UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 29, 2003
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 0-20080
GALEY & LORD, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 56-1593207
(State or other jurisdiction of (IRS Employer
incorporation or organization) (Identification No.)
980 Avenue of the Americas
New York, New York 10018
(Address of principal executive offices) (Zip Code)
212/465-3000
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ].
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] .
Common Stock, $.01 Par Value - 11,996,965 shares outstanding as of May 9, 2003.
1
INDEX
GALEY & LORD, INC.
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets -- March 29, 2003, March 30, 2002
and September 28, 2002 3
Consolidated Statements of Operations -- Three months and six
months ended March 29, 2003 and March 30, 2002 4
Consolidated Statements of Cash Flows -- Six months ended
March 29, 2003 and March 30, 2002 5
Notes to Consolidated Financial Statements -- March 29, 2003 6-32
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 33-54
Item 3. Quantitative and Qualitative Disclosures About Market Risk 55-56
Item 4. Controls and Procedures 57
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 58
Item 2. Changes in Securities and Use of Proceeds 58
Item 3. Defaults Upon Senior Securities 58
Item 4. Submission of Matters to a Vote of Security Holders 58
Item 5. Other Information 58
Item 6. Exhibits and Reports on Form 8 - K 58
EXHIBIT INDEX 59
SIGNATURES 60
CERTIFICATIONS 61-62
2
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands)
March 29, March 30, September 28,
2003 2002 2002
(Unaudited) (Unaudited) *
----------- ----------- -------------
ASSETS
Current assets:
Cash and cash equivalents $ 28,301 $ 28,401 $ 39,375
Trade accounts receivable 120,831 141,105 138,554
Sundry notes and accounts receivable 6,501 4,990 5,313
Inventories 172,176 175,827 144,010
Income taxes receivable 2,938 3,589 2,784
Prepaid expenses and other current assets 5,776 8,170 5,788
--------- --------- ---------
Total current assets 336,523 362,082 335,824
Property, plant and equipment, at cost 443,683 421,093 426,623
Less accumulated depreciation and amortization (204,707) (178,819) (186,734)
--------- --------- ---------
238,976 242,274 239,889
Investments in and advances to associated companies 38,578 39,169 38,902
Deferred charges, net 2,680 6,901 4,362
Other non-current assets 1,282 1,636 1,284
Intangibles, net 26,127 113,015 113,796
--------- --------- ---------
$ 644,166 $ 765,077 $ 734,057
========= ========= =========
LIABILITIES AND STOCKHOLDERS' DEFICIT
Liabilities not subject to compromise:
Current liabilities:
Long-term debt - current $ 304,816 $ 334,648 $ 310,474
Trade accounts payable 33,003 33,273 32,825
Accrued salaries and employee benefits 39,180 21,330 36,043
Accrued liabilities 33,360 26,651 30,973
Income taxes payable 3,947 6,473 3,815
--------- --------- ---------
Total current liabilities 414,306 422,375 414,130
Long-term liabilities:
Long-term debt 20,961 35,278 24,235
Other long-term liabilities 11,345 12,845 12,187
--------- --------- ---------
Total long-term liabilities 32,306 48,123 36,422
Deferred income taxes 3,540 3,251 3,609
--------- --------- ---------
Total liabilities not subject to compromise 450,152 473,749 454,161
Liabilities subject to compromise 327,422 328,568 327,752
Stockholders' deficit:
Common stock 124 124 124
Contributed capital in excess of par value 41,960 41,419 41,954
Accumulated deficit (160,831) (58,712) (66,973)
Treasury stock, at cost (2,247) (2,247) (2,247)
Accumulated other comprehensive loss (12,414) (17,824) (20,714)
--------- --------- ---------
Total stockholders' deficit (133,408) (37,240) (47,856)
--------- --------- ---------
$ 644,166 $ 765,077 $ 734,057
========= ========= =========
*Condensed from audited financial statements.
See accompanying notes to consolidated financial statements.
3
GALEY & LORD, INC.
(DEBTORS-IN-POSSESION)
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(Amounts in thousands except per share data)
Three Months Ended Six Months Ended
--------------------- ---------------------
March 29, March 30, March 29, March 30,
2003 2002 2003 2002
--------- --------- --------- ---------
Net sales $146,533 $167,982 $289,898 $304,428
Cost of sales 138,103 156,936 267,202 281,816
-------- -------- -------- --------
Gross profit 8,430 11,046 22,696 22,612
Selling, general and administrative expenses 7,510 7,952 14,867 16,640
Amortization of intangibles -- 823 7 1,639
Plant closing costs -- 706 (385) (440)
Net gain on benefit plan curtailments -- -- -- (3,375)
-------- -------- -------- --------
Operating income 920 1,565 8,207 8,148
Interest expense (contractual interest of
$12,236 and $24,740 for the three and
six months ended March 29, 2003,
respectively and $12,718 and $25,918
for the three and six months ended
March 30, 2002, respectively) 5,392 9,372 11,052 22,572
Equity in income from associated companies (2,303) (1,914) (4,847) (4,240)
-------- -------- -------- --------
Income (loss) before reorganization items
and income taxes
(2,169) (5,893) 2,002 (10,184)
Reorganization items 3,699 9,881 7,065 9,881
Income tax expense (benefit):
Current 314 (36) 1,455 791
Deferred (36) 132 (68) 247
-------- -------- -------- --------
Loss before cumulative effect of accounting
change (6,146) (15,870) (6,450) (21,103)
Cumulative effect of accounting change (net
of applicable income taxes of $0) -- -- 87,408 --
-------- -------- -------- --------
Net loss $ (6,146) $(15,870) $(93,858) $(21,103)
======== ======== ======== ========
Net loss per common share:
Basic and Diluted:
Net loss before cumulative effect of
accounting change $ (0.51) $ (1.32) $ (0.54) $ (1.76)
Cumulative effect of accounting change -- -- 7.28 --
-------- -------- -------- --------
Net loss per common share - Basic and
Diluted $ (0.51) $ (1.32) $ (7.82) $ (1.76)
======== ======== ======== ========
See accompanying notes to consolidated financial statements.
