) and deferred tax assets (liabilities), and c) in some periods, certain other operating provisions. Barry Comfort ------------------- Twenty-six weeks ended North July 3, 2004 America Europe Total ------- ------ ----- Net sales $ 28,368 $4,578 $ 32,946 Gross profit 8,860 686 9,546 Depreciation and amortization 722 121 843 Interest expense 501 31 532 Restructuring and asset impairment charges 11,901 -- 11,901 Pre tax profit (loss) from continuing operations (22,943) 92 (22,851) Additions to property, plant and equipment 92 31 123 Total assets devoted $ 51,279 $1,404 $ 52,683 ======== ====== ======== Barry Comfort ------------------- Twenty-six weeks ended North June 28, 2003 America Europe Total ------- ------ ----- Net sales $ 34,091 $5,303 $39,394 Gross profit 12,650 888 13,538 Depreciation and amortization 737 107 844 Interest expense 450 21 471 Restructuring and asset impairment charges 200 - 200 Pre tax loss from continuing operations (8,249) (406) (8,655) Additions to property, plant and equipment 1,500 68 1,568 Total assets devoted $ 89,418 $6,499 $95,917 ======== ====== ======== Page 8 R. G. BARRY CORPORATION AND SUBSIDIARIES Notes to Consolidated Financial Statements Under Item 1 of Part I of Form 10-Q for the periods ended July 3, 2004 and June 28, 2003 - continued (in thousands, except per share data) 8. Segment information - continued Barry Comfort ------------------- Thirteen weeks ended North July 3, 2004 America Europe Total ------- ------ ----- Net sales $ 12,852 $1,664 $ 14,516 Gross profit 3,644 389 4,033 Depreciation and amortization 367 59 426 Interest expense 271 20 291 Restructuring and asset impairment charges 3,619 -- 3,619 Pre tax profit (loss) from continuing operations (8,748) 57 (8,689) Additions to property, plant and equipment 57 25 82 Total assets devoted $ 51,279 $1,404 $ 52,683 ======== ====== ======== Barry Comfort ------------------- Thirteen weeks ended North June 28, 2003 America Europe Total ------- ------ ----- Net sales $ 16,959 $2,057 $19,016 Gross profit 6,156 297 6,453 Depreciation and amortization 392 14 406 Restructuring and asset impairment charges -- -- -- Interest expense, net 282 15 297 Pre tax loss from continuing operations (3,471) (391) (3,862) Additions to property, plant and equipment 651 - 651 Total assets devoted $ 89,418 $6,499 $95,917 ======== ====== ======= Page 9 R. G. BARRY CORPORATION AND SUBSIDIARIES Notes to Consolidated Financial Statements Under Item 1 of Part I of Form 10-Q for the periods ended July 3, 2004 and June 28, 2003 - continued (in thousands, except per share data) 9. During 2003, the Company sold certain assets of its Vesture thermal products subsidiary. Selected financial data relating to the discontinued operations follows: Thirteen weeks ended Twenty-six weeks ended -------------------- ---------------------- July 3, June 28, July 3, June 28, 2004 2003 2004 2003 ---- ---- ---- ------- Net sales $ -- $ 878 $ -- $ 1,759 ===== ===== ==== ======= Gross profit -- 97 -- 57 Selling, general and administrative (2) 392 (2) 1,686 Income (loss) on sale of certain assets relating to discontinued operations 14 (223) 14 (223) ----- ----- ---- ------- Income (loss) from discontinued operations before income tax 16 (363) 16 (1,745) Income tax benefit -- 196 -- 660 ----- ----- ---- ------- Income (loss) from discontinued operations net of income tax $ 16 $(390) $ 16 $(1,308) ===== ===== ==== ======= 10. Employee Retirement Plans The Company uses a measurement date of September 30 in making the required pension computations on an annual basis. In 2004, the Company has potential pension related payments of $1,617 for unfunded, nonqualified supplemental retirement plans as well as for payments anticipated for the 2003 year and 2004 quarterly estimated contributions into the funded, qualified associate retirement plan. The Company has applied for a deferral of the lump 2003 payment due in September 2004, approximating $747, and is awaiting approval of this application by the Internal Revenue Service. Once approved, this payment anticipated in the contribution projection above for 2004 will be deferred to 2005. During the first six months of 2004, the Company made payments totaling $286 under its qualified retirement plan and its nonqualified supplemental retirement plan. The components of net periodic benefit cost for the retirement plans were: Thirteen weeks ended Twenty-six weeks ended -------------------- ---------------------- July 3, June 28, July 3, June 28, 2004 2003 2004 2003 ------ -------- ------- ------- Service cost $ -- $ 230 $ 214 $ 461 Interest cost 564 519 1,123 1,085 Expected return on plan assets (506) (504) (1,003) (1,009) Net amortization 31 (20) 159 54 Curtailment loss -- -- 1,128 -- ----- ----- ------- ------- Total pension expense $ 89 $ 225 $ 1,621 $ 591 ===== ===== ======= ======= Page 10 R. G. BARRY CORPORATION AND SUBSIDIARIES ITEM 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations "SAFE HARBOR" STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995: The statements in this Quarterly Report on Form 10-Q, other than statements of historical fact, are forward-looking statements, and are based upon information available to the Company on the date of this