UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
[X] Quarterly report pursuant to section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended June 30, 1999
OR
[ ] Transition report pursuant to section 13 or 15(d) of the
Securities Exchange Act of 1934
For the transition period from to
----------- -----------
Commission File Number 1-12368
THE LEATHER FACTORY, INC.
(Exact name of registrant as specified in its charter)
Delaware 75-2543540
------------------------------- ---------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
3847 East Loop 820 South, Ft. Worth, Texas 76119
---------------------------------------------------
(Address of principal executive offices) (Zip code)
(817) 496-4414
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to by filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Shares outstanding as of August 10, 1999
- ------------------------------ ----------------------------------------
Common Stock, par value $.0024 9,853,161
per share
THE LEATHER FACTORY, INC.
FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
TABLE OF CONTENTS
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PAGE NO.
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
June 30, 1999 and December 31, 1998 3
Consolidated Statements of Income (Loss)
Three and six months ended June 30, 1999 and 1998 4
Consolidated Statements of Cash Flows
Six months ended June 30, 1999 and 1998 5
Consolidated Statements of Stockholders' Equity
and Comprehensive Income (Loss)
Six months ended June 30, 1999 and 1998 6
Notes to Consolidated Financial Statements 7-8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8-13
Item 3. Quantitative and Qualitative Disclosures About Market Risk 13
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders 14
Item 6. Exhibits and Reports on Form 8-K 14
SIGNATURES 15
EXHIBIT INDEX 16-18
2
THE LEATHER FACTORY, INC.
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
1999 1998
------------ ------------
ASSETS (UNAUDITED)
CURRENT ASSETS:
Cash $ 322,375 $ 510,399
Cash restricted for payment on revolving credit facility 420,631 232,838
Accounts receivable-trade, net of allowance for
doubtful accounts of $92,000 and $52,000
in 1999 and 1998, respectively 1,815,173 1,582,459
Inventory 7,323,505 6,956,606
Prepaid income taxes 91,279 228,939
Deferred income taxes 113,555 102,012
Other current assets 566,025 272,993
------------ ------------
Total current assets 10,652,543 9,886,246
------------ ------------
PROPERTY AND EQUIPMENT, at cost 3,065,078 2,671,827
Less-accumulated depreciation and amortization (1,980,193) (1,813,378)
------------ ------------
Property and equipment, net 1,084,885 858,449
GOODWILL and other, net of accumulated amortization of
$1,484,000 and $1,246,000 in 1999 and 1998, respectively 5,062,533 5,285,242
------------ ------------
$ 16,799,961 $ 16,029,937
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 1,560,410 $ 1,019,069
Accrued expenses and other liabilities 609,169 530,789
Notes payable and current maturities of
long-term debt 6,244,469 6,139,327
------------ ------------
Total current liabilities 8,414,048 7,689,185
------------ ------------
DEFERRED INCOME TAXES 104,594 109,085
NOTES PAYABLE AND LONG-TERM DEBT,
Net of current maturities 176,101 61,389
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $0.10 par value; 20,000,000
shares authorized, none issued or outstanding - -
Common stock, $0.0024 par value; 25,000,000 shares
authorized, 9,853,161 shares issued in 1999 and 1998 23,648 23,648
Paid-in capital 3,901,740 3,901,740
Less: Notes receivable secured by common stock (204,185) (224,750)
Retained earnings 4,409,895 4,495,378
Accumulated other comprehensive loss (25,880) (25,738)
------------ ------------
Total stockholders' equity 8,105,218 8,170,278
------------ ------------
$ 16,799,961 $ 16,029,937
============ ============
The accompanying notes are an integral part of these financial statements.
3
THE LEATHER FACTORY, INC.
CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(UNAUDITED)
THREE AND SIX MONTHS ENDED JUNE 30, 1999 AND 1998
THREE MONTHS SIX MONTHS
1999 1998 1999 1998
------------ ------------ ------------ ------------
NET SALES $ 6,539,950 $ 5,471,463 $ 12,052,950 $ 11,182,295
COST OF SALES 3,726,181 3,044,623 6,880,292 6,340,761
------------ ------------ ------------ ------------
Gross Profit 2,813,769 2,426,840 5,172,658 4,841,534
OPERATING EXPENSES 2,584,039 2,192,639 4,822,555 4,492,533
------------ ------------ ------------ ------------
INCOME FROM OPERATIONS 229,730 234,201 350,103 349,001
OTHER (INCOME) EXPENSE:
Interest expense 168,027 259,702 397,894 500,347
Other, net (15,063) (16,040) (14,381) (23,801)
------------ ------------ ------------ ------------
Total other (income) expense 152,964 243,662 383,513 476,546
------------ ------------ ------------ ------------
INCOME (LOSS) BEFORE INCOME TAXES 76,766 (9,461) (33,410) (127,545)
PROVISION (BENEFIT) FOR INCOME TAXES 70,058 24,083 52,073 (5,473)
------------ ------------ ------------ ------------
NET INCOME (LOSS) $ 6,708 $ (33,544) $ (85,483) $ (122,072)
============ ============ ============ ============
EARNINGS (LOSS) PER COMMON SHARE $ - $ - $ (0.01) $ (0.01)
============ ============ ============ ============
EARNINGS (LOSS) PER COMMON SHARE-Assuming Dilution $ - $ - $ (0.01) $ (0.01)
============ ============ ============ ============
DIVIDENDS PAID PER COMMON SHARE $ - $ - $ - $ -
============ ============ ============ ============
The accompanying notes are an integral part of these financial statements.