4
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(Amounts in thousands)
Six Months Ended
---------------------
March 29, March 30,
2003 2002
--------- ---------
Cash flows from operating activities:
Net loss $(93,858) $(21,103)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Cumulative effect of accounting change (net of applicable income taxes) 87,408 --
Depreciation of property, plant and equipment 14,812 14,844
Amortization of intangible assets 7 1,642
Amortization of deferred charges 1,943 1,827
Deferred income taxes (68) 248
Non-cash compensation 6 541
Loss on disposals of property, plant and equipment 278 46
Undistributed income from associated companies (4,847) (4,240)
Impairment of fixed assets -- 898
Net gain on benefit plan curtailments -- (3,375)
Non-cash reorganization write-offs -- 7,690
Other (17) --
Changes in assets and liabilities:
(Increase)/decrease in accounts receivable - net 20,888 2,979
(Increase)/decrease in sundry notes & accounts receivable (1,193) 69
(Increase)/decrease in inventories (25,150) (10,133)
(Increase)/decrease in prepaid expenses and other current assets 349 (3,923)
(Increase)/decrease in other non-current assets 132 (140)
(Decrease)/increase in accounts payable - trade (1,933) (5,480)
(Decrease)/increase in accrued liabilities 2,898 10,290
(Decrease)/increase in income taxes payable (359) 276
(Decrease)/increase in other long-term liabilities (114) (215)
(Decrease)/increase in plant closing costs (591) (6,690)
-------- --------
Net cash provided by (used in) operating activities 591 (13,949)
Cash flows from investing activities:
Property, plant and equipment expenditures (7,076) (3,689)
Proceeds from sale of property, plant and equipment 57 5,805
Distributions received from associated companies 5,171 2,537
Other -- 2,213
-------- --------
Net cash provided by (used in) investing activities (1,848) 6,866
Cash flows from financing activities:
Advances/(payments) on revolving lines of credit, net (830) 14,313
Principal payments on long-term debt (11,455) (1,713)
Borrowings under existing debt agreements 2,359 17,303
Payment of bank fees and loan costs (250) (3,418)
-------- --------
Net cash provided by (used in) financing activities (10,176) 26,485
Effect of exchange rate changes on cash and cash equivalents 359 (158)
-------- --------
Net increase/(decrease) in cash and cash equivalents (11,074) 19,244
Cash and cash equivalents at beginning of period 39,375 9,157
-------- --------
Cash and cash equivalents at end of period $ 28,301 $ 28,401
======== ========
See accompanying notes to consolidated financial statements.
5
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE A - Bankruptcy Filing
On February 19, 2002 (the "Filing Date"), Galey & Lord, Inc. (the "Company") and
each of its domestic subsidiaries (together with the Company, the "Debtors")
filed voluntary petitions for reorganization (the "Chapter 11 Filings" or the
"Filings") under Chapter 11 of Title 11, United States Code (the "Bankruptcy
Code") in the United States Bankruptcy Court for the Southern District of New
York (Case Nos. 02-40445 through 02-40456 (ALG)). The Chapter 11 Filings pending
for the Debtors are being jointly administered for procedural purposes only. The
Debtors' direct and indirect foreign subsidiaries and foreign joint venture
entities did not file petitions under Chapter 11 and are not the subject of any
bankruptcy proceedings.
During the pendency of the Filings, the Debtors remain in possession of their
properties and assets and management continues to operate the businesses of the
Debtors as debtors-in-possession pursuant to Sections 1107(a) and 1108 of the
Bankruptcy Code. As debtors-in-possession, the Debtors are authorized to operate
their businesses, but may not engage in transactions outside of the ordinary
course of business without the approval of the Bankruptcy Court, after notice
and the opportunity for a hearing.
On the Filing Date, the Debtors filed a motion seeking authority for the Company
to enter into a credit facility of up to $100 million in debtor-in-possession
("DIP") financing with First Union National Bank (the "Agent") and Wachovia
Securities, Inc. On February 21, 2002, the Bankruptcy Court entered an interim
order approving the credit facility and authorizing immediate access of up to
$30 million. On March 19, 2002, the Bankruptcy Court entered a final order
approving the entire $100 million DIP financing. Effective September 24, 2002,
the Company exercised its right, as permitted under the DIP Financing Agreement,
to permanently reduce such maximum amount of revolving credit borrowings from
$100 million to $75 million.
Under the terms of the final DIP financing agreement (the "DIP Financing
Agreement"), the Company, as borrower, may make revolving credit borrowings
(including up to $15 million for post-petition letters of credit) in an amount
not exceeding the lesser of $100 million (effective September 24, 2002, it was
permanently reduced to $75 million) or the Borrowing Base (as defined in the DIP
Financing Agreement). The DIP Financing Agreement will terminate and the
borrowings thereunder will be due and payable upon the earliest of (i) August
19, 2003, (ii) the date of the substantial consummation of a plan of
reorganization that is confirmed pursuant to an order by the Bankruptcy Court or
(iii) the acceleration of the revolving credit loans made by any of the banks
who are a party to the DIP Financing Agreement and the termination of the total
commitment under the DIP Financing Agreement pursuant to the DIP Financing
Agreement. Amounts borrowed under the DIP Financing Agreement bear interest at
the rate per annum at the Company's option, of either (i) (a) the higher of the
prime rate or the federal funds rate plus .50% plus (b) a margin of 2.00% or
(ii) LIBOR plus a margin of 3.25%. There is an unused commitment fee of either
(A) at such time as First Union National Bank is no longer the sole bank, at the
rate of (i) .75% per annum on the average daily unused total commitment at all
times during which the average total commitment usage is less than 25% of the
total commitment and (ii) .50% per annum on the average daily unused total
commitment at all times during which the average total commitment usage is more
than or equal to 25% of the total commitment; or (B) at all times that First
Union National Bank is the sole bank, at a rate of .50% per annum on the average
daily unused total commitment. There are letter of credit fees payable to the
Agent equal to LIBOR plus 3.25% on the daily average letters of credit
outstanding and to a fronting bank, its customary fees plus .25% for each letter
of credit issued by such fronting bank.