Report. Our forward-looking statements inherently involve risks and uncertainties that could cause actual results and outcomes to differ materially from those anticipated by our forward-looking statements. Factors that would cause or contribute to such differences include, but are not limited to, the ability of the Company to close its manufacturing facilities in Mexico in accordance with plan without incurring substantial unplanned cost or delays or experiencing unforeseen labor difficulties; the ability of the Company to substantially increase its sourcing of products from outside North America to replace the products previously manufactured in its own plants in Mexico without incurring substantial unplanned cost and without negatively impacting delivery times or product quality; the continuing willingness of CIT to fund the Company's financing requirements under CIT's discretionary factoring and financing arrangement with the Company; the Company's ability to reduce its inventory levels in accordance with its plan; the continued demand for the Company's products by its customers and the continuing willingness of its customers and suppliers to support the Company as it implements its new business plan; the ability of the Company generally to successfully implement its new business plan; the unexpected loss of key management; and the impact of competition on the Company's market share. Other risks to the Company's business are detailed in our previous press releases, shareholder communications and Securities Exchange Act filings including our Annual Report on Form 10-K for the fiscal year ended January 3, 2004. Except as required by applicable law, we do not undertake to update the forward-looking statements contained in this Quarterly Report on Form 10-Q to reflect new information that becomes available after the date hereof. Introduction The following discussion and analysis provides investors and others with information that management believes to be necessary for an understanding of our financial condition and results of operations and cash flows and should be read in conjunction with the consolidated financial statements and notes to consolidated financial statements and other information found in this Quarterly Report on Form 10-Q. Critical Business Issues During the fiscal year 2004, management is focused on several key issues - implementation of our new business plan, inventory management and liquidity. New Business Plan With the assistance of experienced turnaround consultants, we developed a new business model that we believe should significantly reduce operating costs by simplifying our product offering and focusing our business on a core customer base that represented approximately 70% of our 2003 revenues. The key components of our new business plan and the actions we have already taken or expect to take in 2004 are as follows: - - We have employed an experienced turnaround professional as the President and CEO on an interim basis. - - We are streamlining our management structure and seeking to reduce selling, general and administrative costs to a lower level that is more consistent with our simplified business model. Page 11 Management's Discussion and Analysis of Financial Condition and Results of Operations - continued Critical Business Issues - continued - - We have reduced costs by closing our Mexican manufacturing facilities during the second quarter of 2004 and we are relying upon third party contract manufacturers in China and other locations outside North America to manufacture our products. - - We intend to further reduce operating costs through the closure of our operations support office in San Antonio, Texas by the end of 2004. The staff at this facility primarily supports our operations in Mexico. Some functions performed in San Antonio will be maintained and relocated to our Columbus, Ohio headquarters. As a result of the early termination of the office lease in San Antonio, we currently estimate that additional restructuring charges of approximately $300 thousand, relating to the early lease termination, will be incurred during the last half of 2004. - - We expect to reduce our inventory levels from year-end 2003 levels. We concluded that the actions contemplated by the 2004 business plan were necessary to materially reduce and eventually eliminate the operating losses incurred in 2002 and 2003. Because the business plan will result in substantial changes in the way in which we have done business for many years, we recognize that the implementation of the business plan carries business risks, which have been discussed in the section captioned "Risk Factors" in Item 7 of our Annual Report on Form 10-K for the fiscal year ended January 3, 2004. Implementation of the business plan has resulted in significant costs in the form of severance payments and asset write-downs, and is expected to result in additional such costs during the second half of 2004. (See also Note 7 of Notes to Consolidated Financial Statements.) In part due to these costs and write-downs, we expect to report an operating loss in 2004. 