4
THE LEATHER FACTORY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
SIX MONTHS ENDED JUNE 30, 1999 AND 1998
1999 1998
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (85,483) $(122,072)
Adjustments to reconcile net income to net
cash provided by (used in) operating activities
Depreciation & amortization 271,815 266,570
(Gain) loss on sales of assets - (9,118)
Deferred financing costs 125,882 109,582
Deferred income taxes (16,034) (25,257)
Other (142) 2,600
Net changes in operating assets and liabilities:
Accounts receivable-trade, net (232,714) (58,195)
Inventory (366,899) 107,210
Income taxes 137,660 (8,959)
Other current assets (293,032) (209,048)
Accounts payable 541,341 395,622
Accrued expenses and other liabilities 78,381 (90,959)
--------- ---------
Total adjustments 246,258 480,048
--------- ---------
Net cash provided by operating activities 160,775 357,976
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (393,251) (56,642)
Proceeds from sales of assets - 10,000
Other intangible costs (8,174) (441)
--------- ---------
Net cash used in investing activities (401,425) (47,083)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in revolving credit loans 228,628 141,639
Proceeds from notes payable and long-term debt 217,494 -
Payments on notes payable and long-term debt (226,268) (216,409)
(Increase) decrease in cash restricted under the revolving credit (187,793) 118,527
Payments received on notes secured by common stock 20,565 23,367
Deferred financing costs
- (140,627)
--------- ---------
Net cash used in financing activities 52,626 (73,503)
--------- ---------
NET INCREASE (DECREASE) IN CASH (188,024) 237,390
CASH, beginning of period 510,399 70,496
--------- ---------
CASH, end of period $ 322,375 $ 307,886
========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid during the period $ 335,139 $ 378,265
Income taxes paid during the period, net of refunds (69,076) 25,507
The accompanying notes are an integral part of these financial statements.
5
THE LEATHER FACTORY, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
AND COMPREHENSIVE INCOME (LOSS)
(UNAUDITED)
SIX MONTHS ENDED JUNE 30, 1999 AND 1998
Common Stock Notes Accumulated
------------------ Receivable Other Total
Number Par Paid-in - Secured by Unearned Retained Comprehensive Stockholders'
of Shares Value Capital Common Stock ESOP Shares Earnings Loss Equity
--------- -------- ---------- ------------- ------------ ----------- ------------- ------------
BALANCE, December 31, 1997 9,853,161 $ 23,648 $4,119,915 $ (257,617) $ (273,851) $4,534,569 $ (14,018) $8,132,646
Payments received on
notes secured by common - - - 23,367 - - - 23,367
stock
Allocation of suspended
ESOP shares committed to - - (27,198) - 30,189 - - 2,991
be released
Net loss - - - - - (122,072) - (122,072)
Foreign currency
translation adjustment,
net of tax of ($2,499) - - - - - - (4,077) (4,077)
--------- -------- ---------- ------------ ----------- ---------- ------------ ----------
BALANCE, June 30, 1998 9,853,161 $ 23,648 $4,092,717 $ (234,250) $ (243,662) $4,412,497 $ (18,095) $8,032,855
========= ======== ========== ============ =========== ========== ============ ==========
Comprehensive income (loss) for the six months ended June 30, 1998
BALANCE, December 31, 1998 9,853,161 $23,648 $3,901,740 $ (224,750) - $4,495,378 $ (25,738) $8,170,278
Payments received on
notes secured by common - - - 20,565 - - - 20,565
stock
Allocation of suspended
ESOP shares committed to - - - - - - - -
be released
Net loss - - - - - (85,483) - (85,483)
Foreign currency
translation adjustment,
net of tax of ($87) - - - - - - (142) (142)
--------- -------- ---------- ----------- ----------- ------------ ------------ ----------
BALANCE, June 30, 1999 9,853,161 $23,648 $3,901,740 $ (204,185) $ - $ 4,409,895 $ (25,880) $8,105,218
========= ======== ========== ========== =========== ============ ============ ==========
Comprehensive
Income (Loss)
------------
BALANCE, December 31, 1998
Payments received on
notes secured by common
stock
Allocation of suspended
ESOP shares committed to
be released
Net loss $(122,072)
Foreign currency
translation adjustment,
net of tax of ($2,499) (4,077)
BALANCE, June 30, 1998
=========
Comprehensive income (loss) for the six months ended June 30, 1998 $(126,149)
=========
BALANCE, December 31, 1998
Payments received on
notes secured by common
stock
Allocation of suspended
ESOP shares committed to
be released
Net loss $ (85,483)
Foreign currency
translation adjustment,
net of tax of ($87) (142)
BALANCE, June 30, 1999
---------
Comprehensive income (loss)for the six months ended June 30, 1999 $ (85,625)
=========
The accompanying notes are an integral part of these financial statements.