Borrowings under the DIP Financing Agreement are guaranteed by each of the
Debtor subsidiaries. In general, such borrowings constitute allowed
super-priority
6
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE A - Bankruptcy Filing (Continued)
administrative expense claims and are secured by (i) a perfected first priority
lien pursuant to Section 364(c)(2) of the Bankruptcy Code, upon all property of
the Company and the Debtor subsidiaries that was not subject to a valid,
perfected and non-avoidable lien on the Filing Date, (ii) a perfected junior
lien, pursuant to Section 364(c)(3) of the Bankruptcy Code upon all property of
the Company and the Debtor subsidiaries already subject to valid, perfected,
non-avoidable liens, and (iii) a perfected first priority senior priming lien,
pursuant to Section 364(d)(1) of the Bankruptcy Code, upon all property of the
Company and the Debtor subsidiaries already subject to a lien that presently
secures the Company's and the Debtor subsidiaries' pre-petition indebtedness
under the existing pre-petition credit agreement, whether created prior to or
after the Filing Date (subject to certain specific existing or subsequently
perfected liens). This security interest is subject to certain explicit
exceptions.
The DIP Financing Agreement contains covenants restricting the Company and the
Debtor subsidiaries from consolidating or merging with and into another person,
disposing of assets, incurring additional indebtedness and guarantees, creating
liens and encumbrances on properties, modifying its or their business, making
capital expenditures in excess of $22.5 million through the maturity date or
$15.2 million during any 12 month period, declaring and paying dividends, making
investments, loans or advances, and creating super-priority claims. There are
certain limitations on affiliate transactions and on costs and expenses incurred
in connection with the closing of production facilities. The DIP Financing
Agreement also requires the Company and the Debtor subsidiaries to achieve
certain levels of EBITDA (as defined) as specified therein. At March 29, 2003,
the Company was in compliance with the covenants of the DIP Financing Agreement.
The DIP Financing Agreement also provides for the mandatory prepayment of all or
a portion of outstanding borrowings upon repatriation of funds from foreign
subsidiaries or the sale of assets, or in the event outstanding loans exceed the
Borrowing Base.
The Bankruptcy Court has approved payment of certain of the Debtors'
pre-petition obligations, including, among other things, employee wages,
salaries, and benefits, and certain critical vendor and other business-related
payments necessary to maintain the operation of their businesses. The Debtors
have retained, with Bankruptcy Court approval, legal and financial professionals
to advise the Debtors in the bankruptcy proceedings and the restructuring of
their businesses, and certain other "ordinary course" professionals. From time
to time the Debtors may seek Bankruptcy Court approval for the retention of
additional professionals.
By orders dated June 6, 2002, and July 24, 2002, the Bankruptcy Court authorized
the implementation of various employee programs for the Debtors. These programs
include:
Stay Bonus and Emergence Plans - These plans provide for payments totaling
$5.2 million for 62 employees including executive officers. Payments under
the Stay Bonus Plan are in four equal payments beginning in August 2002 and
ending the later of June 2003 or upon emergence. The Emergence Plan
provides for a single payment upon emergence.
Enhanced Severance Program - Pursuant to this program, certain employees,
including executive officers, are entitled to "enhanced" severance payments
under certain terms and conditions.
Discretionary Transition Payment Plan - This plan allows the Debtors to
offer incentives to certain employees during a transition period at the end
of which
7
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE A - Bankruptcy Filing (Continued)
such employees would be terminated, in the event such incentives become
necessary (the Debtors have no current plans to significantly reduce
headcount).
Discretionary Retention Pool - This plan provides the Chief Executive
Officer discretionary authority to offer incentives to employees (including
new employees) not otherwise participating in other portions of the
program.
Performance Incentive Plan - The Debtors filed a motion for approval of a
proposed performance incentive plan, pursuant to which certain employees,
including executive officers, would be entitled to an additional bonus in
the event certain personal and/or company performance goals were achieved.
The Debtors voluntarily withdrew that motion without prejudice to their
right to seek the relief requested therein at a later date.
The Debtors have also received authority to conduct certain other transactions
that might be considered "outside the ordinary course" of business. The Debtors
have sought and received authority to pay certain pre-petition personal and
property taxes, to sell certain identified assets, to enter into certain
financing agreements, and to retain a real estate professional to market and
sell certain unused properties.
The Debtors must, subject to Bankruptcy Court approval and certain other
limitations, assume, assume and assign, or reject each of their executory
contracts and unexpired leases. In this context, "assumption" means, among other
things, re-affirming their obligations under the relevant lease or contract and
curing all monetary defaults thereunder. In this context, "rejection" means
breaching the relevant contract or lease as of the Filing Date, being relieved
of on-going obligations to perform under the contract or lease, and being liable
for damages, if any, for the breach thereof. Such damages, if any, are deemed to
have accrued prior to the Filing Date by operation of the Bankruptcy Code. The
Bankruptcy Court has entered three orders collectively approving the rejection
of one executory contract and several unexpired leases. In addition, under the
Bankruptcy Code, the Debtors must assume, assume and assign, or reject all
unexpired leases of non-residential real property for which a Debtor is lessee
within 60 days from the Filing Date. By orders dated April 29, 2002, August 16,
2002, December 11, 2002, and April 17, 2003, the Bankruptcy Court extended this
deadline up through and including August 14, 2003. The Debtors are in the
process of reviewing their remaining executory contracts to determine which, if
any, they will reject. At this time the Debtors cannot reasonably estimate the
ultimate liability, if any, that may result from rejecting and/or assuming
executory contracts or unexpired leases, and no provisions have yet been made
for these items.
The Bankruptcy Court established October 1, 2002 as the "bar date" as of which
all claimants are required to submit and characterize claims against the
Debtors. The Debtors are currently in the process of reviewing the claims that
were filed against the Company. The ultimate amount of the claims allowed by the
Court against the Company could be significantly different than the amount of
the liabilities recorded by the Company.
