SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended January 31, 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 0-23434
HIRSCH INTERNATIONAL CORP.
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(Exact name of registrant as specified in its charter)
DELAWARE 11-2230715
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(State of other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
200 Wireless Boulevard, Hauppauge, NY 11788
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (631) 436-7100
Securities registered pursuant to Section 12(b) of the Act: NONE
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
(CLASS A)
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. [x] Yes [ ] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K 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. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). [ ] Yes [x] No
The aggregate market value of the voting and non-voting common equity held by
non-affiliates* computed by reference to the price at which the common equity
was last sold, or the average bid and asked price of such common equity, as of
April 26, 2004 was $9,932,156.
The number of shares outstanding of each of the registrant's classes of common
stock, as of April 28, 2004 were:
Class of Common Equity Number of Shares
---------------------- ----------------
Class A Common Stock 5,663,611
Par Value $.01
Class B Common Stock 2,668,139
Par Value $.01
*For purpose of this report, the number of shares held by non-affiliates was
determined by aggregating the number of shares held by Officers and Directors of
Registrant, and subtracting those shares from the total number of shares
outstanding.
Hirsch International Corp.
Form 10-K
For the Fiscal Year ended January 31, 2004
Table of Contents
Part I Page
Item 1. Business 4-13
Item 2. Properties 14
Item 3. Legal Proceedings 14
Item 4. Submission of Matters to a Vote of Security Holders 14
Part II
Item 5. Market for Common Equity and Related Stockholder Matters 14-15
Item 6. Selected Financial Data 16-17
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations 17-26
Item 7A. Quantitative and Qualitative Disclosures
About Market Risk 26
Item 8. Financial Statements and Supplementary Data 26
Item 9. Changes in and Disagreements on Accounting
And Financial Disclosure 26
Item 9A. Controls and Procedures 26
Part III
Item 10. Directors and Executive Officers of the Registrant 27-29
Item 11. Executive Compensation 30-38
Item 12. Security Ownership of Certain Beneficial
Owners and Management and Related Stockholder Matters 38-39
Item 13. Certain Relationships and Related Transactions 40-41
Item 14. Principal Accountant Fees and Services 41-42
Part IV
Item 15. Exhibits, Financial Statement Schedules and
Reports on Form 8K 42
Signatures and Certifications 43
Exhibit Index 44-45
PART I
Item 1. Business
General
Hirsch International Corp. ("Hirsch" or the "Company"), a Delaware
Corporation, was founded in 1970 and has become a leading single source provider
of electronic computer-controlled embroidery machinery and related value-added
products and services. The Company offers a complete line of technologically
advanced single- and multi-head embroidery machines, proprietary application
software, a diverse line of embroidery parts, supplies, accessories and
proprietary embroidery products. In addition, Hirsch provides a comprehensive
service program, and user training and support. Through its Hometown Threads,
LLC ("Hometown Threads") venture, the Company has moved from test marketing its
retail embroidery services concept to implementation of a national franchise
program. The Company believes its wide-range of product offerings together with
its related value-added products and services place it in a competitively
advantageous position within its marketplace.
The application of new technologies has transformed the embroidery industry
from one which was labor-intensive, utilizing machinery with limited production
capabilities to an industry where investment in electronic, computer-controlled
machinery and related application software has increased labor efficiencies and
production capacities while expanding the flexibility and complexity of
embroidery designs. These developments have not only resulted in the expansion
of existing markets but have also led to the creation of new markets for
embroidery. The industry has benefited in the past from the growth in consumer
demand for licensed products carrying the names, logos and designs of
professional and collegiate sports teams, entertainment companies and their
characters, as well as branded merchandise and related goods. Until Fiscal 1999,
these trends and others contributed to the increase in demand for machinery,
software and services provided by Hirsch. However, beginning in the fiscal year
ended January 31, 2000 (fiscal 2000) and continuing through the present day, the
Company and the embroidery industry as a whole experienced a decrease in overall
demand driven by the relocation offshore of large, multi-head equipment
customers that resulted in reduced domestic demand for large embroidery
machines. As a result, in the year ended January 31, 2002 (fiscal 2002) the
Company initiated a restructuring program designed to address the market shifts
in the industry, including closing and consolidating certain divisions, reducing
total employment and disposing of facilities no longer required to support its
new business model (See Management's Discussion and Analysis of Financial
Condition and Results of Operations).
The Company's customer base includes large operators who run numerous
machines as well as individuals who customize products on a single machine.
Principal customer groups include: (i) contract embroiderers, who serve
manufacturers that outsource their embroidery requirements; (ii) manufacturers,
who use embroidery to embellish their apparel, accessories, towels, linens and
other products with decorative appeal; and (iii) embroidery entrepreneurs, who
produce customized products for individuals, sports leagues, school systems,
fraternal organizations, promotional advertisers and other groups.
Hirsch has certain exclusive United States rights to sell new embroidery
machines manufactured by Tajima Industries Ltd. ("Tajima") and certain
non-exclusive rights to distribute to US based customers who expand their
operating facilities into the Caribbean region. Tajima, located in Nagoya,
Japan, is one of the world's leading manufacturers of embroidery machines, and
is regarded as a technological innovator and producer of high quality, reliable
and durable embroidery equipment. The Company has certain exclusive rights to
distribute Tajima machines in the continental United States and Hawaii.
The Company enjoys a good relationship with Tajima, having spanned more
than 25 years. Hirsch is one of Tajima's largest distributors in the world and
collaborates with Tajima in the development of new embroidery equipment and
enhancements to existing equipment. Until 1997, all Tajima equipment sold in the
US was assembled in Japan. At that time, Hirsch formed a new subsidiary, Tajima
USA, Inc ("TUI"), to assemble two, four, six and eight-head Tajima machines in
the United States. In December 1997, Hirsch sold a forty-five (45%) percent
interest in TUI to Tokai Industrial Sewing Machine Company, Ltd. ("Tokai"),
Tajima's parent company's manufacturing arm. As of January 31, 2004, the Company
sold its majority interest in TUI to Tajima Industries, Ltd. The sale has been
reflected in the financial statements as a discontinued operation for all
periods presented. (See Note 7 to the Consolidated Financial Statements).
In addition to offering a complete line of technologically-advanced
embroidery machines and customer training, support and service, Hirsch provides
an array of value-added products to its customers. The Company is now a
distributor in the United States of software developed by its former software
subsidiary, Pulse Microsystems Ltd. ("Pulse") (See Note 7 to the Consolidated
Financial Statements). Pulse develops and supplies proprietary application
software programs which enhances and simplifies the embroidery process, as well
as enables the customization of designs and reduction of production costs.
Until the fourth quarter of fiscal 2002 the Company's leasing subsidiary,
HAPL Leasing Co., Inc. ("HAPL Leasing"), had provided a wide range of financing
options to customers wishing to finance their purchases of embroidery equipment.
In the fourth quarter of fiscal 2002, the Company determined that its HAPL
Leasing subsidiary was not strategic to its business objectives and discontinued
its operations (See Note 15 to the Consolidated Financial Statements). The
Company has continued to work with customers to help them obtain financing
through independent leasing and financing companies, as an attractive
alternative for purchasers looking to begin or expand operations. Accordingly,
the Company has reported its discontinued operations in accordance with APB 30.
The consolidated financial statements have been reclassified to segregate the
assets and liabilities and operating results of these discontinued operations
for all periods presented.
Hirsch also sells a broad range of embroidery supplies, machine parts,
accessories and proprietary embroidery products. The Company's equipment and
value-added products are marketed directly by an employee sales force, whose
efforts are augmented by trade journal advertising, informational "open house"
seminars, an e-commerce presence and trade shows. The Company's long-term goal
is to leverage its reputation, knowledge of the marketplace, Tajima distribution
rights, industry expertise and technological innovation to enable it to increase
the overall size of the embroidery equipment market and its market share.
In the fourth quarter of fiscal 2002, the Company initiated a restructuring
plan in connection with its continuing operations. The plan was designed to meet
the changing needs of the Company's customers, to reduce its cost structure and
improve efficiency. The restructuring initiatives involved the consolidation of
the parts and supplies operation with existing Hirsch operations, the downsizing
of three of its existing sales offices and reduction in the overall
administrative personnel. The reduction in personnel during this period
represented approximately 25% of its workforce or 56 people. (See Note 9 to the
Consolidated Financial Statements).
During the fourth quarter of fiscal 2002 in view of the overall industry
decline in demand for embroidery equipment and related products, the resulting
decline in Company revenue delivered in the territories associated with the
Company's prior acquisitions of SMX Corporation and Sedeco Corporation, and the
Company's impairment evaluation, the Company wrote-off the balance of $3,477,000
of goodwill as an impairment charge to operations. During the fourth quarter of
fiscal 2001, the Company wrote off approximately $7,640,000 of goodwill as an
impairment charge to operations. This write-off included the remaining value of
goodwill associated with its acquisition of the digitzing embroidery business
assets of All Pro Punching, Inc. (See Note 16 to the Consolidated Financial
Statements).
The Embroidery Industry
The development of electronic computer-controlled embroidery machines has
led to new embroidery applications and markets, cost savings, higher profit
margins for users and production efficiencies which has transformed the
embroidery industry from being extremely labor-intensive to an industry
characterized by a high level of automation. Past innovations to embroidery
machines offered superior design flexibility and increased speed and provided
the manufacturer with the ability to embroider finished products, the ability to
efficiently embroider up to fifteen colors at a time, automatic thread trimming,
and other labor-saving improvements. Innovations include a narrow cylinder arm
sewing head that permits embroidery on small diameter apparel, such as pockets,
sleeves, pant legs and socks. The embroidery industry on a world-wide basis also
benefits from the demand for licensed products distributed by apparel and other
manufacturers. Licensed names, logos and designs provided by, among other
sources, professional and collegiate sports teams and the entertainment industry
appear on caps, shirts, outerwear, luggage and other softgoods for sale at
affordable prices. In addition, the intricacy of the designs capable of being
embroidered have attracted broad fashion and commercial appeal for special event
promotional marketing. Embroidery equipment may contain single or multiple
sewing heads, each sewing head consisting of one to a group of needles that are
fed by spools of thread attached to the equipment. The design and production
capabilities of the sewing heads are enhanced through the application and
integration of computers and specialized software.
Business Strategy
The Company's objective is to establish and maintain long-term
relationships with its customers by providing them with a single source solution
for their embroidery equipment, software and related services. To achieve this
goal, the Company has developed a comprehensive approach under which it (i)
sells a broad range of Tajima embroidery machines, (ii) distributes Pulse's
proprietary application software programs for embroidery machines, (iii) sells a
broad range of embroidery supplies, accessories and proprietary products, (iv)
reconditions, remanufactures and sells used embroidery machinery, and (v)
provides comprehensive customer training, support and service for these
embroidery machines. The Company believes that this comprehensive approach
positions it to become its customers' preferred vendor for their embroidery
equipment and related services. In addition, the Company, through its Hometown
Threads, subsidiary markets its franchise concept to provide retail embroidery
services at Wal*Mart(R) stores, shopping center and mall locations. To
complement its comprehensive approach effectively and efficiently, the Company's
business strategy includes the following:
Embroidery Machines. The Company believes that offering Tajima embroidery
equipment provides it with a competitive advantage because Tajima produces
technologically advanced embroidery machines that are of high quality, reliable
and durable. The Company markets and distributes over 80 models of Tajima
embroidery machines, ranging in size from 1 head per machine, suitable for
sampling and small production runs, to 30 heads per machine, suitable for high
production runs for embroidered patches and small piece goods which become parts
of garments and other soft goods. Embroidery equipment may contain single or
multiple sewing heads. The selling prices of these machines range from
approximately $10,000 to $150,000. Each sewing head consists of a group of
needles that are fed by spools of thread attached to the equipment. The needles
operate in conjunction with each other to embroider the thread into the cloth or
other surface in such configuration as to produce the intended design. Thread
flowing to each needle can be of the same or varying colors. Each head creates a
design and heads operating at the same time create the same size and shape
designs, although designs created at the same time can differ in color. Thus, a
30-head machine with all heads operating simultaneously creates an identical
design on thirty surfaces. The design and production capabilities are enhanced
through the integration of computers and specialized software applications.
Former Assembly Operations. The Company's former subsidiary Tajima USA,
Inc. ("TUI") maintains a facility located in Ronkonkoma, New York, near the
Company's headquarters. Assembly of Tajima machines of up to eight heads are
completed at this location, using both Tajima supplied sub-assembly kits and
locally supplied components. Shorter lead times and production flexibility
enabled the Company to be responsive to changing needs of the market.
Pulse Microsystems Ltd. Software. Pulse, a former subsidiary of the
Company, offers a wide range of proprietary application software products to
enhance and simplify the embroidery process. Pulse's computer-aided design
software packages target the different functions performed by embroiderers, and
are contained in an integrated product line. A majority of Pulse's proprietary
application software products are designed to operate in the Microsoft(R)
Windows(R) 95, Windows(R) 98, Windows(R) 2000, Windows(R) Me, Windows(R) XP and
Windows(R) NT environments that the Company believes will enhance creativity,
ease of use and user flexibility. All Tajima machines, as well as other
manufacturers' embroidery machines can be networked through Pulse software. It
is the Company's established practice to aggressively market this software with
embroidery equipment and as an upgrade to its installed base of approximately
18,900 embroidery machines. The Company believes that these products have broad
appeal to purchasers of single-head and multi-head embroidery machines and
present opportunities for the Company to increase sales of embroidery equipment
and software as the Company continues to emphasize marketing activities.
Embroidery Supplies, Accessories, Machine Parts and Proprietary Products.
The Company's parts, supplies and accessories division offers a broad range of
embroidery supplies, accessories and proprietary products, which is an integral
part of the Company's single source strategy. The Company has expanded the
product line with the introduction of proprietary products. Moreover, the
expansion of the Company's marketing efforts is directed toward trade
publications, advertising as well as both industry and proprietary trade show
participation. The Company offers proprietary products together with a full line
of consumable supplies, parts and materials utilized in the embroidery process
and continues to develop special purpose embroidery replacement parts and
products which act to simplify the embroidery process.
Used Embroidery Machinery. The Company accepts used embroidery machines
from customers on a trade-in basis as a condition to the sale of a new machine
on a case by case basis. The Company's ability to accept used machines is an
important sales tool and necessary element in the Company's sales strategy. On
occasion, the Company will also purchase used machines from customers and
third-party leasing companies. The Company believes that the market for
reconditioned and remanufactured embroidery machines represents an established
share of the machine market and operates its Hirsch Used Machine Division to
capitalize on this source of revenue.
Customer Support. The Company provides comprehensive customer training,
support and service for the embroidery machines and software that it sells. The
Company's service department includes field service technicians throughout the
US who are directed from its headquarters in Hauppauge, New York. After the
Company delivers an embroidery machine to a customer, the Company's trained
personnel may assist in the installation, setup and operation of the machine.
The Company employs a staff of service representatives who provide assistance to
its customers by telephone. While many customer problems or inquiries can be
handled by telephone, where necessary the Company dispatches one of its service
technicians to the customer.
Pulse provides telephone-based software support for the Pulse software
distributed by the Company. In addition, the Company provides introductory and
advanced training programs to assist customers in the use, operation and
maintenance of the embroidery machines and software it sells.
Retail Embroidery Services. In fiscal 1999, the Company created a retail
embroidery concept known as "Hometown Threads"(TM) for the purpose of providing
retail embroidery services within Wal-Mart(R) establishments. Hometown
Threads(TM) continues to expand the number of locations in Wal-Mart(R) stores
and other mall and shopping center locations throughout the United States,
through its franchise program, and had 29 franchise locations at the end of
fiscal 2004.
Discontinued Operations
In the fourth quarter of fiscal 2002, the Company determined that its HAPL
Leasing subsidiary was not strategic to its ongoing objectives and discontinued
HAPL's Leasing's operations. Accordingly, the Company has reported its
discontinued operations in accordance with APB 30. The consolidated financial
statements have segregated the assets, liabilities and operating results of
these discontinued operations for all periods presented (See Note 7 to the
Consolidated Financial Statements).
Effective October 31, 2002, the Company completed the sale of all of the
outstanding equity interests in Pulse, pursuant to the terms of the purchase
agreement by and between Hirsch and 2017146 Ontario Limited ("Purchaser") dated
as of October 31, 2002, ("The Agreement").
Pursuant to the Agreement Hirsch sold its entire equity interest in Pulse
to the Purchaser for an aggregate consideration of $5.0 Million to be paid as
follows:
(a) $0.5 Million Cash;
(b) a $0.5 Million note payable in quarterly installments beginning April 30,
2003 and including interest accruing on the principal at the rate of US
Prime + 1% per annum; and
(c) The assumption of $4.0 Million of Hirsch obligations. All periods presented
have been restated to reflect the discontinued operations of Pulse.
The Company executed an Agreement with Tajima Industries, Ltd. ("Tajima")
pursuant to which the Company sold all of the common stock (the "Shares")
constituting a 55% equity interest of its Tajima USA Inc. ("TUI") subsidiary
owned by it to Tajima, upon the terms and conditions set forth in a certain
Purchase and Sale Agreement by and among the Company, Tajima and TUI (the
"Agreement"). The sale was effective as of January 31, 2004. Upon the
consummation of the sale, Tajima owned 100% of the issued and outstanding common
stock of TUI.
The purchase price (the "Purchase Price") for the Shares was equal to the
Book Value (as defined in the Agreement), calculated in accordance with
generally accepted accounting principles. At the closing, Tajima paid the
Company the sum of $500,000 (the "Initial Payment") in partial payment of the
Purchase Price. The remaining balance due on the Purchase Price will be
determined on or before April 30, 2004, and paid promptly thereafter in
accordance with the terms of the Agreement.
In addition, the Company agreed to repay TUI the sum of $7,182,002,
representing amounts owed by the Company to TUI as of January 31, 2004 (the "Net
Intercompany Payable"). The Net Intercompany Payable shall be paid as follows:
(a) the Initial Payment ($500,000) was paid by Tajima to TUI on
behalf of the Company
(b) the assignment by the Company to TUI of its right to receive the
sum of $2,200,000 from Tajima upon payment of the balance due on
the Purchase Price, and
(c) the payment by the Company of the sum of $4,482,000 in five (5)
equal monthly installments of $735,167 each and a sixth payment
of $806,165, commencing February 29, 2004 and continuing through
and including July 31, 2004.
The Company's Consolidated Financial Statements have been restated to reflect
the discontinued operations of TUI
Marketing and Customer Support
The Company has been selling embroidery equipment since 1976 and believes
it is one of the leading distributors of Tajima equipment in the world. The
Company reinforces recognition of its name through trade magazine advertising
and participation in seminars and over 20 trade shows annually. The Company's
sales staff is headed by Paul Gallagher, President and Chief Operating Officer
of the Company, and currently consists of salespeople who maintain frequent
contact with customers in order to understand and satisfy each customer's needs.
The Company's products are generally considered by the industry to consist of
the highest quality embroidery equipment available, and consequently the Company
does not attempt to compete exclusively on a price basis but rather a
value-added basis, through its reputation, knowledge of the marketplace,
investment in infrastructure and experience in the industry. In a climate of
intense price competition by lower cost manufacturers, the Company attempts to
maintain a balance between market share and profit margins to the best degree
possible. While in the short-term this may result in reduced market share, the
Company believes that this strategy presents the most promising way to sustain
and grow its business over the long-term.
The Company believes that a key element in its business is its focus on
service, and investment in sales support and training, infrastructure and
technology to support operations. The Company provides comprehensive one to five
day training programs to assist customers in the use, operation and servicing of
the embroidery machines and software it sells. Customers are trained in the
operation of embroidery machines as well as in embroidery techniques and the
embroidery industry in general. The Company provides its customers with
proprietary videotapes and manuals as training tools. Company personnel also
provide technical support by telephone, field maintenance services and quality
control testing, as well as advice with respect to matters generally affecting
embroidery operations. Telephone software support is provided by Pulse.
The Company maintains a training center at its Hauppauge, New York
headquarters for the training of service technicians. Senior service technicians
also receive formal training from Tajima in addition to technical updates
throughout the year. The Company will continue to dedicate resources to
education and training as the foundation for providing the highest level of
service.
The Company provides its customers with a limited warranty of up to five
years against malfunctions from defects in material or workmanship on the Tajima
machines it distributes. The warranty covers specific classes of parts and
labor. Tajima provides the Company with a six month warranty. As a consequence,
the Company absorbs a portion of the cost of providing warranty service on
Tajima products.
Supplier Relationships with Tajima
The Company has four separate distributorship agreements with Tajima which,
collectively, provide the Company the exclusive right to distribute Tajima's
complete line of standard embroidery, chenille embroidery and certain specialty
embroidery machines in 39 States. The main agreement (the "East Coast/Midwest
Agreement") which covers 33 States, became effective on February 21, 1991 and
has an initial term of 20 years. The East Coast/Midwest Agreement is terminable
by Tajima and/or the Company on not less than two years' prior notice. The
second agreement (the "Southwest Agreement") covers six states, became effective
on February 21, 1997 and had an initial term of five years. This agreement was
renewed until February 22, 2004. The Company is in the process of negotiating
the Southwest Agreement, however, there can be no assurance that an agreement
can be reached on terms acceptable to the Company. The failure of the Company to
obtain an extension of the Southwest Agreement on terms acceptable to the
Company could result in a loss of the Company's right to distribute embroidery
machines in the territories covered by the Southwest Agreement which could have
a material adverse effect on the Company's business, operations and financial
condition. Under the third distributorship agreement, which covers nine western
states and Hawaii, the Company is the exclusive distributor of Tajima's single,
two, four and six-head model machines as well as chenille or chenille/standard
embroidery machines with less than four heads or two stations, respectively (the
"West Coast Agreement"). The term of the West Coast Agreement, expired on
February 20, 2004. The Company is in the process of negotiating the West Coast
Agreement, however, there can be no assurance that an agreement can be reached
on terms acceptable to the Company. The failure of the Company to obtain an
extension of the West Coast Agreement on terms acceptable to the Company could
result in a loss of the Company's right to distribute embroidery machines in the
territories covered by the West Coast Agreement which could have a material
adverse effect on the Company's business, operations and financial condition.