6
THE LEATHER FACTORY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
In the opinion of The Leather Factory, Inc. (the "Company"), the accompanying
consolidated financial statements contain all adjustments (consisting of only
normal recurring adjustments) necessary to present fairly its financial position
as of June 30, 1999 and December 31, 1998, and the results of operations and
cash flows for the three and six month periods ended June 30, 1999 and 1998. The
results of operations for the three and six month periods are not necessarily
indicative of the results to be expected for the full fiscal year. The
consolidated financial statements should be read in conjunction with the
financial statements and disclosures contained in the Company's 1998 Annual
Report on Form 10-K ("Annual Report").
2. INVENTORY
The components of inventory consist of the following:
June 30, December 31,
1999 1998
----------- ------------
Finished goods held for sale $ 6,211,032 $ 5,564,406
Raw materials and work in process 1,112,473 1,392,200
----------- -----------
$ 7,323,505 $ 6,956,606
=========== ===========
3. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share:
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------- -------------------------
1999 1998 1999 1998
---------- ----------- ---------- ----------
Numerator for basic and
Diluted earnings per share:
Net income (loss) $ 6,708 $ (33,544) $ (85,483) $ (122,072)
========== ========== ========== ==========
Denominator for earnings per share:
Weighted-average shares outstanding-Basic 9,853,161 9,802,259 9,853,161 9,800,832
Weighted-average shares outstanding-Diluted 9,880,340 9,802,259 9,866,751 9,800,832
Basic earnings per share $ - $ = $ (0.01) $ (0.01)
========== ========== ========== =========
Diluted earnings per share $ - $ - $ (0.01) $ (0.01)
========== ========== ========== =========
Unexercised employee and director stock options to purchase 385,000 and 585,000
shares of common stock as of June 30, 1999 and 1998, respectively, were not
included in the computations of diluted earnings per share ("EPS") because the
options' exercise prices were greater than or equal to the average market prices
of the common stock during the respective periods. The net effect of converting
stock options to purchase 58,000 shares of common stock at option prices less
than the average market prices for the quarter has been included in the
computation of diluted EPS for the periods ending June 30, 1999.
7
Warrants to acquire 100,000 and 300,000 shares of common stock were not included
in the computations of diluted EPS because the exercise prices relating to these
warrants were greater than the average market prices of the common stock during
the quarters ended June 30, 1999 and 1998, respectively (see also note 9 to
consolidated financial statements in the Annual Report and Management's
Discussion and Analysis of Financial Condition and Results of Operations-Capital
Resources and Liquidity under Item 2 of this Quarterly Report on Form 10-Q). The
net effect of exercising warrants on 200,000 shares has been included in the
computation of diluted EPS for the period ended June 30, 1999, in that the
exercise price of such warrants was less than the average market price for the
quarter.
The shares of common stock attributable to the 13% convertible debt were not
included in the computation of diluted EPS because the interest cost (net of
tax) per assumed converted share was more than basic EPS and, therefore, the
effect would be antidilutive (see note 3 to consolidated financial statements in
the Annual Report).
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
General
The Company is the premier distributor of leather and leathercraft products to
over 40,000 customers ranging from the individual hobbyist to large retail
chains. Customer groups served include: individual hobbyists, wholesale
distributors, tack and saddle shops, shoe-findings customers, institutions,
prisons and prisoners, dealer stores, western stores, craft stores and craft
store chains, hat manufacturers and distributors, other large volume purchasers,
manufacturers, and retailers. The Company's products are distributed primarily
through 26 sales/distribution units in the United States and Canada or through
its subsidiary, Roberts, Cushman & Company, Inc. ("Cushman"), in New York.
Cushman manufactures and distributes: hat trims in braids, leather, and woven
fabrics, and small finished leather goods, such as, cigar cases, picture frames,
wallets and other accessories.