8
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE A - Bankruptcy Filing (Continued)
The consummation of a plan or plans of reorganization (a "Plan") is the
principal objective of the Chapter 11 Filings. A Plan would, among other things,
set forth the means for satisfying claims against and interests in the Company
and its Debtor subsidiaries, including setting forth the potential distributions
on account of such claims and interests, if any. The Plan could also involve the
sale of the Debtors' assets and/or stock. It is also possible that a sale of the
Debtors' assets and/or stock could be accomplished outside a plan of
reorganization. Pursuant to the Bankruptcy Code, the Debtors had the exclusive
right for 120 days from the Filing Date (through and including June 18, 2002) to
file a Plan, and for 180 days from the Filing Date (through and including August
17, 2002) to solicit and receive the votes necessary to confirm a Plan. As of
the date hereof, the Bankruptcy Court had entered four orders collectively
extending the Debtors' exclusive right to file a Plan through and including May
30, 2003, and extending the Debtors' exclusive right to solicit acceptances of
such Plan through and including August 4, 2003. Both of these exclusivity
periods may be further extended by the Bankruptcy Court for cause. If the
Debtors fail to file a Plan during the exclusive filing period or if the Debtors
fail to obtain the requisite acceptance of such Plan during the exclusive
solicitation period, any party-in-interest, including a creditor, an equity
holder, a committee of creditors or equity holders, or an indenture trustee, may
file its own Plan for the Debtors. Confirmation of a Plan is subject to certain
statutory findings by the Bankruptcy Court. Subject to certain exceptions as set
forth in the Bankruptcy Code, confirmation of a Plan requires, among other
things, a vote on the Plan by certain classes of creditors and equity holders
whose rights or interests are impaired under the Plan. If any impaired class of
creditors or equity holders does not vote to accept the Plan, but all of the
other requirements of the Bankruptcy Code are met, the proponent of the Plan may
seek confirmation of the Plan pursuant to the "cram down" provisions of the
Bankruptcy Code. Under these provisions, the Bankruptcy Court may still confirm
a Plan notwithstanding the non-acceptance of the Plan by an impaired class, if,
among other things, no claim or interest receives or retains any property under
the Plan until each holder of a claim senior to such claim or interest has been
paid in full. As a result of the amount of pre-petition indebtedness and the
availability of the "cram down" provisions, the holders of the Company's capital
stock may receive no value for their interests under any Plan. Because of such
possibility, the value of the Company's outstanding capital stock and unsecured
instruments are highly speculative. In addition, there can be no assurance that
a Plan will be proposed by the Debtors or confirmed by the Bankruptcy Court, or
that any such Plan will be consummated.
On or about April 4, 2003, the Official Committee of General Unsecured Creditors
(the "Committee") filed a motion seeking the appointment of an examiner in the
Debtors' cases pursuant to Sections 1104(c)(1), 1104(c)(2) and 105(a) of the
Bankruptcy Code and Bankruptcy Rules 2007.1 and 9014, and seeking an injunction
prohibiting the Debtors from filing a Plan for at least 90 days from the
appointment of such examiner. Both the Debtors and the agent for the Debtors'
pre-petition secured lenders filed objections to this motion, objecting to the
relief requested therein and the purported factual predicate therefore.
Consideration of this motion, originally scheduled for April 29, 2003, has been
adjourned until May 15, 2003. There is no assurance that the motion will not be
granted, that an examiner will not be appointed, or that an injunction will not
be placed on the Debtors prohibiting them from filing a Plan for 90 days or
longer.
9
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE A - Bankruptcy Filing (Continued)
It is not possible to predict the length of time the Company will operate under
the protection of Chapter 11 and the supervision of the Bankruptcy Court, the
outcome of the bankruptcy proceedings in general, or the effect of the
proceedings on the business of the Company or on the interest of the various
creditors and stakeholders. Since the Filing Date, the Debtors have conducted
business in the ordinary course. Management is in the process of evaluating
their operations as part of the development of a Plan. During the pendency of
the Chapter 11 Filings, the Debtors may, with Bankruptcy Court approval, sell
assets and settle liabilities, including for amounts other than those reflected
in the financial statements. The administrative and reorganization expenses
resulting from the Chapter 11 Filings will unfavorably affect the Debtors'
results of operations. In addition, under the priority scheme established by the
Bankruptcy Code, most, if not all, post-petition liabilities must be satisfied
before most other creditors or interest holders, including stockholders, can
receive any distribution on account of such claim or interest.
The accompanying consolidated financial statements are presented in accordance
with American Institute of Certified Public Accountants Statement of Position
90-7, "Financial Reporting by Entities in Reorganization under the Bankruptcy
Code" ("SOP 90-7"), assuming that the Company will continue as a going concern.
The Company is currently operating under the jurisdiction of Chapter 11 of the
Bankruptcy Code and the Bankruptcy Court, and continuation of the Company as a
going concern is contingent upon, among other things, its ability to formulate a
Plan which will gain approval of the requisite parties under the Bankruptcy Code
and confirmation by the Bankruptcy Court, its ability to comply with the DIP
Financing Agreement, and its ability to return to profitability, generate
sufficient cash flows from operations, and obtain financing sources to meet
future obligations. These matters raise substantial doubt about the Company's
ability to continue as a going concern. The accompanying consolidated financial
statements do not include any adjustments relating to the recoverability and
classification of recorded asset amounts or the amounts and classification of
liabilities that might result from the outcome of these uncertainties.
In the Chapter 11 Filings, substantially all unsecured liabilities as of the
Filing Date are subject to compromise or other treatment under a Plan which must
be confirmed by the Bankruptcy Court after submission to any required vote by
affected parties. Generally, all actions to enforce or otherwise effect
repayment of pre-petition liabilities, as well as all pending litigation against
the Debtors, are stayed while the Debtors continue their business operations as
debtors-in-possession. The ultimate amount of and settlement terms for
liabilities subject to compromise are subject to an approved Plan and
accordingly are not presently determinable. The principal categories of
obligations classified as liabilities subject to compromise under the Chapter 11
Filings as of March 29, 2003 are identified below (in thousands):
9 1/8% Senior Subordinated Notes $300,000
Interest accrued on above debt 12,775
Accounts payable 11,407
Liability for rejected leases 2,165
Other accrued expenses 1,075
--------
$327,422
========
Pursuant to SOP 90-7, professional fees associated with the Chapter 11 Filings
are expensed as incurred and reported as reorganization items. Interest expense
is reported only to the extent that it will be paid during the Chapter 11
Filings or that it is probable that it will be an allowed claim. The Company
recognized a charge of $3.7 million and $7.1 million associated with the Chapter
11 Filings for the three and six
10
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE A - Bankruptcy Filing (Continued)
months ended March 29, 2003, respectively. Of these charges, $2.1 million and
$3.9 million for the three and six months ended March 29, 2003, respectively,
were for fees payable to professionals retained to assist with the Chapter 11
Filings and $1.6 million and $3.2 million for the three months and six months
ended March 29, 2003, respectively, were related to incentive and retention
programs. The Company recognized a charge of $9.9 million associated with the
Chapter 11 Filings for the three months ended March 30, 2002. Approximately $7.7
million of this charge related to the non-cash write-off of the unamortized
discount on the 9 1/8% Senior Subordinated Notes and the non-cash write-off of
related deferred financing fees. In addition, the Company incurred $2.2 million
for fees payable to professionals retained to assist with the Chapter 11
Filings.