2004 Liquidity Based on the actions being taken in 2004 to create a lower-cost, more efficient business model, as described above, and the new CIT Facility, as described below under "CIT Credit Facility", management believes that there should be sufficient liquidity and capital resources to fund our operations through the balance of fiscal 2004, including our anticipated restructuring costs. Although our restructuring involves cash outlays, the majority of the 2004 restructuring costs are expected to be non-cash in nature and we expect that our plans to reduce inventory should generate additional cash flow. We recognize that the implementation of our new business plan presents business risks, and as discussed, we can give no assurance of the plan's success. However, we believe that the new business model, once implemented, should give the Company a reasonable opportunity to return to profitability, although that will not occur in 2004. Critical Accounting Policies and Use of Estimates The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires that we make certain estimates. These estimates can affect our reported revenues, expenses and results of operations, as well as the reported values of certain of our assets and liabilities. Making estimates about the impact of future events has been a generally accepted practice for nearly all companies in nearly all industries for many years. We make these estimates after gathering as much information from as many resources, both internal and external to our organization, as are available to us at the time. After reasonably assessing the conditions that exist at the time, we make estimates and prepare our financial reports. We make these estimates in a consistent manner from period to period, based upon historical trends and conditions, and after review and analysis of current events and conditions. Management believes that these estimates reasonably reflect the current assessment of the financial impact of events that may not become known with certainty until some time in the future. Page 12 Management's Discussion and Analysis of Financial Condition and Results of Operations - continued Critical Accounting Policies and Use of Estimates - continued A summary of the more critical of these accounting policies requiring management estimates follows: a) We recognize revenue when goods are shipped from our warehouses distribution points to our customers and title passes. In certain circumstances, we have made arrangements with customers that provide for returns, discounts, promotions and other incentives. At the time we recognize revenue, we reduce our measurement of revenue by an estimated cost of potential future returns and allowable retailer promotions and incentives, and recognize a corresponding reduction in the amount of accounts receivable. As a result of the rapidly changing retail environment and the ever-changing economic environment, it is possible that returns or retailer promotions and incentives could be different than anticipated. Accordingly, we have identified this estimate as one requiring significant management judgement. Where appropriate, we also estimate an amount for the potential of doubtful accounts as a result of bad debts. b) We value inventories using the lower of cost or market method, based upon a standard costing method. We evaluate our inventories for any impairment in realizable value in light of the prior selling season, the economic environment, and our expectations for the upcoming selling seasons, and we provide appropriate write-downs under the circumstances. As of July 3, 2004, we estimated that the standard cost valuation of our inventory exceeded the estimated net realizable value of that inventory by $2.3 million, compared with a similar estimate made as of June 28, 2003 of $1.2 million. c) We make an assessment of the amount of income taxes that will become currently payable or recoverable for the just concluded period and what deferred tax costs or benefits will become realizable for income tax purposes in the future as a result of differences between results of operations as reported in conformity with accounting principles generally accepted in the United States and the requirements of the increasingly complex income tax codes existing in the various jurisdictions where we operate. In evaluating the future usability of our deferred and recoverable tax assets, we are relying on our capacity for refund of federal income taxes due to our tax loss carry-back position, and on projections of future profits. As a result of our cumulative losses, we have determined that it is uncertain when and whether the deferred tax assets we had recognized on our consolidated balance sheet will have realizable value in future years. Accordingly, we have fully reserved the value of those deferred tax assets. Should our profits improve in future years, such that those deferred tax items become realizable as deductions in future years, we will recognize that benefit, by reducing our reported tax expense in future years, once their realization becomes assured. d) We record accounts receivable net of allowances for potential future returns, allowable retailer promotions and incentives, anticipated discounts, and where appropriate allowances for doubtful accounts. Allowances for doubtful accounts are determined through