The fourth agreement ("the Caribbean Agreement") which was effective July 27,
1999 permits the Company to distribute Tajima machines to US-based customers who
are operating expansion facilities in the Caribbean region. It has continued
without change from the initial trial period, although the agreement has not
been formally renewed.
Each of the first three agreements may be terminated upon the failure by
the Company to achieve certain minimum sales quotas. During fiscal 2003, the
Company failed to meet these minimum sales quotas; however, Tajima waived
meeting these minimum sales quotas for fiscal 2003. For fiscal 2004, the minimum
sales quotas were met. Furthermore, the East Coast/Midwest Agreement may be
terminated, among other reasons, if Henry Arnberg and Paul Levine (or in certain
circumstances, their spouses and children) fail to own a sufficient number of
shares of voting stock to elect a majority of the Company's Board of Directors
or, subject to certain conditions contained therein in the event of the death,
physical or mental disability of a duration of six months or longer or the
incapacity of both Henry Arnberg and Paul Levine. The Southwest Agreement may be
terminated if the Company fails to remain the sole shareholder of its subsidiary
that is the party to the Southwest Agreement. The West Coast Agreement may be
terminated should any material change occur in the current Class B shareholders,
directors or officers of the Company.
Although there can be no assurance, management of the Company believes it is
unlikely that the Company would lose Tajima as a source of supply because: (i)
the Company has maintained a relationship with Tajima for over 20 years and is
one of Tajima's largest distributors; (ii) Tajima's success in the United States
is, in large part, attributable to the Company's knowledge of the marketplace as
well as the Company's reputation for customer support; (iii) the Company
supports Tajima's development activities.
Other Supplier Relationships
The Company purchases personal computers that are integrated with the
embroidery machines it distributes. The Company obtains its inventory for its
embroidery supplies and accessories business from many different sources. The
Company believes that alternate sources of supply are readily available.
Customers
The Company's customers range from large operators utilizing numerous
machines to individuals who customize products on a single machine. Principal
customer groups include: (i) contract embroiderers, who serve manufacturers that
outsource their embroidery requirements; (ii) manufacturers, who use embroidery
to embellish their apparel, accessories, towels, linens and other products with
decorative appeal; and (iii) embroidery entrepreneurs, who produce customized
products for individuals, sports leagues, school systems, fraternal
organizations, promotional advertisers and other groups.
Competition
The Company competes with original equipment manufacturers, such as
Barudan, Brother International, Happy, Melco Industries and SWF, who distribute
products directly into the Company's markets. The Company also competes against
local Tajima distributors in certain western US markets. The Company believes it
competes against these competitors on the basis of its knowledge and experience
in the marketplace, name recognition, customer service and the quality of the
embroidery equipment it distributes. Due to the recent decline in overall demand
for the embroidery industry, potential customers may emphasize price over
technology when selecting a machine.
Further, the Company's customers are subject to competition from importers
of embroidered products, which could materially and adversely affect the
Company's customers, and consequently could have a material adverse effect on
the Company's business, financial conditions and results of operations.
The Company's success is dependent, in part, on the ability of Tajima to
continue producing products that are technologically superior and price
competitive with those of other manufacturers. The failure of Tajima to produce
technologically superior products at a competitive price could have a material
adverse effect of the Company's business, financial condition and results of
operations.
The Company's embroidery supplies and accessories business competes with
ARC, a division of Melco Industries, MIM, a division of Brother Industries, and
other vendors of embroidery supplies. The Company believes that the market for
embroidery supplies is fragmented and that the Company will benefit from the
breadth of its product line, development of proprietary products and the fact
that the Company is a single source provider.
Employees
As of January 31, 2004, the Company employed approximately 120 persons who
are engaged in sales, service and supplies, product development, finance,
administration and management for the Company. None of the Company's employees
are represented by unions. The Company believes its relationship with its
employees is good.
Risk Factors
Dependence on Tajima
For the fiscal year ended January 31, 2004, approximately 85.2% of the
Company's revenues resulted from the sale or lease of embroidery equipment
supplied by Tajima. Four separate distributorship agreements (collectively, the
"Tajima Agreements") govern the Company's rights to distribute Tajima embroidery
equipment in the United States and the Caribbean. Two of the distributorship
agreements with Tajima collectively provide the Company with the exclusive
rights to distribute Tajima's complete line of standard embroidery, chenille
embroidery and certain specialty embroidery machines in 39 states. The main
agreement (the "East Coast/Midwest Agreement"), which now covers 33 states,
first became effective on February 21, 1991, has an initial term of 20 years and
contains a renewal provision which permits successive five year renewals upon
mutual agreement of the parties. The East Coast/Midwest Agreement may be
terminated by Tajima and/or the Company on not less than two years' prior
notice. The second agreement (the "Southwest Agreement") which covers six
states, became effective on February 21, 1997, and had an initial term of five
years. The Southwest Agreement was renewed and expired on February 22, 2004. The
Company is in the process of negotiating the Southwest Agreement, however, there
can be no assurance that an agreement can be reached on terms acceptable to the
Company. The failure of the Company to obtain an extension of the Southwest
Agreement on terms acceptable to the Company could result in a loss of the
Company's right to distribute embroidery machines in the territories covered by
the Southwest Agreement which could have a material adverse effect on the
Company's business, operations and financial condition. Under the third
distributorship agreement, (the "West Coast Agreement") which covers nine
western continental states and Hawaii, the Company is the exclusive distributor
of Tajima's small machines, as well as chenille and tandem chenille/standard
embroidery machines with less than four heads or two stations, respectively. The
West Coast Agreement, which had an initial term of five years, became effective
on February 21, 1997. The first renewal expired on February 20, 2003 and the
second renewal expired on February 20, 2004. The Company is in the process of
negotiating the West Coast Agreement, however, there can be no assurance that an
agreement can be reached on terms acceptable to the Company. The failure of the
Company to obtain an extension of the West Coast Agreement on terms acceptable
to the Company could result in a loss of the Company's right to distribute
embroidery machines in the territories covered by the West Coast Agreement which
could have a material adverse effect on the Company's business, operations and
financial condition. The fourth Agreement (the "Caribbean Agreement") was for a
one-year trial period, effective July 27, 1999, that permitted the Company to
distribute Tajima equipment to its existing US-based customers who establish
expansion facilities in the Caribbean region. Although the Caribbean Agreement
has not been formally renewed, activity under this arrangement has continued
without change from inception. Each of the first three Tajima Agreements
contains language that permits termination if the Company fails to achieve
certain minimum sales quotas or annual targets. In fiscal 2004, the Company met
its sales quotas. The Company believes that meeting the quotas for the
foreseeable future may be difficult. Furthermore, the East Coast/Midwest
Agreement may be terminated if Henry Arnberg and Paul Levine (or in certain
circumstances, their spouses and children) fail to maintain ownership of a
sufficient number of shares of voting stock to elect a majority of the Company's
Board of Directors or, subject to certain conditions contained therein, in the
event of the death, physical or mental disability of a duration of six months or
longer, or incapacity of both Henry Arnberg and Paul Levine. The Southwest
Agreement may be terminated if the Company fails to remain the sole shareholder
of its subsidiary that is the party to the Southwest Agreement. The West Coast
Agreement may be terminated should any material change occur in the current
Class B shareholders, directors or officers of the Company or should there occur
any change in control of the Company. The termination of the Tajima Agreements
(other than the Caribbean Agreement) would have a material adverse effect on the
Company's business, financial condition and results of operations.
Importing Tajima's equipment from Japan subjects the Company to risks of
engaging in business overseas, including international political and economic
conditions, changes in the exchange rates between currencies, tariffs, foreign
regulation of trade with the United States, and work stoppages. The interruption
of supply or a significant increase in the cost of Tajima equipment for any
reason could have a material adverse effect on the Company's business, financial
condition and results of operation. In addition, Tajima manufactures its
embroidery machines in one location in Japan. The Company could be materially
and adversely affected should this facility be seriously damaged as a result of
a fire, natural disaster or otherwise. Further, the Company could be materially
and adversely affected should Tajima be subject to adverse market, business or
financial conditions.
Embroidery machines produced by Tajima are subject to competition from the
introduction by other manufacturers of technological advances and new products.
Current competitors or new market entrants could introduce products with
features that render products sold by the Company and products developed by
Tajima less marketable. The Company relies on Tajima's embroidery equipment to
be of the highest quality and state of the art. The Company's future success
will depend, to a certain extent, on the ability of Tajima to adapt to
technological change and address market needs, including price competition.
There can be no assurance that Tajima will be able to keep pace with
technological change in the embroidery industry, the current demands of the
marketplace or compete favorably on price. The failure of Tajima to do so could
have a material adverse effect on the Company's business, financial conditions
and results of operations.
Embroidery Industry
The Company's growth in past years has resulted in part from the increase
in demand for embroidered products and the growth of the embroidery industry as
a whole. Beginning in fiscal 1999, the embroidery industry experienced; (i) a
decline in demand for large embroidery machines, and; (ii) a trend toward the
relocation of manufacturing facilities to Mexico, the Caribbean, Far East and
South America, all of which have had a material adverse effect on the operations
of the Company, its business and financial condition. A decrease in consumer
preferences for embroidered products, a general economic downturn or other
events having an adverse effect on the embroidery industry would also have an
adverse effect on the Company.
Foreign Currency Risks
The Company pays for its Tajima embroidery machinery in Japanese Yen. Any
change in the valuation of the U.S. Dollar compared to the Japanese Yen either
increases the cost to the Company of its embroidery machine inventory or results
in competitive pressures for reduced US dollar pricing among Yen-based equipment
distributors and manufacturers. The Company has generally been able to recover
increased costs through price increases to its customers or, in limited
circumstances, price reductions from Tajima; however, dollar price reductions do
reduce dollar contribution margins and as a result create overhead coverage
pressure. There can be no assurance that the Company will be able to recover
such increased costs in the future or reduce overheads to the necessary degree
to maintain profitability. The failure on the part of the Company to do so could
have a material adverse effect on the business, operations and financial
condition. These transactions are not currently hedged through any derivative
currency product. Currency gains and losses in foreign exchange transactions are
recorded in the statement of operations.
Retail Embroidery Services
The Company's Hometown Threads venture was created for the purpose of
establishing retail embroidery service centers within Wal-Mart(R) retail
locations. At the end of fiscal 2001, Hometown Threads concluded a pilot test of
its concept at two Wal-Mart(R) centers located in Texas and was authorized by
Wal-Mart(R) to implement a strategy to expand to up to 25 units. While the
relationship with Wal-Mart(R) is good, the Company is dependent on the continued
existence of the master lease with Wal-Mart(R) for implementation of its
franchise program of Hometown Threads within Wal-Mart(R) locations. In addition,
there can be no assurance that locations outside of Wal-Mart(R) will provide the
same opportunity for expansion of the franchise program as those within
Wal-Mart(R), or that the Wal-Mart(R) locations will be available concurrent with
qualified franchisees as those franchises are developed. As of the end of fiscal
2004, the Company's net investment in Hometown Threads was approximately $2.0
million. Although the Company believes it will be able to access the market for
retail embroidery services, there is no guarantee that it will be successful in
doing so or that it will be able to do so on a profitable basis.
Inventory
The Company's ordering cycle for new embroidery machines is approximately
three to four months prior to delivery to the Company. Since the Company
generally delivers new Tajima embroidery machines to its customers within one
week of receiving orders, it orders inventory based on past experience and
forecasted demand. The Company has reduced new machine inventories substantially
over the past two years, moving to "just in time" inventory management policies.
Due to the relatively long lead times of the ordering cycle, any significant
unanticipated downturn or upturn in equipment sales could result in an increase
in inventory levels or shortage of product, respectively, which could have a
material adverse effect on the Company's business, financial condition and
results of operations.
Competition
The Company competes with distributors of embroidery machines produced by
manufacturers other than Tajima; with manufacturers who distribute their
embroidery machines directly as well as with other providers of embroidery
products and services. The Company believes that competition in the embroidery
industry is based on technological capability and quality of embroidery
machines, price and service. If other manufacturers develop embroidery machines
which are more technologically advanced than Tajima's or if the quality of
Tajima embroidery machines diminishes, the Company would not be able to compete
as effectively which could have a material adverse effect on its business,
financial condition and results of operations. The Company also faces
competition in selling software, embroidery supplies, accessories and
proprietary products as well as providing customer training, support and
services. Due to the decline in overall demand in the industry which occurred
during the last several years, potential customers may emphasize price
differences over value-added services and support in purchasing new embroidery
machines. Severe price competition may impair the Company's ability to provide
its customers with value-added services and support. The Company's failure to
compete effectively in these areas could have a material adverse effect on its
business, financial condition and results of operations.
Dependence on Existing Management
Changes in the embroidery industry and recent restructuring of the
Company's business have resulted in increased responsibilities for management
and have placed increased demands upon the Company's operating, financial and
technical resources. The Company's continued success will depend to a
significant extent upon the abilities and continued efforts of Henry Arnberg,
Chairman of the Board and Chief Executive Officer of the Company; and Paul
Gallagher, its President and Chief Operating Officer. Mr. Gallagher is bound by
a 3 year agreement that commenced on September 11, 2001. The loss of the
services of Messrs. Arnberg, or, Gallagher, or the services of other key
management personnel could have a material adverse effect upon the Company's
business, financial condition and results of operations.
ITEM 2. PROPERTIES
The Company's corporate headquarters is in Hauppauge, New York in a 50,000
square foot facility. During fiscal 2002, this facility was sold to Brandywine
Realty Trust and approximately 24,500 square feet was leased back in a
concurrent transaction (See Note 10B to the Consolidated Financial Statements).
During fiscal year 2003, and as part of the Company's restructuring plans (See
Note 9 to the Consolidated Financial Statements), the Company leased back the
25,500 square feet of the building that had remained empty since March 2001 in
order to consolidate certain operations in Hauppauge, NY. This property houses
the Company's executive offices, the Northeast sales office, technical services,
machine and parts warehousing, order fulfillment and used machine storage and
repair facilities.
In addition to the Company's headquarters, the Company leases 15 regional
satellite offices under non-cancelable operating leases. These offices consist
of regional sales offices and training centers. All leased space is considered
adequate for the operation of our business, and no difficulties are foreseen in
meeting any future space requirements.
ITEM 3. LEGAL PROCEEDINGS
There are no material legal proceedings pending against the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company did not submit any matters to a vote of Security holders during
the fourth quarter of its most recent fiscal year.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
(a) The Company's outstanding Common Stock consists of two classes, Class A
Common Stock and Class B Common Stock. The Class A Common Stock, par value
$.01 per share, trades on the NASDAQ Small Cap Market under the symbol
"HRSH". The following table sets forth for each period indicated the high
and low closing bid prices for the Class A Common Stock as reported by the
NASDAQ Stock Market. Trading began in the Class A Common Stock on February
17, 1994. Class B stock is not publicly traded.
Fiscal 2004 High Low
- ----------- ---- ---
First Quarter ended April 30, 2003.................................... $ 0.75 $ 0.28
Second Quarter ended July 31, 2003.................................... $ 1.19 $ 0.65
Third Quarter ended October 31, 2003.................................. $ 1.25 $ 0.84
Fourth Quarter ended January 31, 2004................................. $ 3.12 $ 1.01
Fiscal 2003 High Low
- ----------- ---- ---
First Quarter ended April 30, 2002..................................... $ 0.63 $ 0.40
Second Quarter ended July 31, 2002..................................... $ 0.55 $ 0.15
Third Quarter ended October 31, 2002................................... $ 0.35 $ 0.15
Fourth Quarter ended January 31, 2003.................................. $ 0.44 $ 0.19
The foregoing over-the-counter market quotations represent inter-dealer
prices, without retail mark-up, mark-down or commission and may not
represent actual transactions.
(b) As of August 20, 2003, the Company believes that there were approximately
1,949 beneficial owners of its Class A Common Stock.
(c) Since the third quarter of fiscal 2004, the Company has declared and paid a
quarterly dividend of $.01 per share on its Common Stock. Although the
Company anticipates continuation of the payment of this quarterly dividend,
there can be no assurance it will continue to do so. The future payment of
dividends is within the discretion of the Board of Directors and will be
dependent, among other things, upon earnings, capital requirements,
financing agreement covenants, the financial condition of the Company and
applicable law. The Class A Common Stock and Class B Common Stock share
ratably in any dividends declared by the Company on its Common Stock. Any
stock dividends on the Class A Common Stock and the Class B Common Stock
will be paid in shares of Class A Common Stock.
(d) Equity Compensation Plan Information
(a) Number of (b) Weighted- (c) Number of securities
securities to be average exercise remaining available for
issued upon exercise price of future issuance under equity
Plan Category of outstanding outstanding compensation plans
options, warrants options, warrants [excluding securitieds
and rights and rights reflected in column (a)]
-------------------- ----------------- ----------------------------
Equity compensation plans approved 1,158,000 $0.50 1,243,000
by security holders
Equity compensation plans not 100,000 $0.50 0
approved by security holders
-------------------- ----------------- ----------------------------
TOTAL 1,258,000 $0.50 1,243,000
-------------------- ----------------- ----------------------------
Two of the non-affiliated Board members were granted warrants to purchase 50,000
shares of Class A Common Stock at $0.50 per share for their past and ongoing
services to the Company. The Board of Directors approved these grants on January
25, 2002. These non-affiliated Board members were also granted certain
registration rights for the shares of Class A Common Stock issuable upon the
exercise of the warrants pursuant to the terms of a registration rights
agreement between the Company and such non-affiliated Board members.
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data should be read in
conjunction with the Consolidated Financial Statements and the Notes thereto
included elsewhere herein. The consolidated financial statement data as of
January 31, 2004 and 2003 and for the fiscal years ended January 31, 2004, 2003,
and 2002 are derived from, and qualified by reference to, the audited
Consolidated Financial Statements included elsewhere herein and should be read
in conjunction with those Consolidated Financial Statements and the Notes
thereto. The consolidated financial statement data as of January 31, 2002, 2001
and 2000 and for the fiscal years ended January 31, 2001 and 2000 are derived
from audited Consolidated Financial Statements not included herein.
Year Ended January 31,
(in thousands of dollars, except per share amounts)
-------------------------------------------------------------------------------
Hirsch International Corp. and Subsidiaries 2004 2003 2002 2001 2000
- ------------------------------------------------- ------------ ------------ ------------- ------------- ------------
Statement of Operations Data:
Net sales................................... $48,142 $43,956 $50,156 $63,980 $82,813
Cost of sales............................... 31,946 29,849 36,876 44,992 60,664
Operating expenses (2)(3)................... 18,837 17,936 30,661 34,378 33,142
Loss before income tax provision (benefit) (2,496) (3,450) (17,772) (15,346) (11,789)
Income tax provision (benefit).............. 25 (504) (5,881) -- 221
Loss from continuing operations............. (2,521) (2,946) (11,109) (15,346) (12,010)
Income (Loss) from discontinued operations 2,965 (2,604) (7,216) (323) 375
..(4)(5) ...................................
Cumulative effect of accounting change (1).. -- -- -- -- (2,187)
Net Income (loss) (1)....................... $444 $(5,550) $(18,325) $(15,669) $(13,822)
Basic and diluted net income (loss) per $(0.29) $(0.34) $(1.25) $(1.68) $(1.28)
share from continuing operations......
Basic and diluted net income (loss) per share $0.35 $(0.30) $(1.46) $(0.05) $(0.04)
Shares used in the calculation of basic and 8,571 8,789 8,894 9,112 9,348
diluted net income (loss) per share..........
(1) During fiscal 2000, the Company recorded the net of the cumulative effect
of SAB 101 accounting change for revenue recognition. This resulted from
the change in when revenue was recorded on equipment sales based upon
customer acceptance of installation rather than upon shipment by the
Company.
(2) In Fiscal year 2004, the Company completed its plan of restructuring and
reversed, as a reduction of operating expenses, $716,000 of restructuring
costs that had been previously provided for facilities and severance costs.
(3) Fiscal year 2002 operating expenses included a write-down of impaired
goodwill of $3.5 million and restructuring costs of $2.7 million and Fiscal
2001 includes a write-down of impaired goodwill of $7.6 million.
(4) Fiscal years 2004, 2003, 2002, 2001 and 2000 have been restated to reflect
the discontinued operations of TUI, HAPL and Pulse.
(5) In Fiscal Year 2004, the Company reversed $2.0 million of reserves
associated with the UNL lease portfolio which was sold to Beacon Funding in
September 2003.