NOTE B - Adoption of New Accounting Standard
Effective as of the beginning of the Company's fiscal 2003, the Company adopted
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets" ("FAS 142"). This new standard eliminates the amortization of
goodwill and intangible assets with indefinite useful lives (collectively, the
"Intangible Assets"). Instead these assets must be tested at least annually for
impairment. In the year of adoption, FAS 142 also requires the Company to
perform an initial assessment of its reporting units to determine whether there
is any indication that the Intangible Assets' carrying value may be impaired.
This transitional assessment is made by comparing the fair value of each
reporting unit, as determined in accordance with the new standard, to its
carrying value. To the extent the fair value of any reporting unit is less than
its carrying value, which would indicate that potential impairment of Intangible
Assets exists, a second transitional test is required to determine the amount of
impairment.
For purposes of Intangible Assets impairment testing, FAS 142 requires that
goodwill be assigned to one or more reporting units. The Company has assigned
goodwill to the Swift Denim and Galey & Lord Apparel reporting units. In
addition to goodwill, Swift Denim also owns several trademarks whose useful
lives are considered to be indefinite.
The Company, with the assistance of an outside consultant, completed the initial
transitional assessment of its reporting units in the first quarter of fiscal
2003 and determined that potential impairment of Intangible Assets existed in
both reporting units. During the second quarter of fiscal 2003, the Company
completed its assessment and, accordingly, the entire goodwill balance of $65.2
million ($0.8 million and $64.4 million at the Galey & Lord Apparel and Swift
Denim reporting units, respectively) was impaired and $22.2 million of the
recorded trademark (Swift Denim reporting unit) was impaired.
11
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE B - Adoption of New Accounting Standard (Continued)
In accordance with FAS 142, these adjustments were recorded as a cumulative
effect of an accounting change retroactive to the beginning of fiscal 2003 and
prior period amounts were not restated. The effect of the change on the first
quarter of fiscal 2003 is as follows:
Three Months
Ended
December 28,
2002
------------
Net loss as reported $ (304)
Cumulative effect of accounting change
(net of applicable income taxes of $0) (87,408)
--------
Net loss as restated $(87,712)
========
Net loss per share as reported $ (0.03)
Cumulative effect of accounting change
per share (7.28)
--------
Adjusted net loss per share $ (7.31)
========
The following table adjusts the reported net loss for the three and six months
ended March 30, 2002 and the loss per share amounts to exclude the amortization
of Intangible Assets (in thousands, except per share data):
Three Months Six Months
Ended March 30, Ended March 30,
2002 2002
---------------- ---------------
Reported net loss $(15,870) $(21,103)
Amortization of Intangible Assets 979 1,958
-------- --------
Adjusted net loss $(14,891) $(19,145)
======== ========
Reported loss per share $ (1.32) $ (1.76)
Amortization of Intangible Assets 0.08 0.16
-------- --------
Adjusted net loss per share $ (1.24) $ (1.60)
======== ========
12
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE C - Basis of Presentation
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries. Investments in affiliates in which the Company
owns 20 to 50 percent of the voting stock are accounted for using the equity
method. Intercompany items have been eliminated in consolidation.
The Company follows the accounting provisions of Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation," which
requires that the Company recognize expense for the fair value of stock-based
compensation awarded during the year.
Certain prior period amounts have been reclassified to conform to current year
presentation.
The accompanying unaudited consolidated financial statements reflect all
adjustments which are, in the opinion of management, necessary to present fairly
the consolidated financial position of the Company as of March 29, 2003 and the
consolidated results of operations and cash flows for the periods ended March
29, 2003 and March 30, 2002. Such adjustments consisted only of normal recurring
items with the exception of the cumulative effect of an accounting change as
outline in Note B - Adoption of New Accounting Standard. Interim results are not
necessarily indicative of results for a full year. These financial statements
should be read in conjunction with the financial statements and footnotes
included in the Company's Annual Report on Form 10-K for the fiscal year ended
September 28, 2002.
NOTE D - Inventories
The components of inventory at March 29, 2003, March 30, 2002, and September 28,
2002 consisted of the following (in thousands):
March 29, March 30, September 28,
2003 2002 2002
--------- --------- -------------
Raw materials $ 6,012 $ 4,050 $ 4,935
Stock in process 16,202 16,734 16,924
Produced goods 146,260 147,183 112,498
Dyes, chemicals and supplies 11,186 12,126 11,346
-------- -------- --------
179,660 180,093 145,703
Adjust to LIFO cost (2,940) 8,461 11,131
Lower-of-cost-or-market reserves (4,544) (12,727) (12,824)
-------- -------- --------
$172,176 $175,827 $144,010
======== ======== ========
On September 30, 2001, the Company changed its method of accounting for
inventories to last-in, first-out (LIFO) for its Swift Denim business which was
acquired on January 28, 1998. The Company believes that utilizing LIFO for the
Swift Denim business will result in a better matching of costs with revenues and
provide consistency in accounting for inventory among the Company's North
American operations. The Company also believes the utilization of LIFO is
consistent with industry practice. Approximately $1.0 million and $2.3 million
of lower-of-cost-or-market (LCM) reserves were reversed in the three and six
months ended March 30, 2002 due to the change from FIFO to LIFO. In implementing
the change in inventory method for Swift Denim, the opening fiscal 2002
inventory value under LIFO is the same as the year ending FIFO inventory value
at September 29, 2001. The cumulative effect of implementing LIFO on prior
periods and the pro forma effects of retroactive application is not
determinable.