analysis of the aging as of the date of the consolidated financial statements, assessments of collectibility based on historic trends and an evaluation of economic conditions. Costs associated with potential returns of products as well as allowable customer markdowns and operational chargebacks, net of expected recoveries, are included as a reduction to net sales and are part of the provision for allowances. These provisions are based upon seasonal negotiations and historic deduction trends, net expected recoveries and the evaluation of current market conditions. With the new CIT Facility in 2004, our exposure to bad debts is greatly diminished. e) We account for the CIT Facility as a financing facility in recognizing and recording trade receivables. For financial statement purposes, the factoring of receivables under the CIT Facility is not considered a sale of receivables. As such, the amounts advanced by CIT are considered short-term loans and are included within short-term notes payable on the accompanying consolidated balance sheet. Page 13 Management's Discussion and Analysis of Financial Condition and Results of Operations - continued Critical Accounting Policies and Use of Estimates - continued f) We make estimates of the future costs associated with restructuring plans related to operational changes that we have announced. As of July 3, 2004, we had an accrued balance of $2.0 million relating to the estimated future costs of closing or reorganizing certain operations, as previously outlined. As of June 28, 2003, we had an accrued balance of $720 thousand for similar restructuring and reorganization activities. Should the actual costs of these activities exceed these estimates, the excess costs will be recognized in the period in which such costs occur. Conversely, should the costs of such restructuring be less than the amounts estimated, future periods would benefit by that difference. g) In addition, there are various other accounting policies, which also require some judgmental input by management. We believe that we have followed these policies consistently from year to year, period to period. For an additional discussion of all of our significant accounting policies, the reader may refer to Note 1 of the Notes to Consolidated Financial Statements included in Item 8 of our Annual Report on Form 10-K for the fiscal year ended January 3, 2004. Actual results may vary from these estimates as a result of activities after the period end estimates have been made, and those subsequent activities will have either a positive or negative impact upon the results of operations in a period subsequent to the period when we originally made the estimate. Liquidity and Capital Resources As of the end of the second quarter of 2004, we had $10.1 million in net working capital. This compares with $35.4 million at the end of the second quarter of 2003, and $25.8 million at fiscal year-end 2003. The declines in net working capital from the end of the second quarter of 2003 and from fiscal year-end 2003 to the end of the second quarter of 2004 are primarily the result of the net losses we have incurred during the periods. The primary components of net working capital have changed as follows: - - Net accounts receivable decreased from $14.9 million at the end of the second quarter of 2003, to $8.4 million at the end of the second quarter of 2004. A portion of the decrease in accounts receivables reflects the $4.5 million decrease in net sales during the second quarter of 2004 compared with the same quarter in 2003. Accounts receivable at the end of the second quarter of 2004 increased by $1.3 million from $7.1 million at the end of fiscal 2003, representing a seasonal pattern of changes in receivables. - - Inventories ended the second quarter of 2004 at $32.1 million compared with $43.7 million one year ago, and $32.8 million as of the end of fiscal 2003. Compared with one year ago, there is a decrease in aggregate raw materials and work in process inventories from period to period of approximately $7.4 million, and an approximate $4.2 million decrease in finished goods inventory. This is consistent with our new business model - eliminating our production in Mexico and purchasing finished goods from third parties in China and elsewhere. The amount of inventory has also decreased from the end of fiscal 2003 by $655 thousand, consistent with our new business operating model. - - We ended the second quarter of 2004 with $1.6 million in cash and cash equivalents, compared with $3.7 million at the end of the second quarter of 2003. At the end of fiscal 2003, we had $2.0 million in cash and cash equivalents. At the end of the second quarter of 2004, we had borrowed $18.5 million in short-term notes from CIT plus $2.2 million against a life insurance policy insuring one of the Company's former executives, compared with $18 million in short-term notes borrowed from our bank at the end of the second quarter of 2003. In addition, at the end of the second quarter of 2003, there was an outstanding balance of $4.3 million due the Metropolitan Life Insurance Company under an existing 9.7% Long Term Note which the we repaid late in March 2004. The increase in short-term borrowings at