January 31,
Hirsch International Corp. and Subsidiaries (in thousands of dollars)
-------------------------------------------------------------------
2004 2003 2002 2001 2000
---------- --------- ---------- ----------- -----------
Balance Sheet Data:
Working capital........................... $14,545 $14,399 $22,001 $25,214 $29,627
Total assets.................................. 30,346 39,747 46,892 54,030 80,216
Long-term debt, less current maturities....... 2,146 2,388 2,608 79 989
Stockholders' equity.......................... $15,848 $16,065 $21,459 $40,278 $56,253
Hirsch International Corp
Summarized Quarterly Data**
$ in thousands, except for per share amounts Fiscal Quarter
------------------------------------------------------------
2004 First Second Third Fourth
------------ ------------ ------------ ------------
Net Sales....................................... $12,102 $11,461 $12,421 $12,157
Gross profit.................................... 4,219 3,996 4,088 3,893
Restructuring costs (income).................... (497) (200) 0 (19)
Income (loss) from discontinued operations...... 143 1,684 715 423
Net income (loss)............................... 105 1,151 (79) (733)
----------- ---------- --------- -----------
Basic and diluted income (loss) per share....... $0.01 $0.13 $(0.01) $(0.08)
=========== =========== =========== ===========
2003
------------ ------------ ------------ ------------
Net Sales....................................... $12,493 $12,641 $9,752 $10,069
Gross profit.................................... 3,959 3,912 3,308 2,927
Income (loss) from discontinued operations...... (3,563) 260 242 457
Net (loss)...................................... (4,517) (434) (502) (97)
------------ ------------ ------------ ------------
Basic and diluted loss per share................ $(0.51) $(0.05) $(0.06) $(0.01)
============ ============ ============ ============
**Note: The quarterly data has been restated to reflect the discontinued operations of Tajima USA, Inc.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS
OF OPERATIONS
The following discussion and analysis contains forward-looking statements
which involve risks and uncertainties. When used herein, the words "anticipate",
"believe", "estimate" and "expect" and similar expressions as they relate to the
Company or its management are intended to identify such forward-looking
statements. The Company's actual results, performance or achievements could
differ materially from the results expressed in or implied by these
forward-looking statements. Factors that could cause or contribute to such
differences should be read in conjunction with, and are qualified in their
entirety by, the Company's Consolidated Financial Statements, including the
Notes thereto. Historical results are not necessarily indicative of trends in
operating results for any future period. As used herein, "fiscal year" and
"fiscal" refers to the applicable fiscal year ending January 31 of the
applicable calendar year.
General
- -------
The Company is a leading single source supplier of electronic
computer-controlled embroidery machinery and related value-added products and
services to the embroidery industry. The Company offers a complete line of
technologically advanced single- and multi-head embroidery machines, proprietary
application software and a diverse line of embroidery supplies and accessories.
Hirsch believes its comprehensive customer service, user training, software
support through Pulse and broad product offerings combine to place the Company
in a competitive position within its marketplace. The Company sells embroidery
machines manufactured by Tajima and TUI, as well as a wide variety of embroidery
supplies, microcomputers manufactured by Dell Computer Corporation and software
manufactured by Pulse.
In fiscal 1998 Hirsch formed TUI for the purpose of assembling Tajima
embroidery machines in the United States. Production at TUI consists of models
in configurations of up to eight heads per machine. In January 1998 Tokai
Industries (Tajima's manufacturing arm) purchased a 45 percent interest in TUI.
In July 1999 Tajima granted to Hirsch the non-exclusive right to distribute to
its existing US customers who have expanded their operations into the Caribbean
region. As of January 31, 2004, the Company sold its majority interest in TUI to
Tajima Industries.
The Company grew rapidly from the time of its initial public offering
through fiscal 1998. Growth during this period was fueled by rapid technological
advances in software and hardware, the strong demand for embroidered products,
the creation of new embroidery applications and the strength of the "embroidery
entrepreneur" as a growing segment of the marketplace. The Company believes that
the purchasers of smaller embroidery machines are a significant source of repeat
business for the sale of multi-head embroidery machines as the entrepreneurs'
operations expand.
The trend toward retrenchment driven by the relocation and continued
investment offshore of large multi-head equipment customers has seen the growth
of small machine customers in the domestic market. The market continues to
experience a decline in large machine sales, continuing the change in the sales
mix of embroidery machines and an overall decline in demand. It was further
compounded by weakening value in foreign exchange of the Yen versus the US
dollar, resulting in dollar price pressure for machine sales. All Japanese
equipment based competitors in the industry faced difficulty in meeting these
new market demands. In fiscal 2002 the Company initiated a restructuring program
to address the market shifts in the industry, including closing and
consolidating certain divisions, reducing total employment, and consolidating
facilities that were no longer required to support its new business model (See
Note 9 of Notes to Consolidated Financial Statements). In Fiscal 2004, the
Company completed its plan of restructuring and reversed, as a reduction of
operating expenses, $716,000 of restructuring costs that had been provided for
facilities and severance costs due to the re-negotiation of the office facility
in Solon, Ohio.
Results of Operations
- ---------------------
The following table presents certain income statement items expressed as a
percentage of total revenue for the fiscal years ended January 31, 2004, 2003
and 2002.
2004 2003 2002
------------ ------------ -------------
Net sales................................................... 100% 100.0% 100.0%
Cost of sales............................................... 66.4% 65.6% 73.5%
Operating expenses.......................................... 39.1% 40.8% 49.7%
Interest expense, net....................................... 0.4% 0.5% 0.6%
Other expense (income), net................................. -0.7% -1.0% -1.4%
------------ ------------ -------------
(Loss) from continuing operations before income taxes....... -5.2% -6.7% -22.4%
Income tax (benefit) provision.............................. 0.5% -0.11% -11.7%
Income (loss) from discontinued operations, net of tax.... 6.2% -5.9% -25.8%
------------ ------------ -------------
Net Income (loss)............................................ 0.9% -12.6% -36.5%
============ ============ =============
** Note: The results of operations have been restated to reflect the
discontinued operations of TUI.
Use of Estimates and Critical Accounting Policies
The preparation of Hirsch's financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities at the date of the financial statements and revenues and
expenses during the period. Future events and their effects cannot be determined
with absolute certainty; therefore, the determination of estimates requires the
exercise of judgment. Actual results inevitably will differ from those
estimates, and such differences may be material to our financial statements.
Management continually evaluates its estimates and assumptions, which are based
on historical experience and other factors that are believed to be reasonable
under the circumstances. These estimates and Hirsch's actual results are subject
to the risk factors listed above under Item 1 Business -- "Risk Factors".
Critical Accounting Policies
- ----------------------------
Management believes the following critical accounting policies affect its
more significant estimates and assumptions used in the preparation of its
consolidated financial statements:
Revenue Recognition - The Company distributes embroidery equipment that it
offers for sale. Where installation and customer acceptance are a substantive
part of the sale, by its terms, the Company has deferred recognition of the
revenue until such customer acceptance of installation has occurred. In fiscal
years 2004, 2003 and 2002, most sales of new equipment did not require
installation within the terms of the sales contract and accordingly sales are
booked when shipped. Service revenues and costs are recognized when services are
provided. Sales of computer hardware and software are recognized when shipped
provided that no significant vendor and post-contract and support obligations
remain and collection is probable. Sales of parts and supplies are recognized
when shipped.
Long lived Assets - The Company reviews its long-lived assets, including
property, plant and equipment, identifiable intangibles (goodwill) and purchased
technologies, for impairment whenever events or changes in circumstances
indicate that the carrying amount of the assets may not be fully recoverable. To
determine recoverability of its long-lived assets, the Company evaluates the
probability that future undiscounted net cash flows will be less than the
carrying amount of the assets. During the fourth quarter of fiscal 2001,
$7,640,000 of goodwill associated with the acquisitions of SMX Corporation,
Sedeco Corporation and All Pro Punching, Inc. was written off. During the fourth
quarter of fiscal 2002, the remaining balance of $3,477,000 of goodwill
associated with the acquisitions of SMX Corporation and Sedeco Corporation was
written off (See Note 16 to the Consolidated Financial Statements).
Income Taxes - Current income tax expense is the amount of income taxes
expected to be payable for the current year. A deferred income tax asset or
liability is established for the expected future consequences resulting from
temporary differences in the financial reporting and tax bases of assets and
liabilities. The Company provides a valuation allowance for its deferred tax
assets when, in the opinion of management, it is more likely than not that such
assets will not be realized.
Allowance for Doubtful Accounts - The Company maintains an allowance for
estimated losses resulting from the inability of its customers to make required
payments. An estimate of uncollectable amounts is made by management based upon
historical bad debts, current customer receivable balances, age of customer
receivable balances, the customer's financial condition and current economic
trends. If the actual uncollected amounts significantly exceed the estimated
allowance, then the Company's operating results could be significantly adversely
affected.
Inventories - Inventories are valued at the lower of cost or market. Cost
is determined using the average cost for supplies and parts and specific cost
for embroidery machines and peripherals. The inventory balance is recorded net
of an estimated allowance for obsolete or unmarketable inventory. The estimated
allowance for obsolete or unmarketable inventory is based upon management's
understanding of market conditions and forecasts of future product demand. If
the actual amount of obsolete or unmarketable inventory significantly exceeds
the estimated allowance, the Company's cost of sales, gross profit and net
income (loss) could be significantly adversely affected.
Warranty - The Company instituted a five-year limited warranty policy for
its embroidery machines. The Company's policy is to accrue the estimated cost of
satisfying future warranty claims on a quarterly basis. In estimating its future
warranty obligations, the Company considers various relevant factors, including
the Company's stated warranty policies and practices, the historical frequency
of claims, and the cost to replace or repair its products under warranty. If the
number of actual warranty claims or the cost of satisfying warranty claims
significantly exceeds the estimated warranty reserve, the Company's operating
expenses and net income (loss) could be significantly adversely affected.
Reserves for Discontinued Operations - In the fourth quarter of fiscal 2002
and the first quarter of Fiscal 2003 the Company made provisions for the winding
down of the HAPL Leasing subsidiary. Management regularly reviews the remaining
reserves and in Management's opinion adequate provisions have been made for the
winding down of HAPL's operations.
Fiscal Year 2004 as Compared to Fiscal Year 2003
- ------------------------------------------------
Net sales. Net sales for fiscal year 2004 were $48.1 million, an increase
of $4.1 million, or 9.3% compared to $ 44.0 million for fiscal year 2003. The
Company believes that the increase in the sales level for the fiscal year ended
January 31, 2004 is primarily attributable to an increased penetration of single
head and small machines in the market as well as the aggressive marketing
campaign targeting new and existing customers with the new value added packages
and renewed focus on growing parts and supply sales.
Cost of sales. For fiscal year 2004, cost of sales increased $2.1 million
or 7.0%, to $31.9 million from $29.8 million for fiscal year 2003. The increase
was a result of the related increase in net sales for fiscal year 2004 as
compared to fiscal year 2003. The Company's gross margin improved for fiscal
year 2004 to 33.6%, as compared to 32.1% for fiscal year 2003. While the
fluctuation of the dollar against the yen has historically had a minimal effect
on Tajima equipment gross margins, since currency fluctuations are generally
reflected in pricing adjustments in order to maintain consistent gross margins
on machine revenues, increased cost of sales reflects the continuing product mix
shift from larger equipment with higher gross margins to smaller equipment with
lower gross margins. The improvement in gross margin is mainly attributable to
increased margins on software sales pursuant to the terms of the purchase
agreement with Pulse, in addition to a reduction in sales of older inventory
carried at higher costs.
Operating Expenses. As reported for fiscal year 2004, operating expenses
increased $0.9 million or 5.0%, to $18.8 million from $17.9 million for fiscal
year 2003. Excluding the reversal of the non-recurring charges for restructuring
costs of $0.7 million, operating expenses were $19.6 million, an increase of
$1.7 million or 9.5% from $17.9 million. This increase was due to expenses
associated with increased sales, increased advertising and marketing programs,
and increased professional fees.
Interest Expense. Interest expense for fiscal year 2004 was $0.2 million
versus interest expense of $0.3 million for fiscal year 2003. Interest expense
is primarily associated with the sale/leaseback transaction of the corporate
headquarters. Interest income of $334,000, primarily from the tax refund was
recognized during fiscal 2004.
Other (Income) Expense. Other income for fiscal 2004 was $360,000 versus
$638,000 for fiscal 2003. In fiscal 2004, other income included a $234,000 gain
on sale of assets offset by $219,000 in currency losses. In fiscal 2003 other
income included a $214,000 gain on sale of fixed assets, $55,000 currency gain
and a $270,000 gain on the sale of HTT company owned stores.
Income tax (benefit) provision. The income tax provision reflected an
effective tax benefit rate of approximately 1.5% for the twelve months ended
January 31, 2004 as compared to an income tax benefit rate of 20% for fiscal
year 2003. The benefit rate for the fiscal 2004 year is a direct result of the
Job Creation and Worker Assistance Act temporarily extending the carryback of
Net Operating Losses from two years to five years. This change has enabled the
Company to carryback its two most recent years losses and obtain a refund of
approximately $6 million. During fiscal 2004, the Company received the carryback
claim refund from the IRS along with applicable interest through the refund
date. The difference of the above rate to the federal statutory rate for 2004 is
the valuation allowance established on deferred tax assets since the Company
cannot determine the future utilization of those assets.
Income (Loss) from Discontinued Operations. In the fourth quarter of Fiscal
2002, the Company determined that its HAPL Leasing subsidiary was not strategic
to the Company's ongoing objectives and discontinued operations. The Company has
made provisions for the cost of winding down the operations as well as the
potential losses that could be incurred in disposing of its minimum lease
payments and residual receivables. The operating loss in fiscal 2002 includes
$4.6 million provision for the Ultimate Net Loss ("UNL") liability and the sale
of the residual receivable associated with it. The operating loss in fiscal 2003
includes an additional $4.0 million to account for expected additional losses in
liquidating the leasing subsidiary's remaining lease portfolio. The Company's
Statements of Operations have been restated to reflect the results of the HAPL
Leasing subsidiary as a loss on discontinued operations (See Note 7 to the
Consolidated Financial Statements). In July 2003, the Company entered into a
transaction whereby the Company assigned its interest in the remaining UNL lease
portfolio from the CIT Group/Equipment Financing, Inc. ("CIT") to Beacon Funding
and the residual receivables associated with the lease portfolio for
approximately $375,000. The Company reversed, as part of discontinued
operations, $2.0 million of reserves associated with the UNL Lease portfolio.
The Company executed an Agreement with Tajima pursuant to which the Company
sold all of the common stock (the "Shares") constituting a 55% equity interest
of its TUI subsidiary owned by it to Tajima, upon the terms and conditions set
forth in a certain Purchase and Sale Agreement by and among the Company, Tajima
and TUI (the "Agreement"). The sale was effective as of January 31, 2004. Upon
the consummation of the sale, Tajima owned 100% of the issued and outstanding
common stock of TUI.
The purchase price (the "Purchase Price") for the Shares was equal to the
Book Value (as defined in the Agreement), calculated in accordance with
generally accepted accounting principles. At the closing, Tajima paid the
Company the sum of $500,000 (the "Initial Payment") in partial payment of the
Purchase Price. The remaining balance due on the Purchase Price will be
determined on or before April 30, 2004, and paid promptly thereafter in
accordance with the terms of the Agreement.
In addition, the Company agreed to repay TUI the sum of $7,182,002,
representing amounts owed by the Company to TUI as of January 31, 2004 (the "Net
Intercompany Payable"). The Net Intercompany Payable shall be paid as follows:
(a) the Initial Payment ($500,000) was paid by Tajima to TUI on
behalf of the Company,
(b) the assignment by the Company to TUI of its right to receive the
sum of $2,200,000 from Tajima upon payment of the balance due on
the Purchase Price, and
(c) the payment by the Company of the sum of $4,482,000 in five (5)
equal monthly installments of $735,167 each and a sixth payment
of $806,165, commencing February 29,2004 and continuing through
and including July 31, 2004.
The Consolidated Financial Statements have been restated to reflect the
discontinued operations of TUI for all periods presented.
Net Income (Loss). The net income for fiscal year 2004 was $444,000, an
increase of $5.1 million, compared to a net loss of $5.5 million for fiscal year
2003. This increase is attributable to the increase in net sales, an increase in
the cost of sales, an increase in operating expenses, reversals of restructuring
accruals, and the change in income (loss) on discontinued operations of $6.0
million.
Fiscal Year 2003 as Compared to Fiscal Year 2002
- ------------------------------------------------
Net sales. Net sales for fiscal year 2003 were $44.0 million, a decrease of
$6.2 million, or 12.4% compared to $ 50.2 million for fiscal year 2002. The
Company believes that the reduction in the sales level for the fiscal year ended
January 31, 2003 is primarily attributable to a decrease in overall demand for
new multi-head embroidery machines, as well as increased pricing pressure from
the marketplace on new and used machine sales. Sales of the Company's new and
used machines, computer hardware and software, application software for fiscal
year 2003 aggregated approximately $42.2 million as compared to $43.8 million
for fiscal year 2002, a decrease of $1.6 million or 3.7%. Sales of parts and
supplies dropped $2.7 million, or 46%, which is indicative of the reduced
activity of the embroidery market in the US. Other revenues, including franchise
revenues increased $0.5 million from fiscal 2002.
Cost of sales. For fiscal year 2003, cost of sales decreased $7.0 million
or 19.0%, to $29.9 million from $36.9 million for fiscal year 2002. The $7.0
million decrease was a result of the related decrease in net sales for fiscal
year 2003 as compared to fiscal year 2002. The Company's gross margin as a
percent of sales increased for fiscal year 2003 to 32.1%, as compared to 26.5%
for fiscal year 2002. Included in cost of sales for 2002 was a write-down of
inventory of approximately $1.8 million (See Note 4 to the Consolidated
Financial Statements). Excluding the writedown of inventory, gross margin as a
percent of sales would have been 30.1%. The increase in gross margins is
attributable to the increase in other revenue (which includes franchise
revenues), which carries higher gross margins.
Operating Expenses. Operating expenses for fiscal year 2003, decreased
$12.8 million or 41.7%, to $17.9 million from $30.7 million for fiscal year
2002. Excluding the charges for goodwill impairment and restructuring costs in
fiscal 2002, operating expenses were $24.9 million in fiscal 2002, a decline of
$7.0 million or 28.1% to $17.9 million in fiscal 2003. This decline was
attributable to the cost reduction initiatives the Company put into place at the
end of fiscal 2002. The Company performed an impairment evaluation during the
fourth quarter of fiscal 2002 for the SMX Corporation and Sedeco Corporation
territories and as a result wrote off the balance of the goodwill associated
with these acquisitions. The goodwill write-off represented a per-share net loss
of $ 0.39 both on a basic and diluted basis for fiscal year 2002. Operating
expenses for 2002 also include restructuring charges reflecting the Company's
plan to reduce operating costs relative to the anticipated sales volume.
Included in this non-recurring charge are $.6 million in employee severance
costs and $2.1 million in facilities combinations/lease restructures (See Note 9
to the Consolidated Financial Statements).
Interest Expense. Interest expense for fiscal year 2003 was $.3 million
versus interest expense of $.3 million for fiscal year 2002. The Company
continued its aggressive inventory reduction program in fiscal year 2003. The
results of this program directly reflect increased liquidity and meant no
increase in interest expense as a result of the eliminations of working capital
borrowings outstanding against the Company's Revolving Credit Agreements during
both fiscal 2003 and fiscal 2002. The sale of the corporate headquarters during
fiscal 2002 also reduced the need for working capital borrowings.
Other Income. Other income for fiscal 2003 was $638,000 versus $708,000 for
fiscal 2002. In fiscal 2003 other income included a $214,000 gain on sale of
assets, $55,000 currency gain and a $270,000 gain on the sale of Hometown
Threads company owned stores. In fiscal 2002 other income included a $171,000
gain on sale of assets in addition to a $381,000 currency gain, interest income
of $124,000 and other income of $32,000.
Income tax (benefit) provision. The income tax provision reflected an
effective tax rate of approximately 20% for the twelve months ended January 31,
2003 as compared to an income tax benefit rate of 36.6 % for fiscal year 2002.
The tax provision for fiscal 2003 represents Federal and State taxes on the
Company's 55% owned subsidiary and was reduced by the actual NOL carryback for
the prior year. The benefit rate for the fiscal 2002 year is a direct result of
the Job Creation and Worker Assistance Act temporarily extending the carryback
of Net Operating Losses from two years to five years. This change has enabled
the Company to carryback its two most recent years losses and obtain a refund of
approximately $6 million. The difference of the above rate to the federal
statutory rate for 2003 is the valuation allowance established on deferred tax
assets since the Company cannot determine the future utilization of those
assets, as well as minimum franchise taxes for fiscal 2003.
Loss from Discontinued Operations. In the fourth quarter of fiscal 2002,
the Company determined that its HAPL Leasing subsidiary was not strategic to the
Company's ongoing objectives and discontinued operations. The Company has made
provisions for the cost of winding down the operations as well as the potential
losses that could be incurred in disposing of its minimum lease payments and
residual receivables. The operating loss in fiscal 2002 includes $4.6 million
provision for the Ultimate Net Loss ("UNL") liability and the sale of the
residual receivable associated with it; $2.6 million increase in the Minimum
Lease Payment Receivable ("MLPR") provision; as well as $1.1 million in other
costs. The operating loss in fiscal 2003 includes an additional $4.0 million to
account for expected additional losses in liquidating the leasing subsidiary's
remaining lease portfolio. The Company's Statements of Operations have been
restated to reflect the results of the HAPL Leasing subsidiary as discontinued
operations. (See Note 7 to the Consolidated Financial Statements).