Results of Operations
Analysis of Second Quarter 1999 Compared
To Second Quarter 1998
Income Statement Comparison
The following table sets forth, for the interim periods indicated, certain items
from the Company's Consolidated Statements of Income (Loss) expressed as a
percentage of net sales:
Quarterly Period Ended
June 30
----------------------
1999 1998
------- --------
Net sales 100.0 % 100.0 %
Cost sales 57.0 55.6
--------- ---------
Gross Profit 43.0 44.4
Operating expenses 39.5 40.1
--------- ---------
Income from operations 3.5 4.3
Interest and other expense, net 2.3 4.5
--------- ---------
Income (Loss) before income taxes 1.2 (0.2)
(Benefit) provision for income taxes 1.1 0.4
--------- ---------
Net Income (Loss) 0.1 % (0.6)%
========= =========
8
Revenues
Net sales increased 19.5% to $6,539,950 during the quarter ended June 30, 1999,
from $5,471,463 in the same period of last year. Second quarter sales to the
Company's core business and institutional customers continued the steady growth
shown over the past year and were up nearly 27% compared to the second quarter
of 1998. For the first time in three years the Company experienced sales gains
in the majority of its customer groups. Other than planned reductions in sales
of low margin products and a slight sales decrease to craft retailers,
principally because of timing of orders, sales were up. Increased sales were
generated by many of the Company's 22 existing locations, with the four new
locations posting sales of $92,814. Sales to craft retailers were virtually flat
(down 1%) due to implementation issues involving new programs as previously
announced.
Costs, Gross Profit, and Expenses
Cost of sales as a percentage of revenue was 57.0% for the second quarter of
1999 as compared to 55.6% for the same quarter in 1998. The higher relative cost
of sales meant that gross profit as a percentage of sales declined to 43.0% for
the three months ended June 30, 1999, as compared to 44.4% for the same period
in 1998. This increase in cost of sales as a percentage of revenue resulted from
the Company's strategic efforts to remain competitively priced while Tandycrafts
Inc. continued its announced liquidation in order to close 121 Tandy Leather
retail stores.
Operating expenses increased $391,400 or 17.9% to $2,584,039 during the second
quarter of 1999 from $2,192,639 during the quarter ended June 30, 1998;
furthermore, this total for the second quarter increased by $345,523 over the
first quarter operating expense of $2,238,516, or a 15.4% rise. The cost for the
quarter of operating four new sales/distribution units was $96,396. The
remaining increase in operating expenses of $249,127 over the first quarter
resulted mainly from personnel, salary and payroll-related costs necessary to
support the increased level of sales as discussed above. However, due to the
Company's efforts to judiciously control these costs, operating costs as a
percentage of sales decreased from 40.1% in the second quarter of 1998 to 39.5%
during the second quarter of 1999.
Other (Income) Expense
Other expense decreased $90,698 or 37.2% to $152,964 for the second quarter of
1999 from $243,662 during the same quarter in 1998. The decrease is due to the
Company's lower average outstanding indebtedness for the quarter ended June 30,
1999, as compared to the same period in 1998, reduced amortization of certain
deferred financing costs and lower prevailing interest rates.
Net Income
The Company reported net income of $6,708 during the second quarter of 1999
compared to a net loss of $33,544 for the same period a year ago. The gain in
net income was principally due to the increase in gross profit from higher sales
in the second quarter of 1999 and the reduction in borrowing costs.
9
Analysis of Six Months Ended June 30, 1999
To Six Months Ended June 30, 1998
Income Statement Comparison
The following table sets forth, for the interim periods indicated, certain items
from the Company's Consolidated Statements of Income (Loss) expressed as a
percentage of net sales:
Six Months Ended
June 30,
--------------------
1999 1998
------- -------
Net sales 100.0 % 100.0 %
Cost sales 57.1 56.7
------- --------
Gross Profit 42.9 43.3
Operating expenses 40.0 40.2
------- --------
Income from operations 2.9 3.1
Interest and other expense, net 3.2 4.3
------- --------
(Loss) before income taxes (0.3) (1.2)
(Benefit) provision for income taxes 0.4 (0.1)
------- --------
Net Income (Loss) (0.7)% (1.1)%
======= ========
Revenues
Net sales increased 7.8% to $12,052,950 during the six months ended June 30,
1999 from $11,182,295 in the same period of last year. For the six months, sales
to the Company's core business and institutional customers continued the steady
growth shown over the past year and were up nearly 20% compared to the first six
months of 1998. However, these gains were partially offset by the Company's
ongoing efforts to reduce sales of low-margin items and by an anticipated drop
in craft market sales (down 37% and 7%, respectively, from the first six months
of 1998). The drop in craft market sales was expected due to industry conditions
affecting some of the Company's craft retailers and certain negative trends in
the decorative apparel consumer market. In addition, the results of efforts to
improve this segment of business have been delayed because of implementation
issues involving new programs as previously announced.
Costs, Gross Profit, and Expenses
Cost of sales as a percentage of revenue was 57.1% for the first six months of
1999 as compared to 56.7% for the same period in 1998. The higher relative cost
of sales meant that gross profit as a percentage of sales declined to 42.9% for
the six months ended June 30, 1999, as compared to 43.3% for the same period in
1998. This 0.4 percentage point difference is not significant from management's
perspective.
Operating expenses increased $330,022 or 7.3% to $4,822,555 during the six month
period of 1999 from $4,492,533 during the six month period ended June 30, 1998.
The increase in operating expenses between the two six month periods resulted
mainly from an increase in personnel, salary and payroll-related costs, rent,
and supplies necessary to open four new sales/distribution units and to provide
the necessary infrastructure to support the Company's increased volume of sales.