the end of the second quarter of 2004 compared with the end of the second quarter of 2003, is primarily related to the losses that we incurred during the second half of 2003 and the first half of 2004. At the end of fiscal 2003 there were $2.0 million in short-term bank borrowings outstanding. Page 14 Management's Discussion and Analysis of Financial Condition and Results of Operations - continued Net capital expenditures during the first half of 2004 amounted to $59 thousand compared with $1.6 million during the first half of 2003. All expenditures in both years were funded out of working capital. As we transition from a manufacturing business model to an outsourcing model for procuring our finished goods products, we expect capital expenditures in future periods will continue at less than historic levels. CIT Credit Facility On March 29, 2004, we entered into a new factoring and financing agreement (the "CIT Facility") with The CIT Group/Commercial Services, Inc. ("CIT"). On March 30, 2004, we borrowed under the CIT Facility approximately $10.3 million to repay all outstanding indebtedness under our Revolving Credit Agreement ("Revolver") with Huntington National Bank ("Huntington") and related charges, and the Revolver was terminated. In addition, on that date, we borrowed approximately $2.3 million under the CIT Facility to repay all outstanding indebtedness under our Note Agreement with the Metropolitan Life Insurance Company and that agreement was terminated. The CIT Facility provides us with advances in a maximum amount equal to the lesser of (i) $35 million or (ii) a Borrowing Base (as defined in the CIT Facility). The CIT Facility is a discretionary facility, which means that CIT is not contractually obligated to advance us funds. The Borrowing Base, which is determined by CIT in its sole discretion, is determined on the basis of a number of factors, including the amount of our eligible accounts receivable and the amount of our qualifying inventory, subject to the right of CIT to establish reserves against availability as it deems necessary. The CIT Facility also includes a $3 million subfacility for the issuance of letters of credit that is counted against the maximum borrowing amount discussed above. Our obligations under the CIT Facility are secured by a first priority lien and mortgage on substantially all of our assets, including accounts receivable, inventory, intangibles, equipment, intellectual property and real estate. In addition, we have granted to CIT a pledge of the stock in our U.S. wholly owned subsidiaries. The subsidiaries have guaranteed our indebtedness under the CIT Facility. As part of the CIT Facility, we entered into a factoring agreement with CIT, under which CIT will purchase accounts receivable that meet CIT's eligibility requirements. The purchase price for the accounts is the gross face amount of the accounts, less factoring fees (discussed below), discounts available to our customers and other allowances. The factoring agreement provides for a factoring fee equal to 0.50% of the gross face amount of all accounts receivable factored by CIT, plus certain customary charges. For accounts outside the United States, we will pay an additional factoring fee of 1% of the gross face amount. For each 30 day period that an account exceeds 60 days unpaid, we must pay an additional fee of 0.25% of the gross face amount. The minimum factoring commission fee per year is $400,000 and if the fees paid throughout the year do not meet this minimum, CIT will charge us for the difference. We also agreed to pay CIT's expenses incurred in connection with negotiation of the CIT Facility, as well as fees for preparing reports, wire transfers, setting up accounts and other administrative services. Page 15 Management's Discussion and Analysis of Financial Condition and Results of Operations - continued Amounts outstanding under the CIT Facility bear interest at the prime rate as announced by JPMorgan Chase Bank ("Prime Rate") plus 1% (averaging 5% throughout the second quarter of 2004; increasing to 5.25% effective July 1, 2004 and as of the end of the second quarter on July 3, 2004). Interest is charged as of the last day of each month, and any change in the Prime Rate will take effect the first month following the change in the Prime Rate. Upon entering into the CIT Facility, we paid to CIT an initial facility set-up fee of $262,500. The term of the CIT Facility is for a period of three years. As of July 3, 2004, the outstanding balance under the CIT Facility was $18.5 million. The amount available to borrow under the CIT Facility changes daily, and we estimate that there was $4.0 million available to borrow under the CIT Facility as of July 3, 2004. For financial statement purposes, the factoring of receivables under the CIT Facility is not considered a sale of receivables. As such, the amounts advanced by CIT are considered short-term loans and are included within short-term notes payable on the accompanying consolidated balance sheet. We expect to meet our liquidity requirements for the remainder of 2004 from internally generated funds and borrowings under the CIT Facility. The amount of credit available under the CIT Facility is based, in