Effective October 31, 2002, the Company completed the sale of all of the
outstanding equity interests in its wholly-owned subsidiary, Pulse, pursuant to
the terms of the purchase agreement by and between Hirsch and 2017146 Ontario
Limited ("Purchaser") dated as of October 31, 2002 (the "Agreement").
Pursuant to the Agreement, Hirsch sold all of its equity interests in Pulse
to the Purchaser for an aggregate consideration of $5.0 million to be paid as
follows: (a) $0.5 million cash, (b) a $0.5 million note payable in 11 quarterly
installments beginning April 30, 2003 and including interest accruing on the
principal balance at the rate of US Prime +1% per annum, and (c) the assumption
of $4.0 million of Hirsch obligations. All periods presented reflect the
discontinued operations of Pulse (See Note 7 to the Consolidated Financial
Statements).
Net loss. The net loss for fiscal year 2003 was $5.5 million, a decrease of
$12.8 million, compared to a net loss of $ 18.3 million for fiscal year 2002.
This decrease is attributable to the decrease in operating expenses associated
with the restructuring charge of $2.3 million and the Impairment of Goodwill of
$ 3.5 million which were recorded in fiscal 2002 and a reduction in the loss on
discontinued operations of $4.6 million as well as the reduction in Selling,
General and Administrative expenses of $7.0 million and an increase in Gross
Profit of $0.8 million, offset by a drop in tax benefit of $5.4 million.
Liquidity and Capital Resources
- -------------------------------
The Company's working capital remained relatively constant at $14.6 million
at January 31, 2004 as compared to $14.4 million at January 31, 2003 a nominal
change of $0.2 million or 1%.
During Fiscal 2004, The Company's cash increased $1.3 million or 17% to
$9.0 million from $7.7 million at January 31, 2004. The majority of the increase
was due to the receipt of the $3.6 million refund in Federal Income Taxes from
the carry-back of prior year losses, additional cash provided by operating
activities of $0.45 million due to the conversion of inventory and current
assets into cash, increases in accounts payable and trade acceptances payable
offset by increases in accounts receivable, net cash provided by investing
activities of $0.05 million and net cash used in financing activities of $2.8
million.
Investing activities provided $0.05 million in cash during fiscal 2004
versus a use of cash of $0.02 million during Fiscal 2004. Investing activities
during Fiscal 2004 included $0.55 million in capital expenditures for the
purchase of additional fixed assets, $0.5 million in proceeds from the sale of
Pulse and $0.1 million in proceeds from the sale of Company owned franchise
stores.
Financing activities used $2.8 million in cash during fiscal 2004 versus a
$1.5 million use of cash during Fiscal 2003. Financing activities during fiscal
2004 included $2.1 million in additional collateral to cover Letters of Credit
at Congress Financial, $0.42 million in the repurchase of 470,000 treasury
shares at an average market price of $0.98 per share under the Company's Stock
Repurchase program, $0.17 million in dividend payments during the third and
fourth quarters of fiscal 2004, $0.12 million in long term debt repayments and
cash of $0.01 million provided by stock options exercised.
Future Commitments
- ------------------
The following table shows the Company's contractual obligations and
commitments (See Notes 9 and 14 to the Consolidated Financial Statements).
Payments due by period (in thousands)
Total Less than 1-3 4-5 More than
1 year years years 5 years
Contractual Obligations/Commitments
- ---------------------------------------------------- ----------- ------------- ------------- ---------- ------------
Capital lease obligations....................... $1,541 $123 $530 $528 $360
Operating Lease obligations..................... 2,896 780 1,448 429 239
Purchase Commitments............................ 2,100 1,200 900 0 0
Employment Agreements........................... 438 438 0 0 0
----------- ------------- ------------- ---------- ------------
Total $6,975 $2,541 $2,878 $957 $599
=========== ============= ============= =========== ============
Revolving Credit Facility and Borrowings
- ----------------------------------------
The Company has a Loan and Security Agreement ("the Congress Agreement")
with Congress Financial Corporation ("Congress") for a three year term expiring
on November 26, 2005. The Congress Agreement provides for a credit facility of
$12 million for Hirsch and all subsidiaries. Advances made pursuant to the
Congress Agreement may be used by the Company and its subsidiaries for working
capital loans, letters of credit and deferred payment letters of credit. The
terms of the Congress Agreement require the Company to maintain certain
financial covenants. The Company was in compliance with all financial covenants
at January 31, 2004. The Company has $2.3 million in letters of credit
outstanding at January 31, 2004.
Future Capital Requirements
- ---------------------------
Subsequent to the close of fiscal 2002, the Federal Government passed the
Job Creation and Worker Assistance Act temporarily extending the carry back of
Net Operating Losses from two years to five years. This provided approximately
$6.0 million in cash available for operations. Approximately $3.0 million was
received during the fiscal year ended January 31, 2003 and the balance was
received during fiscal 2004, along with applicable interest. The Company
believes these proceeds, with its existing cash and funds generated from
operations, together with its new credit facility, will be sufficient to meet
its working capital and capital expenditure requirements and to finance planned
growth.
Backlog and Inventory
- ---------------------
The ability of the Company to fill orders quickly is an important part of
its customer service strategy. The embroidery machines held in inventory by the
Company are generally shipped within a week from the date the customer's orders
are received, and as a result, backlog is not meaningful as an indicator of
future sales.
Inflation
- ---------
The Company does not believe that inflation has had, or will have in the
foreseeable future, a material impact upon the Company's operating results.
Recent Accounting Pronouncements - The Financial Accounting Standards Board
("FASB") has issued the following:
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity",
effective for financial instruments entered into or modifies after May 31, 2003,
and otherwise is effective at the beginning of the first interim period
beginning after June 15, 2003. This statement establishes standards for how an
issuer classifies and measures certain financial instruments with
characteristics of both liabilities and equity. It requires that an issuer
classify a freestanding financial instrument that is within its scope as a
liability (or an asset in some circumstances). The Adoption of SFAS No. 150 is
not expected to have an impact on the Company's consolidated financial
statements.
The Emerging Issues Task Force ("EITF") issued EITF Issue No. 00-21
"Revenue Arrangements with Multiple Deliverables" ("Issue 00-21"). Issue 00-21
addresses certian aspects of the accounting by a vendor for arrangements under
which it will perform multiple revenue generating activities and how to
determine whether an arrangement involving multiple deliverables contains more
than one unit of accounting. Issue 00-21 became effective for revenue
arrangements entered into in fiscal periods after June 15, 2003. The adoption of
Issue 00-21 did not have a material effect on the Company's consolidated
financial statements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to various market risks, including changes in
foreign currency exchange rates and interest rates. Market risk is the potential
loss arising from adverse changes in market rates and prices, such as foreign
currency exchange and interest rates. The Company has a formal policy that
prohibits the use of currency derivatives or other financial instruments for
trading or speculative purposes. The policy permits the use of financial
instruments to manage and reduce the impact of changes in foreign currency
exchange rates that may arise in the normal course of the Company's business.
Currently, the Company does not use interest rate derivatives.
The Company may from time to time enter into forward foreign exchange
contracts principally to hedge the currency fluctuations in transactions
denominated in foreign currencies, thereby limiting the Company's risk that
would otherwise result from changes in exchange rates.
Any Company debt, if utilized, is U.S. dollar denominated and floating
rate-based. At year-end, there was no usage of the revolving credit facility. If
the Company had utilized its credit facility, it would have exposure to rising
and falling rates, and an increase in such rates would have an adverse impact on
net pre-tax expenses. The Company does not use interest rate derivatives to
protect its exposure to interest rate market movements.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information contained in pages F-1 through F-24 hereof.
ITEM 9. CHANGES IN AND DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Under the supervision and with the participation of the Company's
management, including the Chief Executive Officer and the Chief Financial
Officer, the Company carried out an evaluation of the effectiveness of the
design and operation of the disclosure controls and procedures, as defined in
Rules 13a-15e and 15d-15e of the Securities Exchange Act of 1934, as amended
(the "Exchange Act"). Based upon that evaluation, the Company's Chief Executive
Officer and Chief Financial Officer concluded that the Company' disclosure
controls and procedures are effective, as of the end of the period covered by
this Report, in ensuring that material information relating to the Company
required to be disclosed by the Company in reports that it files or submits
under the Exchange Act is recorded, processed, summarized and reported within
the time periods specified in the Securities and Exchange Commission's rule and
forms, including ensuring that such material information is accumulated and
communicated to the Company's Management, including the Company's Chief
Executive Officer and Chief Financial Officer, as appropriate to allow timely
decisions regarding required disclosure.
There have been no changes in the Company's internal controls over
financial reporting that occurred during the period covered by this report that
have materially affected, or are reasonably likely to affect, the Company's
internal controls over financial reporting.
PART III
Documents Incorporated by Reference:
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information Regarding Executive Officers and Directors
- ------------------------------------------------------
The following table sets forth the names and ages of the Company's
directors and executive officers and the positions they hold with the Company:
Name Age Position
- ---- --- --------
Henry Arnberg....................... 61 Chairman of the Board of Directors and Chief Executive Officer
Paul Levine......................... 51 Vice Chairman of the Board of Directors and Chief Executive Officer of
Hometown Threads, LLC
Paul Gallagher...................... 54 President, Chief Operating Officer and Director
Beverly Eichel...................... 46 Vice President - Finance and Administration, Chief Financial Officer and
Secretary
Marvin Broitman..................... 65 Director
Herbert M. Gardner.................. 64 Director
Mary Ann Domuracki ................. 48 Director
Howard Arnberg ..................... 34 President of Hometown Threads, LLC
Henry Arnberg, has been Chief Executive Officer of the Company since 1970,
held the position of Chairman of the Board of the Board of Directors since 1980
and served as President of the Company until December 1998. Mr. Arnberg received
a Bachelor of Science in Accounting from the University of Bridgeport in 1965
and an MBA in Finance and Management from the Adelphi University in 1971.
Paul Levine, has been employed by the Company since 1974 and has served as
a director since 1981. Mr. Levine currently serves as Vice Chairman of the Board
of Directors and Chief Executive Officer of Hometown Threads. Prior thereto, for
more than 5 years, Mr. Levine served as the Company's President, during the
period of December 1998 until February 2003. From 1981 to December 1998, he
served as the Company's Chief Operating Officer, Executive Vice President and
Secretary. Mr. Levine received a Bachelor of Science in Business from New York
University in 1974.
Paul Gallagher, joined the Company as its Chief Operating Officer in
September 2001. In early 2003, Mr. Gallagher was also appointed the Company's
President as well as a director. Prior thereto, Mr. Gallagher was employed by
Cornerstone Group Inc., a consulting firm focused on corporate turnarounds and
restructurings, as well as mergers and acquisitions. Mr. Gallagher received a
Bachelor of Science from the University of Cincinnati in 1976 and an MBA from
Xavier University in 1978.
Beverly Eichel, has been Vice President of Finance and Administration and
Chief Financial Officer of the Company since February 1, 2002. Ms. Eichel has
also served as the Company's Secretary since October 2002. Prior thereto, she
was Executive Vice President and Chief Financial Officer of Donnkenny, Inc. from
October 1998 to June 2001. From June 1992 to September 1998, Ms. Eichel served
as Executive Vice President and Chief Financial Officer of Danskin, Inc. and had
been its Corporate Controller from October 1987 to June 1992. Ms. Eichel is a
Certified Public Accountant in the State of New York. Ms. Eichel received a
Bachelor of Science in Accounting from the University of Maryland in 1980.
Marvin Broitman, director of the Company since April 1994, is currently
Vice President of Uniwave, Inc., a company engaged in the engineering and
manufacturing of automation accessory equipment for textile machinery since
1968. Mr. Broitman received a Bachelor of Electrical Engineering degree from
City College in 1961 and an MBA from the Harvard Business School in 1968. Mr.
Broitman serves on the Audit, Stock Option and Compensation Committees of the
Board of Directors.
Herbert M. Gardner, director of the Company since April 1994, is currently
Executive Vice President of Barrett-Gardner Associates, Inc., a merchant and
investment banking firm. Between 1978 and 2002, Mr. Gardner had been a Senior
Vice President of Janney Montgomery Scott LLC, an investment banking firm. Mr.
Gardner is Chairman of the Board of Directors of Supreme Industries, Inc., a
manufacturer of specialized truck bodies and shuttle buses. In addition, he
serves as a Director of Nu Horizons Electronics Corp., an electronic component
distributor; TGC Industries, Inc., a seismic services company; and Co-Active
Marketing Group, Inc., a marketing and sales promotion company; Rumson-Fair
Haven Bank and Trust Company, a New Jersey state independent, commercial bank
and trust company and Chase Packaging Corp. Mr. Gardner serves on the Audit,
Stock Option and Compensation Committees of the Company's Board of Directors.
Mary Ann Domuracki, director of the Company since September 2001, currently
has been managing Director of Restructuring at Financo, Inc. since September
2001. Ms. Domuracki has more than 25 years experience of accounting, advisory
and operating management services. Her industry experience includes, senior
management positions as President of Danskin, Inc., Executive Vice President of
Administration and Finance of Kasper A.S.L., and most recently, Executive Vice
President and Chief Financial Officer of Pegasus Apparel Group, Inc. Ms.
Domuracki is a CPA and a member of the AICPA, and has a Bachelor of Business
Administration from the Pennsylvania State University with a concentration in
Accounting. Ms. Domuracki serves on the Audit, Stock Option and Compensation
Committees of the Board of Directors.
Howard Arnberg, has been employed by the Company since 1995, serving in
various operational roles. Mr. Arnberg served as the Company's Vice President -
New Business Development and currently serves as the President of Hometown
Threads, LLC. Mr. Arnberg earned a Bachelor of Science in Business
Administration from the University of Florida at Gainesville in 1991 and a Juris
Doctor from Brooklyn Law School in 1994. He is a member of the New York State
Bar Association and the American Bar Association. Mr. Arnberg is the son of
Henry Arnberg, the Company's Chairman and Chief Executive Officer. Committees of
the Board of Directors
The Board of Directors has an Audit Committee, a Compensation Committee and
a Stock Option Committee. Each member of the Audit Committee is an "independent
director" as defined in Rule 4200(a)(15) of the National Association of
Securities Dealers listing standards, as applicable and as may be modified or
supplemented. MaryAnn Domuracki, a member of the Audit Committee, is a financial
expert within the meaning of Item 401(h)(2) of Regulation S-K privileged under
the Act. The audit committee has adopted a written audit committee charter. The
Board of Directors does not have a nominating committee or a committee
performing the functions of a nominating committee.
Messrs. Broitman and Gardner and Ms. Domuracki serve on the Compensation
Committee, the Audit Committee, and on the Stock Option Committee. The function
of the Compensation Committee is to determine the compensation of the Company's
executives. The Stock Option Committee administers the Company's stock option
plans and awards stock options.
Code of Ethics
- --------------
The Company has adopted a code of ethics applicable to the Company's
Executive Officer and financial officer, which is a "Code of Ethics" defined by
the applicable rules of the Securities and Exchange Commission. A copy of the
Company's Code of Ethics is being filed with the Securities and Exchange
Commission as exhibit 14.1 to this Annual Report on Form 10-K. The Company
undertakes to provide to any person with out charge, upon request, a copy of the
Company's Standards of Business Conduct. Requests for such copy should be made
in writing to the Company at its principal office, which is set forth on the
first page of this Form 10-K, attention Chief Financial Officer. If the Company
makes any amendment to this code of ethics, other than technical, administrative
or non-substantive amendments, or grants any waivers, including implicit waivers
from a provision of the code of ethics to the Company's principal executive
officer, principal financial officer or persons performing similar functions,
the Company will disclose the motive for the amendment or waiver, its effective
date and to what it applied on a report on Form 8-K filed with the Securities
and Exchange Commission.
Section 16(a) Beneficial Ownership Reporting Compliance
- -------------------------------------------------------
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
officers and directors and persons who own more than ten percent of a class of
the Company's securities to file reports of ownership and changes in ownership
on Forms 3, 4 and 5 with the Securities and Exchange Commission. In addition,
officers , directors and greater than ten percent stockholders are required by
the Securities and Exchange Commission regulates to furnish the Company with
copies of all Section 16 forms they file.
To the Company's knowledge, based solely on its review of the copies of
such forms received by it and representations from certain reporting persons,
the Company believes that during the fiscal year ended January 31, 2004, all
Section 16(a) filing requirements applicable to its officers, directors and
greater than ten percent beneficial owners were satisfied.
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth the compensation earned during the three
fiscal years ended January 31, 2004, 2003 and 2002 by the Company's Chief
Executive Officer and by the four most highly paid Company's Executive Officers
whose total compensation for such periods exceeded $100,000 (the "Named
Executives"):
Summary Compensation Table
- --------------------------
Annual Compensation Long Term Compensation Awards
-------------------------------------- -----------------------------
Fiscal Other Annual All Other
Name and Principal Position Year Salary Bonus Compensation Options Compensation
- ------------------------------------------- -------- ------- -------- ------------ ------- ------------
Henry Arnberg
Chairman of the Board of Directors and
Chief Executive Officer 2004 $250,000 - $2,060 - -
2003 $279,166 - $2,060 - -
2002 $278,462 - $2,031 - -
Paul Levine
Vice-Chairman of the Board of Directors
and Chief Executive Officer of Hometown
Threads, LLC 2004 $250,000 - $3,532 - -
2003 $279,166 - $3,532 - -
2002 $278,462 - $3,427 - -
Paul Gallagher
President, Chief Operating Officer and
Director 2004 $300,000 $150,000(3) $3,675 - -
2003 $300,000 $ 75,000 $3,675 300,000 -
2002 $125,000 - - 100,000 -
Beverly Eichel
Vice President-Finance and Chief
Financial Officer and Secretary 2004 $250,000 $ 87,500(3) $9,000 - -
2003 $235,000 $ 35,250 $9,000 218,000 -
2002 - - - - -
Howard Arnberg 2004 $170,000 - $7,200 - -
President of Hometown Threads, LLC 2003 $169,438 $ 23,375(2) $7,200 72,900 -
2002 $153,635 $ 19,125(1) $7,200 - -
<FN>
(1) Bonuses were earned in fiscal 2002 but paid in fiscal 2003
(2) Bonuses were earned in fiscal 2003 but paid in fiscal 2004
(3) Bonuses were earned in fiscal 2004 but paid in fiscal 2005
</FN>
Option Exercises and Holdings
- -----------------------------
The following table sets forth information concerning the exercise of stock
options by the Named Executives during the Company's fiscal year ended January
31, 2003 the number of options owned by the Named Executives and the value of
any in-the-money unexercised stock options as of January 31, 2003.
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year End Option
Values
Number of Unexercised Value of Unexercised
Value Options at In-the-Money Options at
Shares Acquired Realized Fiscal Year End (#) Fiscal Year End ($)
Name on Exercise (#) $_______ Exercisable/Unexercisable Exercisable/Unexercisable
- ------------------------- ------------------- --------------- ---------------------------- ---------------------------
Henry Arnberg 0 $0 0/0 $ 0/0
Paul Gallagher 0 $0 192,000/208,000 $ 0/56,250
Beverly Eichel 0 $0 101,000/117,000 $ 0/31,500
Howard Arnberg 0 $0 34,300/38,600 $ 0/21,055
There were no stock options granted to the Named Executives during fiscal 2004
Employment Agreements
- ---------------------
Paul Gallagher
As of September 11, 2001, Mr. Gallagher entered into a three-year
employment agreement to serve as the Company's President, Chief Operating
Officer and a director.
Mr. Gallagher's employment agreement provides for the payment of an annual
base salary of $300,000. In December, 2002 the Compensation Committee approved
an amendment to the employment agreement to provide for annual bonus payments as
follows: $75,000 for fiscal year 2003 and for each of fiscal 2004 and fiscal
2005, a minimum bonus payment of 50% of Mr. Gallagher's annual base salary,
provided the Company achieves a pre-tax profit of between $400,000 and
$2,999,999. Additional incremental increases in the bonus payment can be earned
based upon the achievement of a pre-tax profit in excess of $3,000,000 up to a
maximum additional bonus payment of 50% of annual base salary. In addition, the
employment agreement provides for the reimbursement of certain business
expenses, the provision of health insurance and the use of a Company automobile.
The agreement provided requires Mr. Gallagher to devote his entire business
time and attention to the Company and provides for termination upon his death or
disability (defined as the inability to perform duties for three (3) consecutive
months or six (6) months in any twelve (12) month period), or for cause (as
defined in the Gallagher Agreement). In the event the Company terminates the
employment agreement other than for cause or materially breaches its obligations
there under, Mr. Gallagher is entitled to receive payment of his salary for up
to six months plus a pro-rata of his bonus payment that would have become due.
The employment agreement also provides that Mr. Gallagher shall not compete with
the Company during the term of the agreement and for a period of two (2) years
thereafter. There is no change of control provision contained in the employment
agreement.
In addition, in connection with the execution of the employment agreement,
Mr. Gallagher also received options to purchase 100,000 shares of the Company's
Class A Common Stock.
Beverly Eichel
As of February 1, 2002, Ms. Eichel entered into a two-year employment
agreement to serve as the Company's Vice-President-Finance, Chief Financial
Officer and Secretary. The term of the agreement was subsequently extended
through and including May 31, 2004.