There was virtually no difference in operating cost as a percentage of sales
between the quarters ended June 30, 1998, and June 30, 1999.
10
Other (Income) Expense
Other expense decreased $93,033 or 19.5% to $383,513 for the six months ended
June 30, 1999, from $476,546 during the same period in 1998. The decrease is due
to the Company's lower average outstanding indebtedness for the six months ended
June 30, 1999, as compared to the same period in 1998, reduced amortization of
certain deferred financing costs and lower prevailing interest rates.
Net Income
The Company reported a net loss of $85,483 during the first six months of 1999
compared to a net loss of $122,072 for the same period a year ago. The reduction
in loss was principally due to the increase in gross profit from higher sales in
the first half of 1999 and the reduction in borrowing costs.
Capital Resources and Liquidity
The primary sources of liquidity and capital resources during the second quarter
of 1999 were funds provided by operating activities in the amount of $160,775,
borrowings from FINOVA Capital Corporation ("FINOVA"), and a subordinated
debenture with The Schlinger Foundation ("Schlinger"), and capital leases to
finance investment in new computer equipment.
The Company's investment in net accounts receivable was $1,815,173 at June 30,
1999, up $232,714 from $1,582,459 at year-end 1998. The addition to the average
accounts receivable balance is due to the Company's increasing sales levels.
Inventory increased $366,899 to $7,323,505 at June 30, 1999, from $6,956,606 at
year-end 1998. Although inventories were increased to support the volume of
sales reported in the six months ended June 30, 1999, inventory turnover
improved to an annual rate of 1.9 times during the first half of 1999, which is
above the ratios of 1.81 for the first quarter of 1999 and 1.74 for all of 1998.
Management's ongoing implementation of new information systems assisted in the
monitoring of sales and inventory levels which contributed to improved inventory
management.
The largest uses of cash beyond debt payments in the second quarter of 1999 were
for capital expenditures, which totaled $154,362 and were principally related to
the Company's ongoing computer system implementation.
As discussed in note 3 of the Company's 1998 Annual Report with Form 10-K, on
November 21, 1997, the Company entered into a Loan and Security Agreement with
FINOVA, pursuant to which FINOVA agreed to provide a credit facility of up to
$9,136,000 in senior debt (the "Senior Debt Facility"), containing a revolving
credit facility and term notes. Simultaneously with the closing of the Senior
Debt Facility, the Company also issued to Schlinger at face value $1,000,000 in
subordinated convertible debt (the "Subordinated Debenture").
The revolving credit facility with FINOVA is based upon the level of the
Company's accounts receivable and inventory. At June 30, 1999, and December 31,
1998, the Company had additional availability on the revolving credit facility
of approximately $859,000 and $475,000, respectively. As the Company's sales and
operations expand requiring larger investments in accounts receivable and
inventory, the Company could have in excess of $1,000,000 in additional funds
available under the revolving credit facility.
The Senior Debt Facility contains certain financial covenants which include
requirements to 1) maintain a certain level of earnings before interest, taxes,
depreciation and amortization ("EBITDA"), 2) limit capital expenditures, and 3)
maintain certain debt service coverage ratios. Decreases in sales, earnings and
cash flow during 1998, and the first two months of 1999, resulted in debt
service coverage ratios falling below target amounts in the financial covenants
of the Senior Debt Facility for the 12-month period ending June 30, 1999. Prior
to the June 30 measurement date, the Company requested that FINOVA amend the
targets in the financial covenants, and FINOVA agreed to the Company's request.
The Company and FINOVA entered into an amendment to the Senior Debt Facility
dated August 12, 1999, effective as of June 30, 1999. The amendment reduces the
targets for the 12-month period ending June 30, 1999, for the Senior Debt
Coverage Ratio from 1.35 to 1.25 and for the Total Debt Service Coverage Ratio
for the same period from 1.10 to 1.05. In addition, the EBITDA requirement of
$900,000 for the first six months of 1999 was reduced to $700,000, and the
capital expenditure maximum was set to $600,000 for the 1999 year. The amendment
is filed as Exhibit 4.15 to this Form 10-Q.
11
The Company believes that the current sources of liquidity and capital resources
will be sufficient to fund ongoing operations and open new sales/distribution
units. In 1999, the funding for the opening of four new units has been provided
by operating leases, cash flows from operating activities, the Senior Debt
Facility and the Subordinated Debenture. The opening of the Company's
sales/distribution units is not capital intensive. Historically, the Company
invested approximately $125,000 in opening a new unit. The four units opened
this year each required substantially less to open the unit than the $125,000
historically invested in a new unit. Beyond funding ongoing operations and the
opening of new locations, the Company anticipates financing for software to
complete the installation of new information systems in remaining locations will
be provided by cash flows from operating activities.
The Company's Senior Debt Facility and Subordinated Debenture mature on December
1, 1999, and management has begun to pursue negotiations with FINOVA and other
potential investors/lenders to extend or replace the maturing debt facilities.