part, on accounts receivable so that the adequacy of the CIT Facility in meeting our liquidity requirements will depend on the our sales results during the remainder of 2004. As discussed below in "Results of Operations-Continuing Operations," our net sales in the first half of 2004 declined by 16.4% as compared to net sales in the first half of 2003. This reduction resulted, in part, from our customers' concerns about our publicly announced liquidity concerns very early in 2004 and our introduction of new return policies which limit the magnitude of returned merchandise from our customers. Other Short-Term Debt Early in March 2004, we borrowed $2.2 million against the cash surrender value of life insurance policies insuring one of our former key executives. This $2.2 million indebtedness is classified within short-term notes payable in the accompanying consolidated balance sheet. Other Long-Term Indebtedness Effective January 1, 2002, the 15% duty imposed by the United States on slippers made in Mexico was eliminated. The slipper tariff had been scheduled for reduction at the rate of 2.5% per year until the scheduled elimination on January 1, 2008. We utilized third parties to assist us in obtaining this tariff relief. Upon the successful conclusion, we agreed to pay an aggregate of approximately $6.25 million, mostly in equal quarterly installments over a four-year period through the end of 2005. For accounting purposes, a portion of the payment to the consultants has been treated as debt and a portion of the payment has been treated as an imputed interest charge associated with that debt. The net present value of this four-year obligation, which is subordinated to our other obligations, is included within current installments and long-term debt at its discounted present value totaling $2.1 million as of the end of the second quarter of 2004. Off Balance Sheet Arrangements There have been no material changes in our "Off Balance Sheet Arrangements" and "Contractual Obligations" since the end of fiscal 2003, other than routine lease payments, the repayment of the Metropolitan Note, cancellation of the Revolver, and obtaining the CIT Facility, as noted above. Page 16 Management's Discussion and Analysis of Financial Condition and Results of Operations - continued Results of Operations - Continuing Operations During the second quarter of 2004, net sales amounted to $14.5 million, approximately $4.5 million less than net sales of $19.0 million during the same quarter in 2003. For the first half of 2004, net sales amounted to $32.9 million, compared with $39.4 million during the first half of 2003. Substantially all of the net sales decline both in the quarter and for the first half occurred in Barry Comfort North America, with a smaller portion attributable to Barry Comfort Europe. (See also Note 8 of Notes to Consolidated Financial Statements for selected segment information.) A portion of the decline in Barry Comfort North America net sales occurred in our branded Dearfoams(R) line of slippers for men and women, with smaller offsetting increases in our net sales to our mass merchandising customers. We believe that this overall reduction in net sales was attributable, in part, to our customers' concern about our publicly announced liquidity concerns early in 2004 and our introduction of new return policies which limit the magnitude of returned merchandise accepted from our customers. Gross profit during the second quarter of 2004, amounted to $4.0 million, or 27.8 percent of net sales. This compares with gross profit of $6.5 million, or 33.9 percent of net sales, in the same quarter of 2003. For the six months, gross profit as a percent of net sales was 29.0 percent in 2004 compared with 34.4 percent in 2003. The most significant portion of the decline in gross profit dollars is the result of the decrease in net sales for the periods, while a portion of the decline is the result of a change in sales mix. During 2004, a greater proportion of sales was made through the mass merchandising channels of distribution with relatively fewer sales of the Company's branded Dearfoams(R); in addition, during 2004, we sold more closeout merchandise than in prior periods, also adversely impacting gross profit. Selling, general and administrative expenses during the second quarter amounted to $8.9 million, about $1.2 million lower than the same quarter one year ago. For the six months, these expenses amounted to $20.1 million, compared with $21.6 million for the same six months last year. The decrease in these expenses reflects the initial efforts of reducing the size of the business under the new business operating model as we reduce our dependence upon manufacturing and transition to a company dependent upon third parties and the importation of merchandise. During the second quarter of 2004, we recognized $3.6 million in restructuring and asset impairment charges, and during the first six months, we have recognized a total of $11.9 million in restructuring and asset impairment charges. These charges relate to the decisions during the first six months of 2004 to close all of the manufacturing operations in Mexico and begin to source all of our product needs from third