Ms. Eichel's employment agreement provides for the payment of an annual
salary of $235,000 for the first year and $250,000 for the second year of the
term. In December 2002, the Compensation Committee approved an amendment to the
employment agreement to provide for annual bonus payments as follows: $35,250
for fiscal year 2003, and for fiscal 2004 a minimum bonus payment equal to 35%
of Ms. Eichel's annual base salary provided the Company achieves a pre-tax
profit of between $400,000 and $2,999,999. Additional incremental increases in
the bonus payment can be earned upon the achievement of a pre-tax profit in
excess of $3,000,000 up to a maximum additional bonus payment of 65% of Ms.
Eichel's base annual salary. In addition, Ms. Eichel's employment agreement
provides for the reimbursement of business expenses including an automobile and
cellular phone allowance, the provision of health insurance and related
benefits.
The agreement provided requires Ms. Eichel to devote her entire business
time and attention to the Company and provides for termination upon her death or
disability (defined as the inability to perform duties for three (3) consecutive
months or six (6) months in any nine (9) month period), or for cause (as defined
in the employment agreement). The employment agreement also provides that Ms.
Eichel shall not compete with the Company during the term of the agreement and
for a period of two (2) years thereafter. There is no change of control
provision contained in the employment agreement.
In addition, in connection with the execution of the employment agreement,
Ms. Eichel also received options to purchase 50,000 shares of Class A Common
Stock.
Howard Arnberg
As of February 1, 2002, Mr. Arnberg entered into a two-year employment
agreement to serve as President of Hometown Threads, LLC ("Hometown Threads").
Mr. Arnberg's employment agreement provides for the payment of an annual
base salary of $170,000. In addition, Mr. Arnberg is entitled to receive certain
quarterly and annual performance based bonus and incentive payments. Mr.
Arnberg's employment agreement provides for the reimbursement of business
expenses (including up to $25,000 in relocation expenses), an automobile and
cellular phone allowance, the provision of health insurance and related benefits
and a relocation package.
The agreement provided requires Mr. Arnberg to devote his entire business
time and attention to the Company and provides for termination upon his death or
disability (defined as the inability to perform duties for three (3) consecutive
months or six (6) months in any nine (9) moth period), or for cause (as defined
in the employment agreement). The employment agreement also provides that Mr.
Arnberg shall not compete with the Company during the term of the agreement and
for a period of one (1) year thereafter.
The agreement further states a change of control provision which is
triggered upon the sale or change in control of Hometown Threads, as well as a
severance provision which entitles Mr. Arnberg to the payment of an amount equal
to six (6) months base annual salary plus a pro-rata of his bonus if his
employment is terminated other than for cause or if the Company materially
breaches the terms of the employment agreement provided that if such termination
or material breach occurs within two (2) years following Mr. Arnberg's
relocation to the State of Florida, he shall be entitled to his base annual
salary for a twelve (12) month period.
In addition, in connection with the execution of the employment agreement,
Mr. Arnberg received options to purchase 20,000 shares of the Company's Class A
Common Stock. This agreement has expired.
Director's Compensation
- -----------------------
Directors who are employees of the Company or its subsidiaries receive no
compensation, as such, for service as members of the Board other than
reimbursement of expenses incurred in attending meetings. Directors who are not
employees of the Company or its subsidiaries receive an annual directors' fee of
$6,000 plus $1,250 for each board or stockholder's meeting attended and $1,000
for each meeting of an executive committee of the Board attended, and are
reimbursed for expenses incurred in attending such meetings. In addition, all
non-employee directors participate in the Company's 1994 Non-Employee Director
Stock Option Plan. In fiscal 2002, the Board approved the issuance of 50,000
warrants to each of two independent directors for services rendered to the
Company. The warrants had an exercise price of $.50 per share, which was the
fair market value on the date of grant. In fiscal 2004, the Board approved the
issuance of 10,000 options under the Company's 1994 Non-Employee Stock Option
Plan to each of three independent directors. The options have an exercise price
of $.92 per share, which was the fair market value as of the date of the grant.
The directors were also granted certain registration rights associated with the
warrants.
Compensation Committee Interlocks and Insider Participation in Compensation
Decisions
- ---------
The Company's Compensation Committee of the Board of Directors consists of
Herbert M. Gardner, Marvin Broitman and Mary Ann Domuracki, all of who are
independent outside directors of the Company. The Compensation Committee's
primary responsibility is for reviewing the Company's compensation practices for
executive officers and key employees.
The Compensation Committee has furnished the following report on executive
compensation.
Compensation Committee Report
- -----------------------------
The Compensation Committee of the Board of Directors (the "Committee") is
composed of three independent outside directors of the Company.
The Committee focuses on compensating Company executives on a competitive
basis with other comparably sized and managed companies in a manner consistent
and supportive of overall Company objectives and through a compensation plan
which balances the long-term and short-term strategic initiatives of the
Company. The Committee intends that the Company's executive compensation program
will:
(1) reward executives for strategic management, the achievement of key
business objectives and enhancement of stockholder value;
(2) reflect each executive's success at resolving key operational issues;
(3) facilitate both the short-term and long-term planning process; and
(4) attract and retain key executives believed to be critical to the
long-term success of the Company.
The Company's compensation program for executive officers generally
consists of (i) a fixed base salary, (ii) performance-related annual bonus
awards and (iii) long-term incentive compensation in the form of stock options.
In addition, Company executives are able to participate in various benefit plans
generally available to other full-time employees of the Company. Each executive
officer's compensation package is designed to provide an appropriately weighted
mix of these elements, which in the aggregate provide a level of compensation
the committee believes is approximately equal to those provided by comparatively
sized and managed companies.
In reviewing the Company and executives' performance, the Committee takes
into consideration, among other things, the following performance factors in
making its compensation recommendations: revenues, net income and cash flow. The
Committee has received outside guidance from compensation consultants in its
efforts to have comparability and fairness in their determinations.
Base Salary
Base salary for the Company's executives is intended to provide competitive
remuneration for services provided to the Company over a one-year period. Base
salaries are set at levels designed to attract and retain the most appropriately
qualified individuals for each of the key management level positions within the
Company.
Short-Term Incentives
Short-term incentives are paid primarily to recognize specific operating
performance achieved within the last fiscal year. Since such incentive payments
are related to a specific year's performance, the Committee understands and
accepts that such payments may vary considerably from one year to the next. The
Company's bonus program generally ties executive compensation directly back to
the annual performance of both the individual executive and the Company overall.
Those executives not signatory to an employment agreement are able to earn a
percentage of their base salary as a performance-related bonus. Where there is
an employment agreement, an executive may earn a percentage of the entity's
pre-tax profits as a performance-related bonus. The bonuses paid during fiscal
2004 relate to such employment agreements, as amended, with Paul Gallagher the
Company's President and Chief Operating Officer and Beverly Eichel, its Vice
President - Finance, Chief Financial Officer and Secretary.
Long-Term Incentives
In order to align long-term executive compensation with long-term
stockholder value improvements, the Committee has from time to time awarded
stock option grants to executives of the Company in recognition of the value of
these grants in motivating long-term strategic decision making. The Company's
long-term performance ultimately determines compensation from stock options
because stock option value is entirely dependent on the long-term growth of the
Company's Common Stock price. During the fiscal year ended January 31, 2004, no
stock options were granted to the Company's senior executive officers.
Chief Executive Officer
Mr. Arnberg's base salary and long-term incentive compensation are
determined by the Compensation Committee, based upon the same factors as those
used by the Compensation Committee for executives in general. Effective
September 1, 2002, Mr. Arnberg agreed to a voluntary reduction of his annual
base salary from $300,000 to $250,000.
In addition to his base salary, Mr. Arnberg is eligible to participate in
the short-term and long-term incentive programs outlined above for the other
Named Executives. Mr. Arnberg did not receive a short-term incentive bonus
payment or any long-term incentive stock options from the Company for fiscal
2004.
COMPENSATION COMMITTEE:
Mary Ann Domuracki (Chairperson)
Marvin Broitman
Herbert M. Gardner
Stock Option Plans
- ------------------
The Company maintains two stock option plans pursuant to which options to
purchase an aggregate of 1,984,375 shares of Class A Common Stock may be
granted.
1993 Stock Option Plan. The 1993 Stock Option Plan was adopted by the Board
of Directors in December 1993 and was approved by the stockholders of the
Company in July 1994 (the "1993 Plan"). The 1993 Plan, as amended, currently has
1,750,000 shares of Class A Common Stock reserved for issuance upon exercise of
options designated as either (i) incentive stock options ("ISOs") under the
Internal Revenue Code of 1986, as amended (the "Code"), or (ii) non-qualified
options. ISOs may be granted under the 1993 Plan to employees and officers of
the Company. Non-qualified options may be granted to consultants, directors
(whether or not they are employees), employees or officers of the Company.
The purpose of the 1993 Plan is to encourage stock ownership by certain
directors, officers and employees of the Company and certain other persons
instrumental to the success of the Company and to give them a greater personal
interest in the success of the Company. The 1993 Plan is administered by the
Stock Option Committee. The Committee, within the limitations of the 1993 Plan,
determines the persons to whom options will be granted, the number of shares to
be covered by each option, whether the options granted are intended to be ISOs,
the duration and rate of exercise of each option, the option purchase price per
share and the manner of exercise, the time, manner and form of payment upon
exercise of an option, and whether restrictions such as repurchase rights in the
Company are to be imposed on shares subject to options. Options granted under
the 1993 Plan may not be granted at a price less than the fair market value of
the Class A Common Stock on the date of grant (or 110% of fair market value in
the case of persons holding 10% or more of the voting stock of the Company). The
aggregate fair market value of shares for which ISOs granted to any person are
exercisable for the first time by such person during any calendar year (under
all stock option plans of the Company and any related corporation) may not
exceed $100,000. The 1993 Plan will terminate in December 2003; however, options
granted under the 1993 Plan will expire not more than five years from the date
of grant. Options granted under the 1993 Plan are not transferable during an
optionee's lifetime but are transferable at death by will or by the laws of
descent and distribution.
1994 Non-Employee Director Stock Option Plan. The 1994 Non-Employee
Director Stock Option Plan, as amended, (the "Directors Plan") was adopted by
the Board of Directors in September 1994 and was approved by the stockholders of
the Company in June 1995. The Directors Plan has 234,375 shares of Class A
Common Stock reserved for issuance. Pursuant to the current terms of the
Directors Plan, each independent unaffiliated Director shall automatically be
granted, subject to availability, without any further action by the Board of
Directors or the Stock Option Committee: (i) a non-qualified option to purchase
10,000 shares of Class A Common Stock upon their election to the Board of
Directors; and (ii) a non-qualified option to purchase 10,000 shares of Class A
Common Stock on the date of each annual meeting of stockholders following their
election to the Board of Directors. The exercise price of each option is the
fair market value of the Company's Class A Common Stock on the date of grant.
Each option expires five years from the date of grant and vests in three annual
installments of 33 1/3% each on the first, second and third anniversary of the
date of grant. Options granted under the Directors Plan are generally not
transferable during an optionee's lifetime but are transferable at death by will
or by the laws of descent and distribution. In the event an optionee ceases to
be a member of the Board of Directors (other than by reason of death or
disability), then the non-vested portion of the option immediately terminates
and becomes void and any vested but unexercised portion of the option may be
exercised for a period of 180 days from the date the optionee ceased to be a
member of the Board of Directors. In the event of death or permanent disability
of an optionee, all options accelerate and become immediately exercisable until
the scheduled expiration date of the option.
Voluntary Stock Option Cancellation Program. The price of the Company's
Class A Common Stock has been depressed for some time. As compared to the
exercise price on most incentive stock options, the market price of the
Company's Common Stock is and has been for some time significantly lower than
the exercise price of most incentive stock options issued to employees of the
Company. To restore the incentive value for which the Company's stock option
plans were established, the Board of Directors during fiscal 2002 approved a
limited stock option voluntary cancellation program (the "Program"). The Program
afforded the opportunity for employees, officers and directors holding options
to turn them into the Company for cancellation. At the time the program was
implemented, no new options were issued to employees who turned their options in
for cancellation. The Company intends to evaluate the option holdings by its
employees as a whole on an on-going basis and decide whether new options to its
employees who have turned in their current options at the then fair market value
of the Company's Class A common stock are warranted (or 110% of fair market
value in the case of persons holding 10% or more of the voting stock of the
Company).
2003 Stock Option Plan. The 2003 Plan was adopted by the Board of Directors
in May 2003 and was approved by the stockholders of the Company in July 2003
(the "2003 Plan"). The 2003 Plan currently has 750,000 shares of Common Stock
reserved for issuance upon the exercise of options designated as either (i)
incentive stock options ("ISOs") under the Code or (ii) non-qualified stock
options. ISOs may be granted under the 2003 Plan to employees and officers of
the Company. Non-qualified options may be granted to consultants, directors
(whether or not they are employees), employees or officers of the Company. In
certain circumstances, the exercise of stock options may have an adverse effect
on the market price of the Company's Common Stock.
The purpose of the 2003 Plan is to encourage stock ownership by certain
directors, officers and employees of the Company and certain other persons
instrumental to the success of the Company and give them a greater personal
interest in the success of the Company. If approved, the 2003 Plan would be
administered by the Stock Option Committee. The Committee, within the
limitations of the 2003 Plan, determines the persons to whom options will be
granted, the number of shares to be covered by each option, whether the options
granted are intended to be ISOs, the duration and rate of exercise of each
option, the option purchase price per share and the manner of exercise, the
time, manner and form of payment upon exercise of an option, and whether
restrictions such as repurchase rights in the Company are to be imposed on the
shares subject to options. Options granted under the 2003 Plan may not be
granted at a price less than the fair market value of the Common Stock on the
date of the grant (or 110% of fair market value in the case of persons holding
10% or more of the voting stock of the Company). The aggregate fair market value
of shares for which ISOs granted to any person are exercisable for the first
time by such person during any calendar year (under all stock option plans of
the Company and any related corporation) may not exceed $100,000. The 2003 Plan
will terminate in December, 2013 which means no options may be granted after
such date. Options granted under the 2003 Plan will expire not more than five
years from the date of grant; however, any options outstanding on the
termination date of the 2003 Plan will continue until they expire by their
terms. Options granted under the 2003 Plan are not transferable during an
optionee's lifetime but are transferable at death by will or by the laws of
descent and distribution.
Stock Performance Graph/Table
- -----------------------------
The Company believes that it is the only publicly-held firm in the
embroidery equipment industry, and therefore does not believe that it can
reasonably identify an embroidery industry-based peer group. The Company has
elected to define a peer group based on a group of six industrial distributors,
trading in similar SIC Codes, with relatively low market capitalization for a
benchmark. The following graph and table compares the change in the cumulative
total stockholder return for the five-year period beginning on January 31, 2000,
and ending on January 31, 2004, based upon the market price of the Company's
Class A Common Stock, with the cumulative total return of the NASDAQ Composite
Index and the defined Peer Group. The Peer Group includes the following
companies: Lancer Corp.; Quipp Inc.; Paul Mueller Company; Oilgear Company; and
Key Technology Inc. The graph assumes a $100 investment on January 31, 2000 in
each of the indices and the reinvestment of any and all dividends.
[GRAPH OMITTED]
Comparison of Five-Year Cumulative Total Return Among Hirsch International Corp.,
NASDAQ Composite Index and an Industry-based Market Capitalization-Based Peer Group
1/31/00 1/31/01 1/31/02 1/31/03 1/31/04
------- ------- ------- ------- -------
Hirsch International Corp. $100 $ 77 $38 $32 $172
NASDAQ Composite Index 100 70 49 34 52
Peer Group 100 115 86 91 122
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The following table sets forth the beneficial ownership of shares of Class A
Common Stock and Class B Common Stock as of April 19, 2004, by (i) each person
who owns more than 5% of the outstanding shares of Class A and Class B Common
Stock; (ii) each executive officer and director of the Company; and (iii) all
officers and directors of the Company as a group:
Amount and Nature of
Name and Address of Beneficial Owner (1) Title of Class (2) Beneficial Ownership Percent of Class
- ----------------------------------------- -------------------------- ------------------------------ ----------------------
Henry Arnberg................... Class A 13,158 *
Class B 1,368,578 (3) 51.3%
Paul Levine..................... Class A - -
Class B 1,099,621 (4) 41.2%
Marvin Broitman................. Class A 72,604 (5) 1.3%
Class B - -
Herbert M. Gardner.............. Class A 79,474 (6) 1.4%
Class B - -
Mary Ann Domuracki.............. Class A 19,999 (7) *
Class B - -
Paul Gallagher.................. Class A 486,666 (8) 8.3%
Class B - -
Beverly Eichel.................. Class A 131,333 (9) 2.3%
Class B - -
Howard Arnberg.................. Class A 43,567 (10) *
Class B 25,000 *
All Officers and Directors as a group Class A 846,801 13.8%
(eight persons)
Class B 2,493,199 93.4%
<FN>
* Less than one percent
(1) All addresses are c/o Hirsch International Corp., 200 Wireless Boulevard,
Hauppauge, New York 11788.
(2) The Company's outstanding Common Stock consists of two classes. Class A
Common Stock and Class B Common Stock. The Class A Common Stock and the
Class B Common Stock are substantially identical except that two-thirds of
the directors of the Company will be elected by Messrs. Arnberg and Levine,
the holders of most of the Class B Common Stock, as long as the number of
outstanding Shares of Class B Common Stock equals or exceeds 400,000
shares.
(3) Includes 968,518 shares of Class B Common Stock held by an estate planning
entity for the benefit of Mr. Arnberg's children. Mr. Arnberg exercises
voting control over these shares
(4) Includes 100,000 shares of Class B Common Stock owned by his wife and
100,000 shares of Class B Common Stock owned by trusts created for the
benefit of his minor children as to which he disclaims beneficial
ownership.
(5) Includes options to purchase 10,000 shares of Class A Common Stock at an
exercise price of $0.96 and 7,499 shares of Class A Common Stock at an
exercise price of $0.27 and 3,333 shares of Class A Common Stock at an
exercise price of $0.92 per share. Also includes warrants to purchase
50,000 shares of Class A Common Stock at $0.50 per share. Does not include
options to purchase 5,001 shares of Class A Common Stock at an exercise
price of $0.27 and options to purchase 6,667 shares of Class A Common Stock
at an exercise price of $0.92 per share.
(6) Includes 8,002 shares held in retirement account. Also includes 640 shares
owned by his wife as to which he disclaims beneficial ownership. Includes
options to purchase 10,000 shares of Class A Common Stock at an exercise
price of $0.96; 7,499 shares of Class A Common Stock at an exercise price
of $0.27 and 3,333 shares of Class A Common Stock at an exercise price of
$0.92 per share. Also includes warrants to purchase 50,000 shares of Class
A Common Stock at $0.50 per share. Does not include options to purchase
5,001 shares of Class A Common Stock at an exercise price of $0.27 and
options to purchase 6,667 shares of Class A Common Stock at an exercise
price of $0.92 per share.
(7) Includes options to purchase 10,000 shares of Class A Common Stock at an
exercise price of $0.89; 6,666 shares of Class A Common Stock at an
exercise price of $0.27 and 3,333 shares of Class A Common Stock at an
exercise price of $0.92 per share. Does not include options to purchase
3,334 shares of Class A Common Stock at an exercise price of $0.89; 3,334
shares of Class A Common Stock as an exercise price of $0.27 and options to
purchase 6,667 shares of Class A Common Stock at an exercise price of $0.92
per share.
(8) Includes options to purchase 100,000 and 91,666 shares of Class A Common
Stock at an exercise price of $0.95 and $0.27 per share respectively. Does
not include options to purchase 208,334 shares of Class A Common Stock at
an exercise price of $0.27 per share.
(9) Includes options to purchase 50,000 and 51,333 shares of Class A Common
Stock at an exercise price of $0.52 and $0.27 per share respectively. Does
not include options to purchase 116,667 shares of Class A Common Stock at
an exercise price of $0.27 per share.
(10) Includes options to purchase 20,000 shares of Class A Common Stock at an
exercise price of $1.00 per share, options to purchase 13,334 shares of
Class A Common Stock at $0.52 per share and options to purchase 7,633
shares of Class A Common Stock at an exercise price of $0.27 per share.
Does not include options to purchase 10,000 shares of Class A Common Stock
at an exercise price of $1.00 per share, options to purchase 6,666 shares
of Class A Common Stock at an exercise price of $0.52 per share and options
to purchase 15,267 shares of Class A Common Stock at an exercise price of
$0.27 per share.
</FN>
The Company is unaware of any arrangements that may result in a change in
control of the Company.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Effective October 31, 2002, the Company completed the sale of all of the
outstanding equity interests in its Pulse Microsystems Ltd. subsidiary ("Pulse")
to an entity affiliated with Tas Tsonis, a former director of the Company and
Chief Executive Officer of Pulse, and Brian Goldberg, a former Vice President of
the Company and President of Pulse. The consideration received by the Company
was approximately equal to Pulse's net asset value. The terms of the transaction
were the product of an extensive arms-length negotiation between Management and
the purchaser and were approved by the Board of Directors after presentation by
and consultation with Management. Management and the Board believe that the
consideration received by the Company for the transferred equity interests to be
within a range of value that was fair to the Company. (See Note 7 to
Consolidated Financial Statements)
The Company executed an Purchase and Sale Agreement with Tajima Industries,
Ltd. ("Tajima") and the Company's Tajima USA, Inc. subsidiary ("TUI") pursuant
to which the Company sold and Tajima purchased all of the common stock (the
"Shares") owned by the Company, constituting a 55% equity interest, in TUI, upon
the terms and conditions set forth in the Purchase and Sale Agreement. The sale
was effective as of January 31, 2004. Upon the consummation of the sale, Tajima
owned 100% of TUI.