Management believes it will be able to secure the required financing prior to
the maturity of these obligations. However, in the event of a future material
adverse change in the Company's operations, FINOVA could accelerate its debt or
otherwise determine not to renew the notes. In such a circumstance, the Company
would pursue other sources of financing. If other financing could not be
secured, the Company could experience a material adverse impact.
Year 2000 Issue
The Year 2000 ("Y2K") problem arose because many computer programs use only the
last two digits to refer to a year. As a consequence, unless modified, many
computer systems will interpret "00" as 1900 rather than the year 2000. This
issue is believed to affect virtually all organizations and failure to address
the problem could result in system failures and the generation of erroneous
data. Each company's potential costs and uncertainties will depend on a number
of factors including but not limited to its software, hardware, the nature of
its industry, and the sophistication of its manufacturing and process control
systems.
The Company has developed a comprehensive Y2K readiness plan to ensure its
systems will be Y2K compliant prior to the year 2000. Pursuant to this plan, the
Company conducted preliminary reviews of its critical information technology
("IT") systems as well as its non-IT systems. The majority of systems that were
found to be defective in this review, including the Company's point of sale
("POS") software used for invoicing and inventory maintenance in the Company's
Texas locations, have now been replaced or upgraded.
The installation of the POS system in the Company's remaining distribution units
was delayed until after the conversion and testing of the Y2K compliant version
of the software. The conversion in Fort Worth and the majority of Texas
locations is complete. The installation in remaining locations is scheduled to
be completed by October 31, 1999.
The Company has appointed a Y2K committee composed of senior executives and
middle management. This committee is charged with testing systems for potential
Y2K problems missed in the preliminary review and remediation process as well as
assessing potential risks from the Company's trading partners' Y2K failures. The
committee's testing was completed by June 30, 1999. The committee's assessment
of risks from the Company's trading partners' Y2K failures is an ongoing
analysis, and the committee will report periodically to the Company's Board of
Directors.
The Company has managed its Y2K compliance program using mostly internal
salaried staff. For this reason and the fact that much of the replacement cost
of non-compliant IT systems would have been incurred in the normal course of
business, it is difficult to quantify the actual Y2K remediation costs. The
Company invested approximately $368,037 for new computer systems and software in
1998 and the first two quarters of 1999. This investment includes system
upgrades that will facilitate completion of the Y2K compliance program.
Management believes that the majority of the total expected system remediation
cost has already been incurred. Additional hardware purchases, software
purchases, and licenses are expected to not exceed $70,000 during the remainder
of the year.
12
The Company believes because of the nature of its operations and the steps taken
as discussed above that the Y2K issue will not have a material impact on the
Company's results of operations, liquidity, or financial condition. Specifically
the Company does not anticipate any disruption in its ability to provide goods
or services to its customers. Actual results may differ from the forward-looking
statements contained in this discussion, and there can be no guarantee that the
failure of certain systems will not have a material adverse effect on the
Company.
In the unlikely event that unforeseen Y2K problems are not remedied prior to a
disruption in normal business operations, the Company would in most instances be
able to temporarily revert to manual processes that the Company successfully
used prior to automating many routine tasks. Because of the nature of the
leathercraft industry and the numerous sources of supply, the Company does not
expect any significant disruption that would hinder its ability to provide goods
and services as a result of any of its vendors or trading partners failing to be
ready for the year 2000.
Cautionary Statement
The disclosures under "-Results of Operations", "-Capital Resources and
Liquidity", and in the "Notes to Consolidated Financial Statements" as provided
elsewhere herein, contain forward-looking statements and projections of
management. There are certain important factors which could cause results to
differ materially than those anticipated by some of the forward-looking
statements. Some of the important factors which could cause actual results to
differ materially from those in the forward-looking statements include, changes
from anticipated levels of sales, whether due to future national or regional
economic and competitive conditions, including, but not limited to, retail craft
buying patterns, possible negative trends in the craft and western retail
markets, customer acceptance of existing and new products, and pricing pressures
due to competitive industry conditions. Additional factors that may result in
different actual results include: increases in prices for leather (a world-wide
commodity) that for some reason, may not be passed on to the customers of the
Company's products; changes in tax rates; change in interest rates; change in
the commercial banking environment; problems with the importation of the
products which the Company buys in 14 countries around the world, including, but
not limited to, transportation problems or changes in the political climate of
the countries involved, including the maintenance by those countries of Most
Favored Nation status with the United States of America; and other
uncertainties, all of which are difficult to predict and many of which are
beyond the control of the Company.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
The Company's Senior Debt Facility includes loans with interest rates that vary
with changes in the prime rate. An increase of one percentage point in the prime
rate would not have a material impact on the Company's future earnings.