party manufacturers in China. This compares with a $200 thousand asset impairment charge during the first six months of 2003. (See also Note 7 of Notes to Consolidated Financial Statements for added information relating to restructuring and asset impairment charges.) As a part of the closing of our Mexican manufacturing operations, we engaged a firm to conduct a public auction of a substantial portion of our manufacturing equipment. The auction was conducted in early August 2004. We also engaged the services of The Meridian Group ("Meridian") to assist us in identifying auction firms that could successfully market and sell our equipment in Mexico. Our acting Chief Executive Office, Thomas Von Lehman, is currently on leave from Meridian, and Mr. Von Lehman's spouse is the President and sole owner of Meridian. We expect to pay Meridian a fee at their normal and customary rates for providing such services. Page 17 Management's Discussion and Analysis of Financial Condition and Results of Operations - continued Net interest expense decreased slightly during the second quarter from 2003 to 2004, although net interest expense increased for the six months from 2003 to 2004. During the second quarter of 2004, net interest expense amounted to $291 thousand compared with $297 thousand during the second quarter of 2003. During 2004, we have borrowed relatively more under the CIT facility than we did during 2003 using the Revolving Credit Agreement that was in effect at that time. Also in 2004 the average interest rate charged under the CIT Facility is approximately 1 percent greater than under the Revolver. The decline in interest expense during the second quarter is largely due to the early repayment of the Metropolitan Note on March 30, 2004, which carried a coupon interest rate of 9.7% replacing that with funding under the CIT Facility at 5 percent. For the second quarter of 2004, we incurred a net loss of $8.9 million, or $0.91 per diluted share, compared with a net loss incurred during the second quarter of 2003 of $2.8 million, or $0.29 per diluted share. For the first six months of 2004, we incurred a net loss of $23.1 million, compared with a net loss of $6.7 million in 2003, including a net loss from discontinued operations of $1.3 million in 2003. Page 18 ITEM 3 - Quantitative and Qualitative Disclosures About Market Risk Market Risk Sensitive Instruments - Foreign Currency We have historically transacted business in a number of foreign countries. Our primary foreign currency net cash outflows historically have occurred in Mexico. We have not hedged anticipated foreign currency net cash outflows in the Mexican Peso, as the Peso generally has declined in value over time, when compared with the U. S. Dollar. With our new business plan as discussed elsewhere, our foreign currency exposure in Mexican Pesos has diminished for future periods. Our primary foreign currency net cash inflows have been generated from Canada. At times, we have employed a foreign currency hedging program utilizing currency forward exchange contracts for anticipated net cash inflows from Canada. Under this program, increases or decreases in local operating revenue as measured in U. S. Dollars are partially offset by realized gains and losses on hedging instruments. The goal of the hedging program is to fix economically the exchange rates on projected foreign currency net cash flows. Foreign currency forward contracts are not used for trading purposes. All foreign currency contracts are marked-to-market and unrealized gains and losses are included in the current period's calculation of net income. Because not all economic hedges qualify as accounting hedges, unrealized gains and losses may be recognized in net income (loss) in advance of the actual projected net foreign currency cash flows. This often results in a mismatch between accounting gains and losses and transactional foreign currency net cash flow gains and losses. We believe that the impact of foreign currency forward contracts has not been material to our financial condition or results of operations. During the twenty-six weeks ended July 3, 2004, we have had no foreign currency exchange contracts. ITEM 4 - Controls and Procedures Evaluation of Disclosure Controls and Procedures With the participation of the interim President and Chief Executive Officer (the principal executive officer) and the Senior Vice President-Finance, Chief Financial Officer, Secretary and Treasurer (the principal financial officer) of R. G. Barry Corporation ("R. G. Barry"), R. G. Barry's management has evaluated the effectiveness of R. G. Barry's disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")), as of the end of the fiscal quarter covered by this Quarterly Report on Form 10-Q. Based on that evaluation, R. G. Barry's interim President and Chief Executive Officer and R. G. Barry's Senior Vice President-Finance, Chief Financial Officer, Secretary and Treasurer have concluded that: (a) information required to be disclosed by R. G. Barry in this Quarterly Report on Form 10-Q would be accumulated and communicated to R. G. Barry's management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure; (b) information required to be disclosed by