The purchase price (the "Purchase Price") for the Shares was equal to the
Book Value (as defined in the Agreement), calculated in accordance with
generally accepted accounting principles. At the closing, Tajima paid the
Company the sum of $500,000 (the "Initial Payment") in partial payment of the
Purchase Price. The remaining balance due on the Purchase Price will be
determined on or before April 30, 2004, and paid promptly thereafter in
accordance with the terms of the Agreement.
In addition, the Company agreed to repay TUI the sum of $7,182,002,
representing amounts owed by the Company to TUI as of January 31, 2004 (the "Net
Intercompany Payable"). The Net Intercompany Payable shall be paid as follows:
(a) the Initial Payment ($500,000) was paid by Tajima to TUI on
behalf of the Company,
(b) assignment by the Company to TUI of its right to receive the sum
of $2,200,000 from Tajima upon payment of the balance due on the
Purchase Price, and
(c) the payment by the Company of the sum of $4,482,000 in five (5)
equal monthly installments of $735,167 each and a sixth payment
of $806,165, commencing February 29,2004 and continuing through
and including July 31, 2004.
The Company has advanced approximately $496,000 for premiums on split
dollar life insurance for Henry Arnberg, the Company's Chairman and Chief
Executive Officer and Paul Levine, the Vice-Chairman of the Board and Chief
Executive Officer of Hometown Threads, LLC. The spouse of each Messrs. Arnberg
and Levine are the beneficiaries of these respective policies. These advances
are collateralized by the cash surrender value of the policies, which totaled in
the aggregate approximately $681,000 at January 31, 2004 for both policies. The
premiums for these policies are currently being paid out of the accumulated
dividends for the policies.
Howard Arnberg, the President of Hometown Threads, LLC ("Hometown Threads")
and the son of Henry Arnberg, the Company's Chairman of the Board and Chief
Executive Officer entered into a two-year employment agreement, as amended, with
the Company and Hometown Threads, commencing February 1, 2002. The employment
agreement provides for the payment to Mr. Arnberg of an annual base salary of
$170,000. In addition, Mr. Arnberg is entitled to receive certain quarterly and
annual performance based bonus and incentive payments. Mr. Arnberg's employment
agreement provides for the reimbursement of business expenses (including up to
$25,000 in relocation expenses), an automobile and cellular phone allowance, the
provision of health insurance and related benefits and a relocation package. The
employment agreement requires Mr. Arnberg to devote his entire business time and
attention to the Company and provides for termination upon his death or
disability (defined as the inability to perform duties for three (3) consecutive
months or six (6) months in any nine (9) month period), or for cause (as defined
in the employment agreement). The employment agreement also provides that Mr.
Arnberg shall not compete with the Company during the term of the agreement and
for a period of one (1) year thereafter. The employment agreement contains a
change of control provision which is triggered upon the sale or change in
control of Hometown Threads, as well as a severance provision which entitles Mr.
Arnberg to the payment of an amount equal to six (6) months base annual salary
plus a pro-rata portion of his bonus if his employment is terminated other than
for cause or if the Company materially breaches the terms of the employment
agreement provided that if such termination or material breach occurs within two
(2) years following Mr. Arnberg's relocation to the State of Florida, he shall
be entitled to his base annual salary for a twelve (12) month period. Mr.
Arnberg also received options to purchase 20,000 shares of the Company's Class A
Common Stock.
Marc Arnberg, the son of Henry Arnberg, the Company's Chairman of the Board
and Chief Executive Officer, is employed by the Company as the Product Director.
Mr. Arnberg receives a base salary as well as the opportunity to earn a
performance based bonus based on criteria established by management for
employees of a similar level of responsibility.
Henry Arnberg, the Company's Chairman of the Board and Chief Executive
Officer, together with his wife and Paul Levine, the Company's Vice Chairman of
the Board and President of Hometown Threads, LLC, had owned a travel agency
which had been located on the premises of the Company's corporate headquarters
in Hauppauge, New York. The Company would pay this entity customary fees for any
travel and related services provided to the Company. During fiscal 2004, this
entity terminated its options, and ceased closing business.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The following table sets forth the fees paid to BDO Seidman, LLP for
professional services for each of the two fiscal years ended January 31, 2004
and 2003:
2004 2003
------------------ ------------------
Audit Fees......................................... $175,000 $154,000
Audit-Related Fees................................. 29,000 29,000
Tax Fees........................................... 55,000 48,000
------------------ ------------------
$259,000 $231,000
================== ==================
Audit fees include fees billed for (a) the audit of Hirsch International
Corp. and its consolidated subsidiaries, (b) the review of quarterly financial
information, (c) attendance at the annual stockholders' meeting and (d) the
statutory audit for one subsidiary.
Audit-Related Fees include fees billed for (a) consultation on accounting
matters and (b) the audit of an employee benefit plan.
Tax Fees include fees billed for the preparation of tax returns and
consulting on tax examinations and planning matters.
The Audit Committee negotiates the annual audit fee directly with the Company's
independent auditors. The Audit Committee has also established pre-approved
services for which the Company's management can engage the Company's independent
auditors. Any work in addition to these pre-approved services in a quarter
requires the advance approval of the Audit Committee. The Audit Committee
considers whether the provision of permitted non-audit services is compatible
with maintaining BDO Seidman, LLP's independence. On a regular basis, all
services under arrangements not in existence on May 6, 2003 were pre-approved by
the Audit Committee.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
10. The following documents are filed as part of this report:
1. Index to Consolidated Financial Statements Signature Page
10. Independent Auditors' Report
Consolidated Balance Sheets
Consolidated Statements of Operations
Consolidated Statements of Stockholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
3. The Exhibits, which are listed on the Exhibit Index attached
hereto
(b) Reports on Form 8-K
10. On February 23, 2004, the Company filed a report on Form 8-K with the
Securities and Exchange Commission announcing the sale of its equity
interest in its Tajima USA, Inc. subsidiary.
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.
HIRSCH INTERNATIONAL CORP.
--------------------------
Registrant
By:/s/ Henry Arnberg
----------------------
Henry Arnberg,
Chief Executive Officer
Dated: April 29, 2004
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.
Signature Title Date
- --------- ----- ----
/s/ Henry Arnberg Chairman of the Board of Directors and Chief Executive April 29, 2004
- ------------------------------------------ Officer (Principal Executive Officer)
Henry Arnberg
/s/ Paul Gallagher President and Chief Operating Officer and Director April 29, 2004
- ------------------------------------------
Paul Gallagher
/s/ Beverly Eichel Vice President-Finance and Administration, and Chief April 29, 2004
- ------------------------------------------ Financial Officer (Principal Accounting and Financial
Beverly Eichel Officer), Secretary
/s/ Daniel Vasquez Corporate Controller April 29, 2004
- ------------------------------------------
Daniel Vasquez
/s/ Marvin Broitman Director April 29, 2004
- ------------------------------------------
Marvin Broitman
/s/ Mary Ann Domuracki Director April 29, 2004
- ------------------------------------------
Mary Ann Domuracki
/s/ Herbert M. Gardner Director April 29, 2004
- ------------------------------------------
Herbert M. Gardner
EXHIBIT INDEX
Exhibit No. Description of Exhibit
- ----------------- ---------------------------------------------------------------------------------------------------------------
%3.1 Restated Certificate of Incorporation of the Registrant
^3.2 Amended and Restated By-Laws of the Registrant
*4.1 Specimen of Class A Common Stock Certificate
*4.2 Specimen of Class B Common Stock Certificate
*10.1 Distributorship Agreement Dated February 21, 1991 together with Supplements and Amendments thereto, among
Tajima Industries, Ltd., Nomura Trading Co. Ltd., Nomura (America) Corp. and Hirsch International Corp.
("Hirsch Distributorship Agreement")
@10.2 Amendment Number Two to Hirsch Distributorship Agreement, Dated June 7, 1996
@10.3 Distributorship Agreement, Dated February 21, 1991, together with Supplement Dated February 21, 1996, among
Tajima Industries, Ltd., Nomura Trading Co. Ltd., Nomura (America) Corp., and Sedeco, Inc.
@10.4 West Coast Distributorship Agreement, Dated February 21, 1997, among Tajima Industries, Ltd., Nomura Trading
Co. Ltd. and Nomura (America) Corp., and Hirsch International Corp.
+10.5 Memorandum of Request for Business with Mexico, Latin American and Caribbean Countries among Hirsch
International Corp., Tajima Industries Ltd. and TM Trading Co., Ltd. dated as of July 27, 1999
+++10.6 1993 Stock Option Plan, as amended
***10.7 2003 Stock Option Plan
+++10.8 1994 Non-Employee Director Stock Option Plan, as amended
**10.9 Lease Agreement dated March 8, 2001 between the Company and Brandywine Operating Partnership, L.P.
++10.10 First Amendment to Lease dated December 2001 between the Company and Brandywine Operating Partnership, L.P.
****10.11 Loan and Security Agreement dated as of November 26, 2002, by and between Congress Financial Corporation, as
Lender and Hirsch International Corp., as Borrower.
++++10.12 Amendment No. 1 to Loan and Security Agreement dated as of April 28, 2003
#10.13 Amendment No.2 to Loan Security Agreement dated as of July 16, 2003
10.14 Amendment No.3 to Loan and Security Agreement dated April 30, 2004
*****10.15 Purchase and Sale Agreement dated as of January 31,2004, by and among the Company, Tajima Industries, Ltd. and
Tajima USA, Inc.
14.1 Code of Ethics
21.1 List of Subsidiaries of the Registrant
23.1 Independent Auditor's Consent
31.1 Certification of Chief Executive Officer pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act
of 1934.
31.2 Certification of Chief Financial Officer pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act
of 1934.
32.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
- -----------------------------------------------------------------------------------------------------------------------------------
% Incorporated by reference from the Registrant's Form 10-Q filed for the
quarter ended July 31, 1997.
^ Incorporated by reference from the Registrant's Form 10-Q filed for the
quarter ended October, 31, 1997.
@ Incorporated by reference from the Registrant's Form 10-K filed for the
year ended January 31, 1997.
+ Incorporated by reference from Registrant's Form 10-Q filed for the quarter
ended October 31, 1999.
* Incorporated by reference from the Registrant's Registration Statement on
Forms S-1, Registration Number 33-72618.
** Incorporated by reference from Registrant's Report on Form 8-K filed with
the Commission March 15, 2001.
++ Incorporated by reference from Registrant's Form 10-K for the fiscal year
ended January 31, 2002.
+++ Incorporated by reference from Registrant's definitive proxy statement
filed with the Commission on May 30, 2002.
*** Incorporated by reference from Registrant's definitive proxy statement
filed with the Commission on June 2, 2003.
**** Incorporated by reference from Registrant's Report on Form 8-K with the
Commission on December 6, 2002.
**** Incorporated by reference from Registrant's Report on Form 8-K filed with
the Commission on February 23, 2004.
++++ Incorporated by reference from Registrant's Report on Form 10-K filed with
the Commission on April 30, 2003.
# Incorporated by reference from Registrant's Report on Form 10-Q filed with
the Commission on September 15, 2003.
Index to Financial Statements
Hirsch International Corp.
Independent Auditors' Report F-2
Consolidated Financial Statements
Balance Sheet as of January 31, 2004 and 2003 F-3-F-4
Statements of Operations for the years ended
January 31, 2004, 2003 and 2002 F-5
Statements of Stockholders' Equity for the years ended
January 31, 2004, 2003 and 2002 F-6
Statements of Cash Flows for the years ended
January 31, 2004, 2003 and 2002 F-7
Notes to the Consolidated Financial Statements F-8-F-24
Independent Auditors' Report
Board of Directors
Hirsch International Corp.
Hauppauge, New York
We have audited the accompanying consolidated balance sheets of Hirsch
International Corp. and subsidiaries as of January 31, 2004 and 2003, and the
related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended January 31, 2004. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audits 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 Hirsch
International Corp. and subsidiaries as of January 31, 2004 and 2003 and the
results of their operations and their cash flows for each of the three years in
the period ended January 31, 2004 in conformity with accounting principles
generally accepted in the United States of America.
/s/ BDO Seidman, LLP
BDO Seidman, LLP
Melville, New York
April 15, 2004, except for Note 15, which is as of April 30, 2004
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JANUARY 31
- ------------------------------------------------------------------------------------------------------------------------------------
ASSETS 2004 2003
CURRENT ASSETS:
Cash and cash equivalents $8,963,000 $7,702,000
Restricted cash (Note 2) 3,000,000 900,000
Short term note receivable (Note 7) - 500,000
Accounts receivable, net of an allowance for possible losses of
$680,000 and $1,451,000, respectively (Notes 4 and 15) 6,587,000 3,980,000
Inventories, net (Notes 3 and 15) 6,922,000 6,470,000
Prepaid and refundable income taxes - 3,385,000
Other current assets 288,000 686,000
Assets of discontinued operations (Notes 5 and 7) 1,137,000 12,070,000
---------------------------- -------------------------
Total current assets 26,897,000 35,693,000
---------------------------- -------------------------
PROPERTY, PLANT AND EQUIPMENT, Net (Note 6) 2,419,000 2,798,000
OTHER ASSETS (Note 8) 1,030,000 1,256,000
---------------------------- -------------------------
TOTAL ASSETS $30,346,000 $39,747,000
============================ =========================
See notes to consolidated financial statements.
(Continued)
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JANUARY 31
- ------------------------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY 2004 2003
CURRENT LIABILITIES:
Trade acceptances payable (Note 15d) $ 1,324,000 $ 969,000
Accounts payable and accrued expenses (Note 9) 8,768,000 7,850,000
Customer deposits and other 625,000 865,000
Liabilities of discontinued operations (Note 7) 1,635,000 11,610,000
--------------------- ---------------------
Total current liabilities 12,352,000 21,294,000
CAPITALIZED LEASE OBLIGATIONS - Less current maturities (Note 10) 1,418,000 1,541,000
DEFERRED GAIN - (Note 10) 728,000 847,000
--------------------- ---------------------
Total liabilities 14,498,000 23,682,000
--------------------- ---------------------
COMMITMENTS AND CONTINGENCIES (Note 15)
STOCKHOLDERS' EQUITY (Note 12): Preferred stock, $.01 par value; authorized:
1,000,000 shares; issued: none - -
Class A common stock, $.01 par value; authorized: 20,000,000 shares;
issued and outstanding; 6,827,000 and 6,815,000 shares respectively 68,000 68,000
Class B common stock, $.01 par value; authorized: 3,000,000 shares,
outstanding: 2,668,000 shares 27,000 27,000
Additional paid-in capital 41,408,000 41,397,000
Accumulated deficit (23,638,000) (23,825,000)
--------------------- ---------------------
17,865,000 17,667,000
Less: Treasury Class A Common stock at cost, 1,164,000 and 695,000
shares, respectively 2,017,000 1,602,000
--------------------- ---------------------
Total stockholders' equity 15,848,000 16,065,000
--------------------- ---------------------
$30,346,000 $39,747,000
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
===================== =====================
See notes to consolidated financial statements.
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
- ------------------------------------------------------------------------------------------------------------------------------------
Three Years Ended January 31,
2004 2003 2002
-------------- --------------- ---------------
NET SALES $48,142,000 $43,956,000 $50,156,000
COST OF SALES (Note 15) 31,946,000 29,849,000 36,876,000
-------------- --------------- ---------------
GROSS PROFIT 16,196,000 14,107,000 13,280,000
-------------- --------------- ---------------
OPERATING EXPENSES
Selling, general and administrative expenses 19,553,000 17,936,000 24,925,000
Impairment of goodwill (Note 16) - - 3,477,000
Restructuring costs (income) (Note 9) (716,000) - 2,259,000
-------------- --------------- ---------------
Total operating expenses 18,837,000 17,936,000 30,661,000
-------------- --------------- ---------------
OPERATING LOSS (2,641,000) (3,829,000) (17,381,000)
-------------- --------------- ---------------
OTHER INCOME (EXPENSE)
Interest expense (215,000) (259,000) (317,000)
Other income - net 360,000 638,000 708,000
-------------- --------------- ---------------
Total other income 145,000 379,000 391,000
-------------- --------------- ---------------
LOSS FROM CONTINUING OPERATIONS BEFORE
PROVISION (BENEFIT) FOR INCOME TAXES, AND
DISCONTINUED OPERATIONS (2,496,000) (3,450,000) (16,990,000)
INCOME TAX PROVISION (BENEFIT) (Note 11) 25,000 (504,000) (5,881,000)
-------------- --------------- ---------------
LOSS FROM CONTINUING OPERATIONS (2,521,000) (2,946,000) (11,109,000)
INCOME (LOSS) FROM DISCONTINUED OPERATIONS - NET (Note 7) 2,965,000 (2,604,000) (7,216,000)
-------------- --------------- ---------------
NET INCOME (LOSS) $444,000 ($5,550,000) ($18,325,000)
============== =============== ===============
LOSS PER SHARE:
Basic and diluted:
Loss from continuing operations ($0.29) ($0.34) ($1.25)
Income (loss) from discontinued operations 0.34 (0.30) (0.81)
-------------- --------------- ---------------
Net income (loss) $0.05 ($0.64) ($2.06)
============== =============== ===============
WEIGHTED AVERAGE NUMBER OF SHARES IN THE
CALCULATION OF INCOME (LOSS) PER SHARE
Basic and diluted 8,571,000 8,789,000 8,893,900
============== =============== ===============
See notes to consolidated financial statements.
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
THREE YEARS ENDED JANUARY 31, 2004, 2003 AND 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Class A Class B
Common Stock Common Stock
(Note 11) (Note 11)
--------------------------------- ---------------------------------
Shares Amount Shares Amount Additional
Paid-In Capital
--------------- --------------- --------------- -------------- ----------------
BALANCE, JANUARY 31, 2001 6,815,000 $68,000 2,668,000 $27,000 $41,397,000
Purchase of treasury shares (Note 13) -- -- -- -- --
Gain on foreign currency translation -- -- -- -- --
Net loss -- -- -- -- --
Total comprehensive income -- -- -- -- --
--------------- --------------- --------------- -------------- ----------------
BALANCE, JANUARY 31, 2002 6,815,000 68,000 2,668,000 27,000 41,397,000
Comprehensive income:
Gain on foreign currency translation -- -- -- -- --
Net loss -- -- -- -- --
Total comprehensive income -- -- -- -- --
--------------- --------------- --------------- -------------- ----------------
BALANCE, JANUARY 31, 2003 6,815,000 68,000 2,668,000 27,000 41,397,000
Exercise of stock options & warrants 12,000 -- -- -- 11,000
Dividends -- -- -- -- --
Purchase of treasury shares (Note 13) -- -- -- -- --
Net income -- -- -- -- --
--------------- --------------- --------------- -------------- ----------------
BALANCE, JANUARY 31, 2004 6,827,000 $68,000 2,668,000 $27,000 $41,408,000
=============== =============== =============== ============== ================
Accumulated
other
Comprehensive Accumulated Treasury
Income (Loss) Deficit Stock Total
------------- ----------- -------- -----
(Note 2)
BALANCE, JANUARY 31, 2001 $88,000 $50,000 $(1,352,000) $40,278,000
Purchase of treasury shares (Note 13) -- -- (250,000) (250,000)
Loss on foreign currency translation (244,000) -- -- (244,000)
Net loss -- (18,325,000) -- (18,325,000)
---------------
Total comprehensive income -- -- -- (18,569,000)
----------------- -------------------- --------------- ---------------
BALANCE, JANUARY 31, 2002 (156,000) (18,275,000) (1,602,000) 21,459,000
Gain on foreign currency translation 156,000 -- -- 156,000
Net loss -- (5,550,000) -- (5,550,000)
---------------
Total comprehensive income -- -- -- (5,394,000)
----------------- -------------------- --------------- ---------------
BALANCE, JANUARY 31, 2003 -- (23,825,000) (1,602,000) $16,065,000
Exercise of stock options & warrants -- -- -- 11,000
Purchase of treasury shares (Note 13) -- -- (415,000) (415,000)
Dividends -- (257,000) -- (257,000)
Net income -- 444,000 -- 444,000
----------------- -------------------- --------------- ---------------
BALANCE, JANUARY 31, 2004 $ -- ($23,638,000) ($2,017,000) $15,848,000
================= ==================== =============== ===============
See notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE YEARS ENDED JANUARY 31,
- ------------------------------------------------------------------------------------------------------------------------------------
2004 2003 2002
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income (loss) $444,000 $(5,550,000) $(18,325,000)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization 887,000 809,000 2,186,000
Gain on sale of assets (169,000) (119,000) (170,000)
Changes in reserves (140,000) 410,000 3,275,000
Deferred income taxes - (130,000) -
Minority interest 235,000 196,000 -
Write-off of goodwill - - 3,477,000
Reversal of restructuring accrual reserves (716,000) - -
Reversal of lease reserves (2,000,000) - -
Changes in assets and liabilities:
Accounts receivable (2,498,000) 4,675,000 1,461,000
Net investments of sales type leases 553,000 5,365,000 (2,897,000)
Inventories 1,431,000 2,910,000 (466,000)
Other current assets and other assets 453,000 (1,431,000) 160,000
Trade acceptances payable 355,000 (1,216,000) (1,790,000)
Accounts payable and accrued expenses 1,989,000 (3,718,000) 10,634,000
Prepaid income taxes and income taxes payable 3,176,000 3,742,000 (5,124,000)
--------------- ----------------- -----------------
Net cash provided by (used in) operating activities 4,010,000 5,943,000 (7,579,000)
--------------- ----------------- -----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (552,000) (547,000) (533,000)
Proceeds from sale of fixed assets 100,000 - 4,236,000
Proceeds from sale of subsidiary 500,000 530,000 -
--------------- ----------------- -----------------
Net cash provided by (used in) investing activities 48,000 (17,000) 3,703,000
--------------- ----------------- -----------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Restricted Cash (2,100,000) (900,000) -
Repayments of long-term debt (123,000) (83,000) (53,000)
Payment of Deferred Financing Costs - (518,000) -
Exercise of Stock Options 11,000 - -
Payment of Dividends (170,000) - -
Purchase of treasury shares (415,000) - (250,000)
--------------- ----------------- -----------------
Net cash used in financing activities (2,797,000) (1,501,000) (303,000)
--------------- ----------------- -----------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH - 156,000 (244,000)
--------------- ----------------- -----------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,261,000 4,581,000 (4,423,000)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 7,702,000 3,121,000 7,544,000
--------------- ----------------- -----------------
CASH AND CASH EQUIVALENTS, END OF YEAR $8,963,000 $7,702,000 $3,121,000
=============== ================= =================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest and bank fees paid $215,000 $259,000 $419,000
=============== ================= =================
Income taxes paid $350,000 $9,000 $7,000
=============== ================= =================
<FN>
Supplemental Disclosure of non-cash investing activity: On October 31, 2002 the
Company received a note in the amount of $500,000 from the sale of its Pulse
subsidiary. In connection with the sale of its TUI subsidiary effective January
31, 2004, the Company incurred accounts payable to TUI in the amount of $4.5
million.