13
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE E - Long-Term Debt
Long-term debt consists of the following (in thousands):
March 29, March 30, September 28,
2003 2002 2002
--------- --------- -------------
Long-term debt not subject to compromise:
Long-term debt - current
Debtor-in-Possession Financing ...................... $ -- $ 9,800 $ --
Senior Credit Facility:
Revolving Credit Note ............................ 116,627 124,500 118,838
Term Loan B ...................................... 105,860 112,955 107,900
Term Loan C ...................................... 75,096 80,128 76,542
Other borrowings with various rates and maturities... 7,233 7,265 7,194
-------- -------- --------
304,816 334,648 310,474
-------- -------- --------
Long-term debt
Canadian Loan:
Revolving Credit Note ............................ 2,447 8,798 1,677
Term Loan ........................................ 3,387 5,185 4,287
Italian Credit Agreements ........................... 14,822 20,515 17,723
Other borrowings with various rates and maturities... 305 780 548
-------- -------- --------
20,961 35,278 24,235
-------- -------- --------
Total long-term debt not subject to compromise ............ 325,777 369,926 334,709
-------- -------- --------
Long-term debt subject to compromise:
9 1/8% Senior Subordinated Notes ....................... 300,000 300,000 300,000
-------- -------- --------
$625,777 $669,926 $634,709
======== ======== ========
Debtor-in-Possession Agreement
As discussed in Note A above, the Company and the Debtor subsidiaries entered
into the DIP Financing Agreement pursuant to which the Company, as borrower, may
make revolving credit borrowings (including up to $15 million for post-petition
letters of credit) in an amount not exceeding the lesser of $100 million or the
Borrowing Base (as defined in the DIP Financing Agreement). Effective September
24, 2002, the Company exercised its right, as permitted under the DIP Financing
Agreement, to permanently reduce such maximum amount of revolving credit
borrowings from $100 million to $75 million. See Note A above for a description
of the DIP Financing Agreement.
14
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE E - Long-Term Debt (Continued)
Pre-Petition Senior Credit Facility
On July 13, 1999, the Company amended its credit agreement, dated as of January
29, 1998 (the "Senior Credit Facility"), as amended, with First Union National
Bank, as agent and lender and its syndicate of lenders. The amendment became
effective as of July 3, 1999 (the "July 1999 Amendment"). In August 2001, the
Company amended the Senior Credit Facility (the "August 2001 Amendment") which,
among other things, replaced the Adjusted Leverage Ratio covenant (as defined in
the August 2001 Amendment) with a minimum EBITDA covenant (as defined in the
August 2001 Amendment) until the Company's December quarter 2002, waived
compliance by the Company with the Adjusted Fixed Charge Coverage Ratio (as
defined in the August 2001 Amendment) until the Company's December quarter 2002
and modified the Company's covenant related to capital expenditures. The August
2001 Amendment also excludes, for covenant purposes, charges related to closure
of facilities announced on July 26, 2001. The August 2001 Amendment also
increased the interest rate spread on all borrowings under the Company's
revolving line of credit and term loans by 100 basis points for the remainder of
the term of its Senior Credit Facility. On January 24, 2002, the Company amended
its Senior Credit Facility to provide for an overadvance of $10 million, none of
which was drawn prior to the overadvance expiration on February 23, 2002.
Under the Senior Credit Facility, the Company is required to make mandatory
prepayments of principal annually in an amount equal to 50% of Excess Cash Flow
(as defined in the Senior Credit Facility), and also in the event of certain
dispositions of assets or debt or equity issuances (all subject to certain
exceptions) in an amount equal to 100% of the net proceeds received by the
Company therefrom.
As a result of the February 2001 funding of the Company's Canadian Loan
Agreement (as defined below), the Company repaid $12.7 million in principal on
its U.S. term loan balance and reduced the maximum amount of borrowings under
its U.S. revolving line of credit by $12.3 million to $187.7 million. The
repayment of the Term Loan B and Term Loan C principal balances ratably reduced
the remaining quarterly principal payments. The reduction in the U.S. revolving
line of credit facility resulted in a write-off of $0.1 million of deferred debt
charges which is included in selling, general and administrative expenses in the
March quarter 2001.
During the March quarter 2002, Klopman International used existing cash balances
and borrowings under its credit agreements to complete a capital reduction of
$20.2 million with its European parent holding company (which is a wholly-owned
subsidiary of the Company). In April 2002, $19.5 million was transferred from
the Company's European holding company to the Company in the United States. The
Company then utilized the cash to repay its $7.4 million outstanding balance
under its DIP Financing Agreement as well as repay $5.0 million, $4.2 million,
and $2.9 million of the Company's pre-petition revolving line of credit, Term
Loan B, and Term Loan C borrowings, respectively, under the pre-petition Senior
Credit Facility.
As a result of the Chapter 11 Filings, the Company and each of the Debtor
subsidiaries are currently in default of the Senior Credit Facility. See Note A
- - Bankruptcy Filing.
Pre-Petition Senior Subordinated Debt
In February 1998, the Company closed its private offering of $300.0 million
aggregate principal amount of 9 1/8% Senior Subordinated Notes Due 2008 (the
"Notes"). In May 1998, the Notes were exchanged for freely transferable
identical Notes registered under
15
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE E - Long-Term Debt (Continued)
the Securities Act of 1933. Net proceeds from the offerings of $289.3 million
(net of initial purchaser's discount and offering expenses) were used to repay
(i) $275.0 million principal amount of bridge financing borrowings incurred to
partially finance the acquisition of the apparel fabrics business of Dominion
Textile, Inc. on January 29, 1998 and (ii) a portion of the outstanding amount
under a revolving line of credit provided for under the Senior Credit Facility.
Interest on the Notes is payable on March 1 and September 1 of each year.
On August 18, 2000, the Company and its noteholders amended the indenture, dated
February 24, 1998 ("the Indenture"), entered into in connection with the Notes
to amend the definition of "Permitted Investment" in the Indenture to allow the
Company and its Restricted Subsidiaries (as defined in the Indenture) to make
additional investments (as defined in the Indenture) totaling $15 million at any
time outstanding in one or more joint ventures which conduct manufacturing
operations primarily in Mexico. This amendment was completed to allow the
Company sufficient flexibility in structuring its investment in the Swift
Denim-Hidalgo joint venture.