13
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
On May 26, 1999, the Annual Meeting of the Stockholders of the Company was held
in the Scott Van Zandt room at the Radisson Plaza Hotel, Fort Worth, Texas to
consider and act on the following matter:
(1) To elect the following individuals to serve as directors until the
Company's 2000 Annual Meeting of Stockholders or until their
successors are duly elected and qualified:
Wray Thompson Anthony C. Morton
Ronald C. Morgan H.W. "Hub" Markwardt
Robin L. Morgan Joseph R. Mannes
William M. Warren John Tittle, Jr.
As to item (1) above, the following table depicts the votes cast for and
against, as well as those which abstained from voting, as to the election of the
aforementioned individuals as a director of the Company as noted above:
For Against Abstaining
--------- ------- ----------
Wray Thompson 9,503,991 10,862 23,561
Ronald C. Morgan 9,458,991 55,862 23,561
Robin L. Morgan 9,458,991 55,862 23,561
William M. Warren 9,514,558 1,712 23,561
Anthony C. Morton 9,497,341 17,512 23,561
H.W. "Hub" Markwardt 9,497,341 17,512 23,561
Joseph R. Mannes 9,458,991 1,712 23,561
John Tittle, Jr. 9,469,336 45,517 23,561
The foregoing matters are described in detail in the Company's proxy statement
dated April 26, 1999, for the 1999 Annual Meeting of Stockholders.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
A list of exhibits required to be filed as part of this report is set forth in
the Exhibit Index, which immediately precedes such exhibits, and is incorporated
herein by reference.
(b) Reports on Form 8-K
None
14
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
THE LEATHER FACTORY, INC.
(Registrant)
Date: August 13, 1999 /s/Wray Thompson
---------------------------------
Wray Thompson
Chairman of the Board, President,
Chief Executive Officer, and
Chief Accounting Officer
15
THE LEATHER FACTORY, INC. AND SUBSIDIARIES
EXHIBIT INDEX
Exhibit
Number Description
------- ------------
3.1 Certificate of Incorporation of The Leather Factory, Inc., filed as
Exhibit 3.1 to the Registration Statement on Form SB-2 of The Leather
Factory, Inc. (Commission File No. 33-81132) filed with the Securities
and Exchange Commission on July 5, 1994, and incorporated by reference
herein.
3.2 Bylaws of The Leather Factory, Inc., filed as Exhibit 3.2 to the
Registration Statement on Form SB-2 of The Leather Factory, Inc.
(Commission File No. 33-81132) filed with the Securities and Exchange
Commission on July 5, 1994, and incorporated by reference herein.
4.1 Loan and Security Agreement dated November 21, 1997, by and between
The Leather Factory, Inc., a Delaware corportation, The Leather
Factory, Inc., a Texas corportation, The Leather Factory an Arizona
corporation, Hi-Line Leather & Manufacturing Company, a California
corporation, Roberts, Cushman & Company, Inc. a New York corporation,
and FINOVA Capital Corporation filed as Exhibit 4.1 to the Current
Report of Form 8-K of The Leather Factory, Inc. (Commission File No.
1-12368) filed with the Securities and Exchange Commission on February
6, 1998, and incorporated by reference herein.
4.2 Revolving Note (Revolving Credit Loan) dated November 21, 1997, in the
principal amount of $7,000,000 payable to the order of FINOVA
Capital Corporation, which matures December 1, 1999 filed as Exhibit
4.2 to the Current Report on Form 8-K of the Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission of February 6, 1998, and incorporated by reference herein.
4.3 Term Loan A Note (Term Loan A) dated November 21, 1997, in the
principal amount of $400,000, payable to the order of FINOVA Capital
Corporation, which matures December 1, 1999 filed as Exhibit 4.3 to
the Current Report on Form 8-K of the Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission of February 6, 1998, and incorporated by reference herein.
4.4 Term Loan C Note (Term Loan C) dated November 21, 1997, in the
principal amount of $1,500,000, to the order of FINOVA Capital
Corporation, which matures December 1, 1999 filed as Exhibit 4.5 to
the Current Report on Form 8-K of the Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission of February 6, 1998, and incorporated by reference herein.
4.5 Subordination Agreement dated November 21, 1997, by and between FINOVA
Capital Corporation, The Schlinger Foundation, The Leather Factory,
Inc., a Delaware corportation, The Leather Factory, Inc., a Texas
corporation, The Leather Factory, Inc., an Arizona corporation,
Hi-Line Leather & Manufacturing Company, a California corporation, and
Roberts, Cushman & Company, Inc. a New York corporation filed as
Exhibit 4.6 to the Current Report of Form 8-K of The Leather Factory,
Inc. (Commission File No. 1-12368) filed with the Securities and
Exchange Commission on February 6, 1998, and incorporated by reference
herein.
4.6 Pledge Agreement dated November 21, 1997, by and between Ronald C.
Morgan and Robin L. Morgan and FINOVA Capital Corporation filed as
Exhibit 4.7 to the Current Report of Form 8-K of The Leather Factory,
Inc. (Commission File No. 1-12368) filed with the Securities and
Exchange Commission on February 6, 1998, and incorporated by reference
herein.