R. G. Barry in this Quarterly Report on Form 10-Q would be recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms; and (c) R. G. Barry's disclosure controls and procedures are effective as of the end of the period covered by this Quarterly Report on Form 10-Q to ensure that material information relating to R. G. Barry and its consolidated subsidiaries is made known to them, particularly during the period in which this Quarterly Report on Form 10-Q is being prepared. Changes in Internal Control Over Financial Reporting There were no changes in R. G. Barry's internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that occurred during R. G. Barry's fiscal quarter ended July 3, 2004, that have materially affected, or are reasonably likely to materially affect, R. G. Barry's internal control over financial reporting. Page 19 PART II - OTHER INFORMATION Item 1. Legal Proceedings On June 8, 2004, R. G. Barry Corporation ("R. G. Barry") received a "30-day letter" from the Internal Revenue Service ("IRS") proposing certain adjustments which, if sustained, would result in an additional tax obligation approximating $4 million plus interest. The proposed adjustments relate to the years 1998 through 2002. Substantially all of the proposed adjustments relate to the timing of certain deductions taken during that period. On July 7, 2004, R. G. Barry submitted to the IRS a letter protesting the proposed adjustments. R. G. Barry intends to vigorously contest the proposed adjustments. Item 2. Changes in Securities and Use of Proceeds (a) through (d) not applicable (e) R. G. Barry did not purchase any of its common shares during the quarterly period ended July 3, 2004. R. G. Barry does not currently have in effect a publicly announced repurchase plan or program. Item 3. Defaults Upon Senior Securities (a), (b) not applicable Item 4. Submission of Matters to a Vote of Security Holders (a) R. G. Barry's Annual Meeting of Shareholders (the "Annual Meeting") was held on May 27, 2004. At the close of business on the record date, April 1, 2004, 9,836,602 common shares were outstanding and entitled to vote at the Annual Meeting. At the Annual Meeting, 9,179,029, or 93.3% of the outstanding common shares entitled to vote, were represented in person or by proxy. (b) Director elected at the Annual Meeting, for three-year term, was: Edward M. Stan For: 8,230,406 Withheld: 948,623 Broker non-votes: none Other directors whose terms of office continued after the Annual Meeting: Christian Galvis Roger E. Lautzenhiser David P. Lauer Janice Page Harvey A. Weinberg Gordon Zacks (c) See Item 4(b) for the voting results for directors Proposal to adopt amendments to Article IV of the Company's Code of Regulations to clarify and separate the roles of officers: For: 9,083,176 Against: 75,575 Abstain: 23,278 Broker non-votes: none (d) Not Applicable Item 5. Other Information No response required Page 20 PART II - OTHER INFORMATION - continued Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: See Index to Exhibits on page 22. (b) Reports on Form 8-K: On April 5, 2004, R. G. Barry Corporation ("R. G. Barry") furnished information to the SEC on a Current Report on Form 8-K dated that same date, reporting under "Item 12. Results of Operations and Financial Condition" that on April 2, 2004, R. G. Barry issued a news release reporting operating results for the fiscal year ended January 3, 2004. On May 18, 2004, R. G. Barry furnished information to the SEC on a Current Report on Form 8-K dated that same date, reporting under "Item 12. Results of Operations and Financial Condition" that on May 17, 2004, R. G. Barry issued a news release reporting operating results for its first quarter ended April 3, 2004. On June 9, 2004, R. G. Barry filed a Current Report on Form 8-K, dated June 8, 2004, reporting that it had issued a news release announcing that the New York Stock Exchange ("NYSE") will suspend trading in the Company's shares prior to the market opening on June 14, 2004 and NYSE will apply to the SEC to delist the Company's shares. SIGNATURES Pursuant to the requirements 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. R. G. BARRY CORPORATION ------------------------------------ Registrant Date: August 16, 2004 /s/ Daniel D. Viren ------------------------------------ Daniel D. Viren Senior Vice President - Finance, Chief Financial Officer, Secretary and Treasurer (Principal Financial Officer) (Duly Authorized Officer) Page 21 R. G. BARRY CORPORATION INDEX TO EXHIBITS Exhibit No. Description Location - ----------- ----------- -------- 3.1 Certificate adopting amendments to Code of Regulations of Filed herewith R. G. Barry Corporation (shareholders' action on May 27, 2004) 3.2 Code of Regulations of R. G. Barry Corporation (reflects Filed herewith all amendments through May 27, 2004) 10.1 R. G. Barry Corporation Supplemental Benefit Plans Trust Filed herewith (effective as of September 1, 1995) 31.1 Rule 13a-14(a)/15d-14(a) Certification (Principal Filed herewith Executive Officer) 31.2 Rule 13a-14(a)/15d-14(a) Certification (Acting Principal Filed herewith Financial Officer) 32.1 Section 1350 Certifications (Principal Executive Officer Filed herewith and Principal Financial Officer) Page 22