The Notes are general unsecured obligations of the Company, subordinated in
right of payment to all existing and future senior indebtedness of the Company
and its subsidiaries and senior in right of payment to any subordinated
indebtedness of the Company. The Notes are unconditionally guaranteed, on an
unsecured senior subordinated basis, by Galey & Lord Industries, Inc., Swift
Denim Services, Inc., G&L Service Company North America, Inc., Swift Textiles,
Inc., Galey & Lord Properties, Inc., Swift Denim Properties, Inc. and other
future direct and indirect domestic subsidiaries of the Company.
The Notes are subject to certain covenants, including, without limitation, those
limiting the Company and its subsidiaries' ability to incur indebtedness, pay
dividends, incur liens, transfer or sell assets, enter into transactions with
affiliates, issue or sell stock of restricted subsidiaries or merge or
consolidate the Company or its restricted subsidiaries.
As a result of the Chapter 11 Filings, the Company and the Debtor subsidiaries
are currently in default under the Notes and the Indenture. As of the Filing
Date, the Company discontinued its interest accrual on the Notes and wrote off
$7.7 million of deferred debt fees and the remaining discount on the Notes. See
Note A - Bankruptcy Filing.
Italian Loan Agreements
The Company's wholly-owned Italian subsidiary, Klopman International S.r.l., had
net borrowings of approximately $13.5 million outstanding under various
unsecured bank line-of-credit agreements as of March 29, 2003. The average
interest rate on these borrowings was 3.80% per annum for the three and six
months ended March 28, 2003 and the various line-of-credit agreements renew
automatically. The amount of outstanding credit allowed is subject to periodic
review by the issuing banks. As of March 29, 2003, total unused credit under
these agreements was approximately $38.5 million.
In addition, Klopman has an Italian government term loan of approximately $1.5
million. The term loan requires principal and interest payments through March
2011. The interest rate on such term loan is 4.11% per annum.
16
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE E - Long-Term Debt (Continued)
Canadian Loan Agreement
In February 2001, the Company's wholly-owned Canadian subsidiary, Drummondville
Services Inc. ("Drummondville"), entered into a Loan Agreement (the "Canadian
Loan Agreement") with Congress Financial Corporation (Canada), as lender. The
Canadian Loan Agreement provides for (i) a revolving line of credit under which
Drummondville may borrow up to an amount equal to the lesser of U.S. $16.0
million or a borrowing base (comprised of eligible accounts receivable and
eligible inventory of Drummondville, as defined in the Canadian Loan Agreement),
and (ii) a term loan in the principal amount of U.S. $9.0 million, which was
originally borrowed and denominated in Canadian dollars.
Under the Canadian Loan Agreement, the revolving line of credit expires in
February 2004 and the principal amount of the term loan is repayable in equal
monthly installments of $229,500 CDN with the unpaid balance repayable in
February 2004; provided, however, that the revolving line of credit and the
maturity of the term loan may be extended at the option of Drummondville for up
to two additional one year periods subject to and in accordance with the terms
of the Canadian Loan Agreement. Effective July 24, 2002, the term loan was
converted to U.S. dollars repayable in equal monthly installments of U.S.
$150,000 with the unpaid balance repayable in February 2004. Under the Canadian
Loan Agreement, the interest rate on Drummondville's borrowings initially is
fixed through the second quarter of fiscal year 2001 (March quarter 2001) at a
per annum rate, at Drummondville's option, of either LIBOR plus 2.75% or the
U.S. prime rate plus .75% (for borrowings in U.S. dollars) or the Canadian prime
rate plus 1.50% (for borrowings in Canadian dollars). Thereafter, borrowings
will bear interest at a per annum rate, at Drummondville's option, of either (i)
the U.S. prime rate plus 0%, .25%, .50%, .75%, or 1.00% (for borrowings in U.S.
dollars), (ii) the Canadian prime rate plus .75%, 1.00%, 1.25%, 1.50%, or 1.75%
(for borrowings in Canadian dollars), or (iii) LIBOR plus 2.00%, 2.25%, 2.50%,
2.75% or 3.00% (for borrowings in U.S. dollars ), all based on Drummondville
maintaining certain quarterly excess borrowing availability levels under the
revolving line of credit or Drummondville achieving certain fixed charge
coverage ratio levels (as set forth in the Canadian Loan Agreement).
Drummondville's obligations under the Canadian Loan Agreement are secured by all
of the assets of Drummondville. The Canadian Loan Agreement contains certain
covenants, including, without limitation, those limiting Drummondville's ability
to incur indebtedness (other than incurring or paying certain intercompany
indebtedness), incur liens, sell or acquire assets or businesses, pay dividends,
make loans or advances or make certain investments. In addition, the Canadian
Loan Agreement requires Drummondville to maintain a certain level of tangible
net worth (as defined in the Canadian Loan Agreement). At March 29, 2003, the
Company was in compliance with the covenants of the Canadian Loan Agreement.
17
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE F - Net Income (Loss) Per Common Share
The following table sets forth the computation of basic and diluted earnings per
share (in thousands):
Three Months Ended Six Months Ended
--------------------- ---------------------
March 29, March 30, March 29, March 30,
2003 2002 2003 2002
--------- --------- --------- ---------
Numerator:
Loss before cumulative effect of accounting
change $(6,146) $(15,870) $ (6,450) $(21,103)
Cumulative effect of accounting change (net of
applicable income taxes of $0) -- -- 87,408 --
------- -------- -------- --------
Net loss $(6,146) $(15,870) $(93,858) $(21,103)
======= ======== ======== ========
Denominator:
Denominator for basic earnings per share 11,997 11,997 11,997 11,997
Effect of dilutive securities:
stock options -- -- -- --
------- -------- -------- --------
Diluted potential common shares denominator for
diluted earnings per share - adjusted
weighted average shares and assumed exercises 11,997 11,997 11,997 11,997
======= ======== ======== ========
Options to purchase 134,950 shares and 161,149 shares of the Company's common
stock were outstanding during the three months and six months ended March 29,
2003 and March 30, 2002, respectively, but were not included in the computation
of diluted earnings per share because the options' exercise price was greater
than the average market price of the common shares. Options to purchase 777,699
and 798,150 shares of the Company's common stock were outstanding during the
three months and six months ended March 29, 2003 and March 30, 2002,
respectively, but were not included in the computation of diluted earnings per
share pursuant to the contingent share provisions of Financial Accounting
Standards Board Statement No. 128, "Earnings Per Share". Vesting of these
options is contingent upon the market price of common shares reaching certain
target prices, which were greater than the average market price of the common
shares.