4.7 Patent Security Agreement dated November 21, 1997, by and between The
Leather Factory, Inc., a Delaware corporation, The Leather Factory,
Inc., a Texas corportation, The Leather Factory, Inc. an Arizona
corporation, Hi-Line Leather & Manufacturing Company, a California
corporation, Roberts, Cushman & Company, Inc. a New York corporation,
and FINOVA Capital Corporation filed as Exhibit 4.8 to the Current
Report of Form 8-K of The Leather Factory, Inc. (Commission File No.
1-12368) filed with the Securities and Exchange Commission on February
6, 1998, and incorporated by reference herein.
16
Exhibit
Number Description
------- -----------
4.8 Trademark Security Agreement dated November 21, 1997, by and between
The Leather Factory, Inc., a Delaware corporation, The Leather
Factory, Inc., a Texas corportation, The Leather Factory, Inc. an
Arizona corporation, Hi-Line Leather & Manufacturing Company, a
California corporation, Roberts, Cushman & Company, Inc. a New York
corporation, and FINOVA Capital Corporation filed as Exhibit 4.9 to
the Current Report of Form 8-K of The Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission on February 6, 1998, and incorporated by reference herein.
4.9 Copyright Security Agreement dated November 21, 1997, by and between
The Leather Factory, Inc., a a Delaware corporation, The Leather
Factory, Inc., a Texas corportation, The Leather Factory, Inc. an
Arizona corporation, Hi-Line Leather & Manufacturing Company, a
California corporation, Roberts, Cushman & Company, Inc. a New York
corporation, and FINOVA Capital Corporation filed as Exhibit 4.10 to
the Current Report of Form 8-K of The Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission on February 6, 1998, and incorporated by reference herein.
4.10 Promissory Note (Subordinated Debenture) dated November 14, 1997, in
the principal amount of $1,000,000, payable to the order of The
Schlinger Foundation, which matures December 1, 1999 filed as Exhibit
4.11 to the Current Report on Form 8-K of The Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission on February 6, 1998, and incorporated by reference herein.
4.11 Pledge and Security Agreement dated November 14, 1997, by and between
The Schlinger Foundation and J. Wray Thompson, Sr. filed as Exhibit
4.12 to the Current Report of Form 8-K of The Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission on February 6, 1998, and incorporated by reference herein.
4.12 Amendment to Loan and Security Agreement dated May 13, 1998, by and
between The Leather Factory, Inc., a Delaware corporation, The Leather
Factory, Inc., a Texas corportation, The Leather Factory, Inc. an
Arizona corporation, Hi-Line Leather & Manufacturing Company, a
California corporation, Roberts, Cushman & Company, Inc. a New York
corporation, and FINOVA Capital Corporation effective as of March 31,
1998 filed as Exhibit 4.15 to the Quarterly Report on Form 10-Q of The
Leather Factory, Inc. (Commission File No. 1-12368) filed with the
Securities and Exchange Commission on May 15, 1998, and incorporated
by reference herein.
4.13 The Leather Factory, Inc. Stock Purchase Warrant for 200,000 shares
common stock, $.0024 par value issued to Evert I. Schlinger dated
August 3, 1998 and terminating on August 3, 2003, filed as Exhibit
4.13 to the Quarterly Report on Form 10-Q of The Leather Factory, Inc.
(Commission File No. 1-12368) filed with the Securities and Exchange
Commission on November 12, 1998, and incorporated by reference herein.
4.14 Second Amendment to Loan and Security Agreement dated May 13, 1999, by
and between The Leather Factory, Inc., a Delaware corporation, The
Leather Factory, Inc., a Texas corportation, The Leather Factory, Inc.
an Arizona corporation, Hi-Line Leather & Manufacturing Company, a
California corporation, Roberts, Cushman & Company, Inc. a New York
corporation, and FINOVA Capital Corporation effective as of March 31,
1999 filed as Exhibit 4.14 to the Quarterly Report on Form 10-Q of The
Leather Factory, Inc. (Commission File No. 1-12368) filed with the
Securities and Exchange Commission on May 17, 1999, and incorporated
by reference herein.
*4.15 Third Amendment to Loan and Security Agreement dated August 12, 1999,
by and between The Leather Factory, Inc., a Delaware corporation, The
Leather Factory, Inc., a Texas corportation, The Leather Factory, Inc.
an Arizona corporation, Hi-Line Leather & Manufacturing Company, a
California corporation, Roberts, Cushman & Company, Inc. a New York
corporation, and FINOVA Capital Corporation effective as of June 30,
1999.
17
21.1 Subsidiaries of the Company, filed as Exhibit No. 22.1 to the 1995
Annual Report on Form 10-KSB of The Leather Factory, Inc. (Commission
File No. 1-12368) filed with the Securities and Exchange Commission on
March 28, 1996, and incorporated herein by reference.
*27.1 Financial Data Schedule
- ----------------
*Filed herewith.
18