See notes to consolidated financial statements.
</FN>
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED JANUARY 31, 2004, 2003 AND 2002
- -------------------------------------------------------------------------------
1. BUSINESS ORGANIZATION AND BASIS OF PRESENTATION
The accompanying consolidated financial statements include the accounts of
Hirsch International Corp. ("Hirsch"), HAPL Leasing Co., Inc. ("HAPL" or "HAPL
Leasing"), Pulse Microsystems, Ltd. through October 31, 2002 (Pulse), Sewing
Machine Exchange, Inc. ("SMX"), Sedeco, Inc. ("Sedeco"), Hirsch Equipment
Connection, Inc. ("HECI"), Hirsch Business Concepts LLC ("HBC"), Hometown
Threads LLC ("Hometown"), and Tajima USA, Inc. ("TUI") (collectively, the
"Company").
On January 6, 1998, Tokai Industrial Sewing Machine Company ("Tokai"), an
affiliate of Tajima, the Company's major supplier, purchased a 45 percent
interest in TUI for $900,000. For financial reporting purposes, the assets,
liabilities and earnings of TUI are consolidated in the Company's financial
statements. Tokai's 45 percent interest in TUI has been reported as minority
interest in the Company's Consolidated Balance Sheet as of January 31, 2003 and
Tokai's share of the earnings has been reported as minority interest in the
Company's Consolidated Statements of Operations for the years ended January 31,
2004, 2003 and 2002. As of January 31, 2004 the Company sold its majority
position in TUI to Tajima Industries and its earnings have been reported as
discontinued operations.
The Company is a single source provider of sophisticated equipment and
value added products and services to the embroidery industry. The embroidery
equipment and value added products sold by the Company are widely used by
contract embroiderers, large and small manufacturers of apparel and fashion
accessories, retail stores and embroidery entrepreneurs servicing specialized
niche markets.
See Note 7 to the Consolidated Financial Statements for discontinued operations
of the leasing subsidiary, Pulse and TUI as of January 31, 2004.
Due to the discontinuation of the leasing services subsidiary, the Company
only operates in a single reportable segment.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. Principles of Consolidation - The consolidated financial statements include
the accounts of the Company and its wholly-owned subsidiaries, and the
majority interest in the operations of TUI. All material inter-company
balances and transactions have been eliminated in consolidation.
b. Revenue Recognition - The Company distributes embroidery equipment. Where
installation and customer acceptance are a substantive part of the sale, by
its terms, the Company has deferred recognition of the revenue until such
customer acceptance of installation has occurred. In fiscal years 2004,
2003 and 2002, most sales of new equipment did not require installation
within the terms of the sales contract; these sales were recorded at the
time of shipment, at which time title is transferred to the customer.
Service revenues and costs are recognized when services are provided. Sales
of computer hardware and software are recognized when shipped provided that
no significant vendor and post-contract and support obligations remain and
collection is probable.
c. Cash Equivalents - Cash equivalents consist of money market accounts with
initial maturities of three months or less. As of January 31, 2004 the
Company had $3.0 million in restricted cash which is being used to
collateralize outstanding letters of credit due in 90 days.
d. Allowance for Doubtful Accounts - The Company maintains an allowance for
estimated losses resulting from the inability of its customers to make
required payments. An estimate of uncollectible amounts is made by
management based upon historical bad debts, current customer receivable
balances, age of customer receivable balances, the customer's financial
condition and current economic trends. If the actual uncollected amounts
significantly exceed the estimated allowance, then the Company's operating
results would be significantly adversely affected.
e. Inventories - Inventories consisting of machines and parts are stated at
the lower of cost or market. Cost for machinery is determined by specific
identification and for all other items on a first-in, first-out basis.
Reserves are established to record provisions for slow moving inventories
in the period in which it becomes reasonably evident that the product is
not salable or the market value is less than cost. Used equipment is valued
based on an assessment of age, condition, model type, accessories,
capabilities and demand in the used machine market.
f. Foreign Currency Transactions - Trade acceptances payable are denominated
in Japanese yen and are related to the purchase of equipment from the
Company's major supplier. Gains and losses from foreign currency
transactions are included in other income, net and are not significant.
g. Property, Plant and Equipment - Property, plant and equipment are stated at
cost less accumulated depreciation and amortization. Capitalized values of
property under leases are amortized over the life of the lease or the
estimated life of the asset, whichever is less. Depreciation and
amortization are provided on the straight-line or declining balance methods
over the following estimated useful lives:
Furniture and fixtures 3-7
Machinery and equipment 3-7
Software 3
Automobiles 3-5
Leasehold improvements 3-20
Property under capital lease 10
h. Impairment of Long-Lived Assets - The Company reviews long-lived assets
whenever events or changes in circumstances indicate that the carrying
value of any of these assets may not be recoverable. In that regard the
Company will assess the recoverability of such assets based upon estimated
undiscounted cash flow forecasts. During the fourth quarter of Fiscal 2002,
the remaining balance of $3,477,000 of goodwill associated with the
acquisitions of SMX Corporation and Sedeco Corporation was written off.
(See Note 16).
i. Warranty - The Company has a five-year limited warranty policy for its
embroidery machines. The Company's policy is to accrue the estimated cost
of satisfying future warranty claims on a quarterly basis. In estimating
its future warranty obligations, the Company considers various relevant
factors, including the Company's stated warranty policies and practices,
the historical frequency of claims, and the cost to replace or repair its
products under warranty. If the number of actual warranty claims or the
cost of satisfying warranty claims significantly exceeds the estimated
warranty reserve, the Company's operating expenses and net income (loss)
could be significantly adversely affected.
j. Leases - Leases (in which the Company is lessee) which transfer
substantially all of the risks and benefits of ownership are classified as
capital leases, and assets and liabilities are recorded at amounts equal to
the lesser of the present value of the minimum lease payments or the fair
value of the leased properties at the beginning of the respective lease
terms. Interest expense relating to the lease liabilities is recorded to
effect constant rates of interest over the terms of the leases. Leases
which do not meet such criteria are classified as operating leases and the
related rentals are charged to expense as incurred.
k. Income Taxes - The Company records deferred tax assets and liabilities for
the expected future tax consequences of events that have been included in
the Company's consolidated financial statements or tax returns. Under this
method, deferred tax assets and liabilities are determined based on the
differences between the financial accounting and tax bases of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse. Valuation allowances are established
when the Company cannot determine the future utilization of some portion or
all of the deferred tax asset.
l. Income (Loss) Per Share - Basic earnings per share are based on the
weighted average number of shares of common stock outstanding during the
period. Diluted earnings per share are based on the weighted average number
of shares of common stock and common stock equivalents (options and
warrants) outstanding during the period, computed in accordance with the
treasury stock method. Outstanding options and warrants were anti-dilutive
for the fiscal years ended January 31, 2004, 2003 and 2002.
m. Stock-Based Compensation - The Company accounts for stock-based awards to
employees using the intrinsic value method.
The Company follows Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based compensation," ("SFAS 123") which requires the
disclosure of pro forma net income and earnings per share. Under SFAS 123,
the fair value of stock-based awards to employees is calculated through the
use of option pricing models, even though such models were developed to
estimate the fair value of freely tradable, fully transferable options
without vesting restrictions, which significantly differ from the Company's
stock option awards. These models also require subjective assumptions,
including future stock price volatility and expected time to exercise,
which greatly affect the calculated values. The Company's calculations were
made at the date of the grant using the Black-Scholes option pricing model
with the following weighted average assumptions: Fiscal 2004: dividend
yield of 4.00%, volatility of 72%, risk-free interest rate of 2.37% for
grants on 06/02/2003, 2.14% for grants on 06/16/2003 and 2.63% for grants
on 07/09/2003 and an expected life of 5 years; Fiscal 2003: dividend yield
of 0%, volatility of 79%, risk-free interest rate of 4.48% for employees
and 4.07% for non-employees and and expected life of 5 years; Fiscal 2002:
dividend yield of 0%, volatility of 79%, risk-free interest rate of 3.97%
and expected life of 3.6 years The Company's calculations are based on a
multiple option valuation approach and forfeitures are recognized as they
occur. The weighted average fair value of the options granted during 2004,
2003 and 2002 was $0.84, $0.16 and $0.53, respectively.
If compensation cost for the Company's stock options had been determined
consistent with SFAS No. 123, the Company's net (loss) income and (loss)
earnings per share would have been the pro forma amounts indicated below:
Year Ended January 31,
2004 2003 2002
---- ---- ----
Net income (loss):
Net income (loss) as reported $444,000 $(5,550,000) $(18,325,000)
Deduct Total stock-based employee
compensation expense determined
under fair value method 70,000 82,000 182,000
-------------------- -------------------- --------------------
Pro forma net income (loss) $374,000 $(5,632,000) $(18,507,000)
==================== ==================== ====================
Basic and diluted net income
(loss) per share:
As reported $0.05 $(0.63) $(2.06)
Pro forma $0.04 $(0.64) $(2.08)
n. Comprehensive Income - Statement of Financial Accounting Standards No. 130.
"Reporting Comprehensive Income" ("SFAS 130"). This statement established
rules for reporting comprehensive income and its components. Comprehensive
income consists of net income (loss) and foreign exchange translation
adjustments related to Pulse Canada and is presented in the consolidated
statements of stockholders' equity.
o. Use of Estimates - The preparation of financial statements in conformity
with accounting principles generally accepted requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
p. Fair Value of Financial Instruments - Financial instruments consist
primarily of investments in cash, cash equivalents, trade account
receivables, accounts payable and debt obligations. Where quoted market
prices are not available, fair values are estimated based on assumptions
concerning the amount and timing of estimated future cash flow and assumed
discount rates reflecting varying degrees of credit risk, at January 31,
2004 and 2003, the fair value of the Company's financial instruments
approximated the carrying value.
q. Recent Accounting Pronouncements - The Financial Accounting Standards Board
("FASB") has issued the following:
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity",
effective for financial instruments entered into or modifies after May 31,
2003, and otherwise is effective at the beginning of the first interim
period beginning after June 15, 2003. This statement establishes standards
for how an issuer classifies and measures certain financial instruments
with characteristics of both liabilities and equity. It requires that an
issuer classify a freestanding financial instrument that is within its
scope as a liability (or an asset in some circumstances). The adoption of
SFAS No. 150 is not expected to have an impact on the Company's
consolidated financial statements.
The Emerging Issues Task Force ("EITF") issued EITF Issue No,
00-21 "Revenue Arrangements with Multiple Deliverables" ("Issue 00-21").
Issue 00-21 addresses certain aspects of the accounting by a vendor for
arrangements under which it will perform multiple revenue generating
activities and how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting. Issue 00-31 became
effective for revenue arrangements entered into in fiscal periods after
June 15, 2003. The adoption of Issue 00-21 did not have a material effect
on the Company's consolidated financial statements.
r. Reclassifications - As a result of discontinued operations, certain
reclassifications have been applied to prior year amounts to conform to
current year presentation.
s. Shipping and handling expenses - The Company records shipping and handling
expenses in operating expenses on the statement of operations. These
expenses were approximately; $974,000, $1,012,000 and $1,194,000 during the
years ended January 31, 2004, 2003 and 2002, respectively. Amounts billed
to customers were immaterial for all periods presented.
3. INVENTORIES
January 31,
2004 2003
--------------------------------------
New machines $5,194,000 $5,180,000
Used machines 344,000 796,000
Parts and accessories 2,966,000 2,290,000
Less reserve for slow-moving
inventory (1,582,000) (1,796,000)
--------------------------------------
Total $6,922,000 $6,470,000
--------------------------------------
4. CHANGES IN RESERVES
Allowance for Doubtful Accounts:
- --------------------------------
Opening Ending
Balance Additions Write Offs Balance
------- --------- ---------- -------
Year ended January 31, 2004 $1,451,000 $230,000 $(1,001,000) $ 680,000
Year ended January 31, 2003 $2,893,000 $151,000 $(1,593,000) $1,451,000
Year ended January 31, 2002 $2,570,000 $870,000 $ (547,000) $2,893,000
Inventory Reserve
-----------------
Opening Ending
Balance Additions Write Offs Adjustments Balance
------- --------- ---------- ----------- -------
Year ended January 31, 2004 $1,946,000 $ 80,000 $ 0 $ (444,000) $1,582,000
Year ended January 31, 2003 $2,185,000 $ 259,000 $ (498,000) $ 0 $1,946,000
Year ended January 31, 2002 $2,450,000 $2,405,000 $(2,670,000) $ 0 $2,185,000
<FN>
During fiscal 2004 the Company reversed $444,000 in inventory reserves that were
no longer necessary.
</FN>
5. NET INVESTMENT IN SALES-TYPE LEASES
January 31,
2004 2003
-------------------- -------------------
Total minimum lease payments receivable $423,000 $ 2,331,000
Estimated residual value of leased property (unguaranteed) (A) 853,000 3,920,000
Reserve for estimated uncollectible lease payments (94,000) (1,165,000)
Less: Unearned income (79,000) (413,000)
-------------------- -------------------
Net investment - Included in Assets of discontinued operations $1,103,000 $ 4,673,000
(See Note 7) ==================== ===================
<FN>
(A) The estimated residual value of leased property will fluctuate based on
volume of transactions, financial structure of the transactions, sales of
residuals to third party financing organizations and periodic recognition
of the increased net present value of the residuals over time.
</FN>
6. PROPERTY, PLANT AND EQUIPMENT
January 31,
2004 2003
-------------------- -----------------
Property Under Capital Lease Obligation $1,786,000 $1,786,000
Software 576,000 458,000
Machinery and equipment 5,316,000 5,546,000
Furniture and fixtures 1,986,000 1,927,000
Automobiles 294,000 294,000
Leasehold improvements 583,000 304,000
-------------------- -----------------
Total 10,541,000 10,315,000
Less: Accumulated depreciation and amortization (8,122,000) (7,517,000)
-------------------- -----------------
Property, plant and equipment, net $2,419,000 $2,798,000
==================== =================
7. DISCONTINUED OPERATIONS
In the fourth quarter of Fiscal 2002, the Company determined that its HAPL
Leasing subsidiary was not strategic to the Company's ongoing objectives and
discontinued its operations. Accordingly, the Company reported its discontinued
operations in accordance with APB 30. The consolidated financial statements have
segregated the assets, liabilities and operating results of these discontinued
operations for all periods presented. Management intends to sell the net assets
by January 2005.
Summary operating results of the discontinued operations of HAPL Leasing are as
follows (in thousands):
For the year ended January 31,
2004 2003 2002
---- ---- ----
Revenue........................... $ 619 $ 1,554 $ 3,488
Gross profit...................... 278 128 1,575
Income (loss) from
discontinued operations.......... $2,000 $(4,000) $(7,686)
The operating loss in fiscal 2003 includes a reserve of $4 million as an
additional provision for the liquidation of the lease portfolio. The operating
loss in fiscal 2002 includes $4.6 million provision for the CIT/UNL liability
and the sale of the residual receivables associated with it; $2.6 million
increase in the MLPR provision; $0.6 million employee severance costs; and $0.5
million in asset write off and provision for future losses until termination.
The UNL (Ultimate Net Loss) represents the Company's liability of up to
approximately 10% of all contracts purchased by CIT. The increase in the MLPR
(Minimum Lease Payments Receivable) provision was to reserve against a probable
loss on the sale of the remaining portfolio. In July 2003, the Company entered
into a transaction whereby the Company assigned its interest in the remaining
UNL lease portfolios from the CIT Group to Beacon Funding. As part of this
transaction, the Company sold to Beacon Funding Corporation the residual
receivables associated with the lease portfolio for approximately $375,000. The
Company reversed as part of discontinued operations, $2.0 million of reserves
associated with the UNL lease portfolio. The transaction closed in September
2003.
Assets and liabilities of discontinued operations of HAPL Leasing are as follows
(in thousands):
For the year ended January 31,
2004 2003
-------------- --------------
Assets:
Accounts receivable................... $ 0 $ 16
MLPR and residuals (Note 5)........... 1,103 4,673
Property, plant and equipment, net.... 0 33
Inventory............................. 23 113
Prepaid taxes and other assets........ 11 79
-------------- --------------
Total Assets............................. $1,137 $4,914
============== ==============
Liabilities:
Accounts payable and accrued expenses. $1,548 $6,758
Income taxes payable.................. 87 87
-------------- --------------
Long term debt........................ 0 14
-------------- --------------
Total Liabilities........................ $1,635 $6,859
============== ==============
Effective October 31, 2002, Hirsch International Corp. ("Hirsch") completed
the sale of all of the outstanding equity interests in its wholly-owned
subsidiary, Pulse Microsystems Ltd. ("Pulse"), pursuant to the terms of the
purchase agreement by and between Hirsch and 2017146 Ontario Limited
("Purchaser") dated as of October 31, 2002 (the "Agreement").
Pursuant to the Agreement, Hirsch sold all of its equity interests in Pulse
to the Purchaser for an aggregate consideration of $5.0 million to be paid as
follows: (a) $0.5 million cash, (b) a $0.5 million note payable in 11 quarterly
installments beginning April 30, 2003 and including interest accruing on the
principal balance at the rate of US Prime +1% per annum, which note was paid in
full in March 2003 and (c) the assumption of $4.0 million of Hirsch obligations.
The sale price was at Pulse's book value so there was no gain or loss recorded
on the sale. All periods presented reflect the discontinued operations of Pulse.
Summary operating results of the discontinued operations of Pulse Microsystems,
Ltd are as follows (in thousands):
For the year ended January 31,
2003 2002
---- ----
Revenue........................................ $3,731 $ 4,547
Gross profit................................... 2,510 2,906
Income (loss) from discontinued operations..... $ 228 $ (384)
In November 2003, the Company was notified by Tajima that it had an
interest to purchase the Company's interest in TUI effective January 31, 2004.
Effective January 31, 2004, the Company executed an agreement with Tajima
Industries, Ltd. ("Tajima") pursuant to which the Company sold all of the common
stock (the "Shares") constituting a 55% equity interest of its TUI subsidiary
owned by it to Tajima, upon the terms and conditions set forth in a certain
Purchase and Sale Agreement by and among the Company, Tajima and TUI (the
"Agreement"). Upon the consummation of the sale, Tajima owned 100% of TUI and
the Company no longer had an influence over the operations of TUI. TUI is
reflected as discontinued operations in the financial statements.
The purchase price (the "Purchase Price") for the Shares was equal to the
Book Value (as defined in the Agreement) calculated in accordance with generally
accepted accounting principles. At the closing, Tajima paid the Company the sum
of $500,000 (the "Initial Payment") in partial payment of the Purchase Price.
The remaining balance due on the Purchase Price will be determined on or before
April 30, 2004, and paid promptly thereafter in accordance with the terms of the
Agreement.
In addition, the Company agreed to repay TUI the sum of $7,182,002,
representing amounts owed by the Company to TUI as of January 31, 2004 (the "Net
Intercompany Payable"). The Net Intercompany Payable shall be paid as follows:
(a) the Initial Payment ($500,000) was paid by Tajima to TUI on behalf of
the Company
(b) the assignment by the Company to TUI of its right to receive the sum
of $2,200,000 from Tajima upon payment of the balance due on the
Purchase Price, and
(c) the payment by the Company of the sum of $4,482,000 in five (5) equal
monthly installments of $735,167 each and a sixth payment of $806,165,
commencing February 29,2004 and continuing through and including July
31, 2004.
The Consolidated Financial Statements for all periods presented have been
restated to reflect the discontinued operations of TUI.
Summary operating results of the discontinued operations of Tajima USA, Inc. are
as follows (in thousands):
For the year ended January 31,
2004 2003 2002
---------------------- ---------------------- ---------------------
Revenue....................................... $12,941 $12,194 $11,249
Gross Profit.................................. 1,525 1,266 620
Income from discontinued operations........... $ 965 $ 1,168 $ 854
Assets and liabilities of discontinued operations of TUI (in thousands) are as
follows:
January 31,
2003
--------------
Assets:
Cash................................ $ 5
Accounts Receivable................. 375
Accounts Receivable from Hirsch
International Corp................. 3,641
Property, Plant & Equipment......... 69
Inventory........................... 3,028
Prepaid Taxes & Other Assets........ 38
--------------
Total Assets........................... $7,156
==============
Liabilities:
Accounts Payable & Accruals......... $2,716
Minority Interest................... 1,932
Income Taxes Payable................ 103
--------------
Total Liabilities...................... $4,751
==============
8. OTHER ASSETS
January 31,
2004 2003
--------------- ----------------
Deferred Financing Costs (1) $1,162,000 $1,153,000
Officers Loans Receivable (2) 496,000 496,000
Other 200,000 259,000
--------------- ----------------
Total other assets $1,858,000 $1,908,000
Accumulated amortization of Long Term Other Assets $ (828,000) $(652,000)
--------------- ----------------
Other Assets, net $1,030,000 $1,256,000
=============== ================
<FN>
(1) Deferred financing related to the execution of the (3 years) Loan and
Security Agreement in November 2002, and they are being amortized over the
term of the agreement from Congress Financial Corp.
(2) Related to split dollar life insurance policy on 2 officers of the Company.
The Company no longer pays premiums on the policies and will be reimbursed
by the cash surrender value of these policies.
</FN>
9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
January 31,
2004 2003
-------------- --------------
Other accrued expenses $1,349,000 $875,000
Accounts payable 1,124,000 676,000
Accounts payable to TUI 4,482,000 3,641,000
Accrued payroll costs 812,000 460,000
Accrued warranty 543,000 543,000
Deferred revenue 423,000 179,000
Accrued commissions payable 35,000 108,000
Accrued restructuring costs (A) - 1,368,000
-------------- --------------
Total accounts payable and accrued expenses $8,768,000 $7,850,000
============== ==============
<FN>
(A) In the fourth quarter of the year ended January 31, 2002, the Company
initiated a restructuring plan in connection with its continuing
operations. The plan was designed to meet the changing needs of the
Company's customers and to reduce its cost structure and improve
efficiency. The restructuring initiatives involve the consolidation of the
parts and supplies operations with existing Hirsch operations, the
provision for the downsizing of three of its existing sales offices and
reduction in the overall administrative personnel. The reduction in
personnel represents 25% of its work force or 56 people.
</FN>
The following table summarizes the restructuring costs and activities:
Balance at Cash Non-Cash Balance at Cash Discontinued
January 31, 2001 Payments Charges January 31, 2002 Payments Operations
------------------- ------------- ------------- ----------------- ------------- -------------
Severance and $ 581,000 $ 102,000 $ - $ 479,000 $ 379,000 $ -
Benefits..............
Excess facilities
including future lease
obligations and
property and
equipment............ 2,092,000 79,000 28,000 1,985,000 510,000 207,000
------------------- ------------- ------------- ----------------- ------------- -------------
$2,673,000 $ 181,000 $ 28,000 $ 2,464,000 $ 889,000 $ 207,000
=================== ============= ============= ================= ============= =============
Reversal of
Balance at Cash Prior Balance at
January 31, 2003 Payments Accruals January 31, 2004
------------------- ------------- ------------- -------------------
Severance and $ 100,000 $ (21,000) $ (79,000) $ -
Benefits..............
Excess facilities
including future lease
obligations and
property and
equipment............ 1,268,000 (631,000) (637,000) -
------------------- -------------------
$1,368,000 $(652,000) $(716,000) $ -
=================== ============= ============= ===================
10. LONG TERM OBLIGATIONS
January 31,
2004 2003
--------------------- -------------------
Obligation Under Capital Lease (A) $1,541,000 $1,642,000
Deferred Gain on Sale of Building (B) 847,000 967,000
Other - 18,000
--------------------- -------------------
2,388,000 2,627,000
Total
Less: Current maturities (242,000) (239,000)
--------------------- -------------------
Long-term maturities $2,146,000 $2,388,000
===================== ===================
<FN>
(A) Obligation Under Capital Lease of the Company at January 31, 2004 matures
as follows:
Fiscal Year Ending January 31,
2005 $ 297,000
2006 306,000
2007 316,000
2008 325,000
2009 335,000
2010 and thereafter 730,000
-----------------
Total Minimum Lease Payments $2,309,000
Less: Amount representing interest (768,000)
-----------------
Present value of net minimum lease payments 1,541,000
Less current portion 123,000
-----------------
Long term lease obligations $1,418,000
=================
(B) On March 8, 2001, the corporate headquarters facility located at 200
Wireless Boulevard, Hauppauge, New York, was sold and partially leased back
from Brandywine Realty Trust in a concurrent transaction.
In fiscal 2003, the Company leased the entire facility and the lease of the
remaining portion of the building was accounted for as an operating lease.
Concurrent sale and leaseback transactions are subject to specific rules
regarding the timing of the recognition of the gain. This transaction
results in a non-recurring gain of $1.2 million deferred over the life of
the lease, a period of ten years. The related lease obligation meets the
rules requiring classification as a capital lease. The operating expense is
therefore reported as interest and depreciation on a straight-line basis
over the life of the lease, with both current and long-term portions,
rather than rent expense. The capitalized lease obligation and the related
asset were booked at an aggregate value of $1.8 million, and the term of
the lease is ten years. Cash proceeds of approximately $4.0 million were
provided by the sale.
</FN>
11. INCOME TAXES
The provision (benefit) for income taxes is based on income (loss) before
taxes on income and discontinued operations as follows:
Years ended
-------------------------------------------------------------------------
January 31, 2004 January 31, 2003 January 31, 2002
Domestic............................... $(2,496,000) $(3,450,000) $(11,254,000)
Foreign - included in discontinued
operations (See Note 7)................ 0 536,000 (306,000)
---------------------- ---------------------- ---------------------
Total................................. $(2,496,000) $(2,914,000) $(11,560,000)
====================== ====================== =====================
The income tax (benefit) provision from continuing operations for each of the
periods presented herein is as follows:
January 31,
2004 2003 2002
----------------- ------------------ -----------------
Current:
Federal $ - $(504,000) $(5,671,000)
State 25,000 - (210,000)
----------------- ------------------ -----------------
25,000 (504,000) (5,881,000)
Total current
----------------- ------------------ -----------------
Deferred:
Federal - - -
State and foreign - - -
----------------- ------------------ -----------------
- - -
Total deferred:
----------------- ------------------ -----------------
Total income tax (benefit) provision $25,000 $(504,000) $(5,881,000)
================= ================== =================
Tax expense (benefit) of $348,000, $(381,000) and $(863,000) related to
discontinued operations for the years ended January 31, 2004, 2003 and 2002,
respectively.
The tax effects of temporary differences that give rise to deferred income tax
assets and liabilities at January 31, 2004 and 2003 are as follows:
January 31, 2004 January 31, 2003
Net Current Net Long- Net Current Long-Term
Deferred Tax Term Deferred Deferred Tax Deferred Tax
Assets Tax Assets Assets Assets
---------------- ----------------- ------------------- ------------------
Accounts receivable $271,000 $0 $579,000 $0
Inventories 683,000 0 849,000 0
Accrued warranty costs 217,000 0 217,000 0
Other accrued expenses 10,000 0 578,000 0
Deferred franchise revenue 169,000 0 0 0
Purchased technologies and goodwill 0 2,259,000 0 2,559,000
Net operating loss 0 6,905,000 0 5,545,000
Reserves for discontinued operations 658,000 0 3,393,000 0
Gain on sale of building 0 338,000 0 386,000
---------------- ----------------- ------------------- ------------------
2,008,000 9,502,000 5,616,000 8,490,000
Less valuation allowance (2,008,000) (9,502,000) (5,616,000) (8,490,000)
---------------- ----------------- ------------------- ------------------
$0 $0 $0 $0
================ ================= =================== ==================
A full valuation allowance for such deferred tax assets has been established at
January 31, 2004 and 2003, since the Company cannot determine the future
utilization of those assets.
Net operating loss carried forwards expire through 2024.
In fiscal 2002, the Company was able to extend its carryback of Net Operating
Losses from two years to five years as a direct result of the Job Creation and
Workers Assistance Act. This change resulted in the Company applying for a $6
million tax refund. During fiscal 2004 the Company received the remaining
carryback claim refund from the IRS along with applicable interest through the
refund date.
A reconciliation of the differences between the federal statutory tax rate of 34
percent and the Company's effective income tax rate is as follows:
Year Ended January 31,
2004 2003 2002
---------------- ----------------- ----------------
Federal statutory income tax rate (34.0)% (34.0)% (34.0)%
State income taxes, net of Federal benefit 1.0 - (1.9)
Permanent differences 27.3 35.4 0
Valuation Allowance 6.7 (16.0) 1.3
---------------- ----------------- ----------------
Effective income tax rate 1.0% (14.6)% (34.6)%
================ ================= ================
12. STOCKHOLDERS' EQUITY
a. Common and Preferred Stock - The Class A Common Stock and Class B
Common Stock has authorizations of 20,000,000 and 3,000,000 shares,
respectively. The Class A Common Stock and Class B Common Stock are
substantially identical in all respects, except that the holders of
Class B Common Stock (two members of the Company's current management
and their affiliates) elect two-thirds of the Company's Board of
Directors (as long as the number of shares of Class B Common Stock
outstanding equals or exceeds 400,000), while the holders of Class A
Common Stock elect one-third of the Company's Board of Directors. Each
share of Class B Common Stock automatically converts into one share of
Class A Common Stock upon transfer to a non-Class B common
stockholder. The 1,000,000 shares of preferred stock are authorized
and may be issued from time to time, in such series and with such
designations, rights and preferences as the Board may determine.
b. Stock Option Plans - The Company maintains two stock option plans
pursuant to which an aggregate of approximately 1,984,000 shares of
Common Stock may be granted.
The 1993 Stock Option Plan (the "1993 Plan") has 1,750,000 shares of Common
Stock reserved for issuance upon the exercise of options designated as either
(i) incentive stock options ("ISOs") under the Internal Revenue Code of 1986, as
amended (the "Code"), or (ii) non-qualified options. ISOs may be granted under
the Stock Option Plan to employees and officers of the Company. Non-qualified
options may be granted to consultants, directors (whether or not they are
employees), employees or officers of the Company.
Stock option transactions during the years ended January 31, 2004, 2003 and 2002
for the 1993 Plan are summarized below:
Exercise Weighted Average
Shares Price Range Exercise Price
----------------- --------------------- ----------------------
Options outstanding - January 31, 2001 682,000 $0.91-$2.40 $9.45
Options canceled (594,000) $0.95-$17.00 $12.19
Options issued 190,000 $0.95-$1.00 $0.97
----------------- --------------------- ----------------------
Options outstanding - January 31, 2002 278,000 $0.95-$17.00 $1.71
Options canceled (98,000) $1.00-$17.00 $3.99
Options issued 878,000 $0.27-$0.52 $0.29
----------------- --------------------- ----------------------
Options outstanding - January 31, 2003 1,058,000 $0.27-$1.00 $0.50
Options canceled (18,000) $0.27-$21.13 $1.09
----------------- --------------------- ----------------------
Options exercised (12,000) $0.27-$1.00 $1.88
----------------- --------------------- ----------------------
Options issued 40,000 $0.72-$0.86 $0.79
----------------- --------------------- ----------------------
Options outstanding - January 31, 2004 1,068,000 $0.27-$5.25 $0.50
Options exercisable at January 31, 2004 469,000 $0.27-$5.25 $0.72
================= ===================== ======================
Options Outstanding Options Exercisable
Weighted Avg. Weighted Weighted
Range of Exercise Price Remaining Average Average
Number Contractual Exercise Number Exercise
Outstanding Life (yrs) Price Exercisable Price
- ---------------------------- ---------------- ----------------- ------------- ---------------- -------------
$1.75-$5.25 28,000 1.0 $3.50 28,000 $3.50
$0.91-$2.72 15,000 2.0 $1.81 15,000 $1.81
$0.95-$1.00 130,000 3.0 $0.96 120,000 $0.96
$0.27-$0.52 855,000 4.0 $0.29 306,000 $0.32
$0.72-$0.86 40,000 5.0 $0.79 0 0
---------------- ----------------
1,068,000 469,000
Most options issued vest in three annual installments of 33-1/3 percent each on
the first, second, and third anniversary of the date of grant except for 50,000
issued in 2003 which vested immediately. There are approximately 682,000 shares
available for future grants under the 1993 Plan.
The 1994 Non-Employee Director Stock Option Plan (the "Directors Plan") has
approximately 234,000 shares of Common Stock reserved for issuance. Pursuant to
the terms of the Directors Plan, each independent unaffiliated Director shall
automatically be granted, subject to availability, without any further action by
the Board of Directors or the Stock Option Committee: (i) a non-qualified option
to purchase 10,000 shares of Common Stock upon their election to the Board of
Directors; and (ii) a non-qualified option to purchase 10,000 shares of Common
Stock on the date of each annual meeting of stockholders following their
election to the Board of Directors. The exercise price under each option is the
fair market value of the Company's Common Stock on the date of grant. Each
option has a five-year term and vests in three annual installments of 33-1/3
percent each on the first, second, and third anniversary of the date of grant.
Options granted under the Directors Plan are generally not transferable during
an optionee's lifetime but are transferable at death by will or by the laws of
descent and distribution. In the event an optionee ceases to be a member of the
Board of Directors (other than by reason of death or disability), then the
non-vested portion of the option immediately terminates and becomes void and any
vested but unexercised portion of the option may be exercised for a period of
180 days from the date the optionee ceased to be a member of the Board of
Directors. In the event of death or permanent disability of an optionee, all
options accelerate and become immediately exercisable until the scheduled
expiration date of the option.
Stock option transactions during the years ended January 31, 2004, 2003 and 2002
for the Directors' Plan are summarized below:
Exercise Weighted Average
Shares Price Range Exercise Price
--------------- ----------------- ----------------------
Options outstanding-January 31, 2001 32,000 $2.25-$22.00 $12.16
Options issued 20,000 $0.96 $0.96
Warrants issued 100,000 $0.50 $0.50
Options cancelled (32,000) $2.25-$22.00 $12.16
--------------- ----------------- ----------------------
Options outstanding-January 31, 2002 120,000 $0.50-$0.96 $0.58
--------------- ----------------- ----------------------
Options cancelled 0 0 0
Options issued 40,000 $0.27-$0.89 $0.43
--------------- ----------------- ----------------------
Options outstanding-January 31, 2003 160,000 $0.27-$0.96 $0.54
Options issued 30,000 $0.92 $0.92
--------------- ----------------- ----------------------
Options outstanding-January 31, 2004 90,000 $0.27-$0.96 $0.68
=============== ================= ======================
Warrants exercisable-January 31, 2004 100,000 $0.50 $0.50
=============== ================= ======================
There are approximately 144,000 shares available for future grants under the
Directors' Plan.
13. TREASURY STOCK
Treasury stock at January 31, 2004 and 2003 consists of 1,164,000 and
695,000 shares respectively of Class A common stock purchased in open market
transactions for a total cost of approximately $2,017,000 and $1,602,0000
respectively pursuant to a stock repurchase program authorized by the Board of
Directors in fiscal year 1999.
14. PROFIT SHARING PLAN
Profit Sharing Plan - The Company has a voluntary contribution profit
sharing plan (the "Plan"), which complies with Section 401(k) of the Internal
Revenue Code. Employees who have attained the age of 21 and have one year of
continuous service are eligible to participate in the Plan. The Plan permits
employees to make a voluntary contribution of pre-tax dollars to a pension
trust, with a discretionary matching contribution by the Company up to a maximum
of two percent of an eligible employee's annual compensation. The Company
elected not to make matching contributions for fiscal years ended January 31,
2004, 2003 and 2002. The Company funds all amounts when due.
15. COMMITMENTS AND CONTINGENCIES
a. Minimum Operating Lease Commitments - The Company has non-cancellable
operating leases for various automobiles and sales and service locations.
The annual aggregate rental commitments required under these leases, except
for those providing for month-to-month tenancy, are as follows:
Fiscal Year Ending
January 31,
2005 $780,000
2006 644,000
2007 539,000
2008 265,000
2009 214,000
2010 and after 454,000
------------------
$2,896,000
==================
Rent expense was approximately $584,000, $574,000 and $1,068,000 for the
years ended January 31, 2004, 2003 and 2002, respectively. The decline from
previous years is the result of termination of various facility leases.
b. Litigation - The Company is a defendant in various litigation matters, all
arising in the normal course of business. Based upon discussion with
Company counsel, management does not expect that these matters will have a
material adverse effect on the Company's consolidated financial position or
results of operations and cash flows.
c. The Company has a Loan and Security Agreement ("the Congress Agreement")
with Congress Financial Corporation ("Congress") for three years expiring
on November 26, 2005. The Congress Agreement, as amended April 30, 2004,
provides for a credit facility of $12 million for Hirsch and all
subsidiaries and is collateralized by eligible accounts receivable and
inventory as defined in the agreement. Advances made pursuant to the
Congress Agreement may be used by the Company and its subsidiaries for
working capital loans, letters of credit and deferred payment letters of
credit. The terms of the Congress Agreement require the Company to maintain
certain financial covenants. The Company was in compliance with all
financial covenants at fiscal 2004 year-end. The Agreement was also used to
support letters of credit and bankers acceptances of approximately $3.8
million as of January 31, 2004.
d. Dependency Upon Major Supplier - During the fiscal years ended January 31,
2004, 2003, and 2002; the Company made purchases of approximately
$22,067,000, $21,115,000, and $27,789,000 respectively, from Tajima
Industries Ltd. ("Tajima"), the manufacturer of the embroidery machines the
Company sells. This amounted to approximately 73, 74, and 85 percent of the
Company's total purchases for the years ended January 31, 2004, 2003, and
2002, respectively. Purchases from Tajima are purchases under letters of
credit. Outstanding letters of credit as of January 31, 2004 are reflected
in trade acceptances payable on the balance sheet.
The Company has several separate distributorship agreements with Tajima which,
collectively, provide the Company the exclusive right to distribute Tajima's
complete line of embroidery machines in 39 states. The main agreement (the "East
Coast/Midwest Agreement") which covers 33 states, including the original Hirsch
territory and the additional states acquired in the SMX territory, became
effective on February 21, 1991 and has a term of 20 years. The East
Coast/Midwest Agreement is terminable by Tajima and/or the Company on not less
than two years' prior notice.
The second agreement (the "Southwest Agreement") covers the six states acquired
in the Sedeco territory, became effective on February 21, 1997 and has a term of
five years. This agreement was renewed until February 22, 2004. The Company is
in the process of negotiating the Southwest Agreement, however, there can be no
assurance that an agreement can be reached on terms acceptable to the Company.
The failure of the Company to obtain an extension of the Southwest Agreement on
terms acceptable to the Company could result in a loss of the Company's right to
distribute embroidery machines in the territories covered by the Southwest
Agreement which could have a material adverse effect on the Company's business,
operations and financial condition.
In the states of Arizona, California, Hawaii, Idaho, Montana, Nevada, Oregon,
Utah, Washington and Wyoming, the Company is the exclusive distributor of
Tajima's single, two, four, and six-head machines as well as chenille or
chenille/standard embroidery machines with less than four heads or two stations,
respectively (the "West Coast Agreement").
Each of the first three Tajima Agreements contains language that permits
termination if the Company fails to achieve certain minimum sales quotas. The
Company achieved the quota for fiscal 2004.
The West Coast Agreement has a term of five years. This agreement was renewed.
until February 21, 2004 Tajima may terminate the West Coast Agreement or its
exclusivity on 30 days' written notice or upon a material change in the current
Class B shareholders in which case, the West Coast Agreement can be terminated
earlier. The Company has satisfied its obligations to Tajima under the agreement
for the fiscal year 2004. The Company is in the process of negotiating the West
Coast Agreement, however, there can be no assurance that an agreement can be
reached on terms acceptable to the Company. The failure of the Company to obtain
an extension of the West Coast Agreement on terms acceptable to the Company
could result in a loss of the Company's right to distribute embroidery machines
in the territories covered by the West Coast Agreement which could have a
material adverse effect on the Company's business, operations and financial
condition.
e. Purchase Commitments - The Company entered into a three year minimum
purchase commitment with Pulse under which the Company is obligated to
purchase $100,000 of software each month. The commitment was effective
November 1, 2002 and runs until October 31, 2005. As of January 31, 2004
there was $2.1 million remaining under this commitment.
16. GOODWILL IMPAIRMENT
During the fourth quarter of fiscal 2002 in view of the overall industry decline
in demand for embroidery equipment and related products, the resulting decline
in Company revenue delivered in the territories associated with the acquisition
of SMX Corporation and Sedeco Corporation and the Company's impairment
evaluation, the Company wrote-off the balance of $3,477,000 of Goodwill as an
impairment charge to operations.