18
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE G - Benefit Plans
The Company and its U.S. subsidiaries sponsor noncontributory defined benefit
pension plans covering substantially all domestic employees. The plans provide
retirement benefits for all qualified salaried employees and qualified non-union
wage employees based generally on years of service and average compensation.
Retirement benefits for qualified union wage employees are based generally on a
flat dollar amount for each year of service. The Company's funding policy is to
contribute annually the amount recommended by the plan's actuary. Plan assets,
which consist of common stocks, bonds and cash equivalents, are maintained in
trust accounts.
On September 20, 2001, the Company froze the accrual of future retirement
benefits under its U.S. defined benefit plans effective December 31, 2001. The
resulting curtailment gain was offset by unamortized actuarial losses.
Statement of Financial Accounting Standards No. 87, "Employers' Accounting for
Pensions" ("FAS 87"), requires companies with any plans that have an unfunded
accumulated benefit obligation to recognize an additional minimum pension
liability and an intangible pension asset equal to the unrecognized prior
service cost and, if the additional liability required to be recognized exceeds
the unrecognized service cost, the excess shall be reported in accumulated other
comprehensive loss as a separate component of equity. In accordance with FAS 87,
the consolidated balance sheet at March 29, 2003 includes an intangible pension
asset of $2.4 million, an additional minimum pension liability of $11.7 million
and accumulated other comprehensive loss of $9.3 million.
The Company provides health care and life insurance benefits to certain retired
employees and their dependents. The plans are unfunded and approved claims are
paid by the Company. The Company's cost is partially offset by retiree premium
contributions. Effective December 31, 2001, the Company curtailed benefits to
employees who were not retired as of December 31, 2001 and, accordingly, a net
curtailment gain of $3.4 million was recognized in the first quarter of fiscal
2002.
19
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE H - Stockholders' Equity (Deficit)
Comprehensive income (loss) represents the change in stockholders' deficit
during the period from non-owner sources. Currently, changes from non-owner
sources consist of net loss, foreign currency translation adjustments,
derivative instrument reclassifications and minimum pension liability. Total
comprehensive loss for the three and six months ended March 29, 2003 was $1.7
million and $85.6 million, respectively, and for the three and six months ended
March 30, 2002 was $16.8 million and $24.8 million, respectively.
Activity in Stockholders' Equity (Deficit) is as follows (in thousands):
Accumulated
Current Year Other
Comprehensive Common Contributed Accumulated Treasury Comprehensive
Income (Loss) Stock Capital Deficit Stock Income (Loss) Total
------------- ------ ----------- ----------- -------- ------------- ---------
Balance at September 28, 2002 $124 $41,954 $ (66,973) $(2,247) $(20,714) $ (47,856)
Compensation earned related
to stock options -- 6 -- -- -- 6
Comprehensive
income (loss):
Net loss for six months ended
March 29, 2003 $(93,858) -- -- (93,858) -- -- (93,858)
Foreign currency Translation
adjustment 8,534 -- -- -- -- 8,534 8,534
Derivative instrument
reclassifications (234) -- -- -- -- (234) (234)
-------- ---- ------- --------- ------- -------- ---------
Total comprehensive
income (loss) $(85,558)
========
Balance at
March 29, 2003 $124 $41,960 $(160,831) $(2,247) $(12,414) $(133,408)
==== ======= ========= ======= ======== =========
Accumulated Other Comprehensive Income (Loss) at March 29, 2003 represents a
$3.1 million loss related to foreign currency translation adjustment and a $9.3
million loss related to a minimum pension liability.
20
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE I - Income Taxes
The components of income tax expense (benefit) are as follows (in thousands):
Three Months Ended Six Months Ended
--------------------- ---------------------
March 29, March 30, March 29, March 30,
2003 2002 2003 2002
--------- --------- --------- ---------
Current tax provision:
Federal $ -- $(1,200) $ -- $(1,200)
State -- -- -- 13
Foreign 314 1,164 1,455 1,978
---- ------- ------ -------
Total current tax provision 314 (36) 1,455 791
Deferred tax provision:
Federal -- -- -- --
State -- -- -- --
Foreign (36) 132 (68) 247
---- ------- ------ -------
Total deferred tax provision (36) 132 (68) 247
---- ------- ------ -------
Total provision for income taxes $278 $ 96 $1,387 $ 1,038
==== ======= ====== =======
The Company's overall tax rate differed from the statutory rate principally due
to the nonrecognition of the U.S. tax benefits on the domestic net operating
loss carryforwards, tax rate differences on foreign transactions, differing
treatment of certain items for tax purposes and changes in the valuation
allowance. The result is an overall tax expense rate which is higher than the
statutory rate.
At March 29, 2003, the Company had outstanding net operating loss carryforwards
("NOLs") for U.S. federal tax purposes and for state tax purposes of
approximately $164 million and approximately $189 million, respectively. The
federal NOLs will expire in years 2018-2022, and the state NOLs will expire in
years 2003-2022. In accordance with the Statement of Financial Accounting
Standards No. 109, "Accounting for Income Taxes," a valuation allowance of $60.1
million related to domestic and international net operating losses has been
established since it is more likely than not that some portion of the deferred
tax assets will not be realized.
A deferred tax asset of $3.5 million has been set up to reflect certain
mark-to-market adjustments recorded net of tax in accumulated other
comprehensive income (loss). An offsetting valuation allowance has been recorded
in accumulated other comprehensive income (loss) until such time as the
transactions are recognized for tax purposes.
21
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE J - Fiscal 2001 Cost Reduction and Loss Avoidance Initiatives
In the fourth quarter of fiscal 2001, the Company announced additional actions
(the "Fiscal 2001 Cost Reduction and Loss Avoidance Initiatives") taken as a
result of the very difficult business environment which the Company continued to
operate in throughout fiscal 2001. The Company's goal in taking these actions
was future loss avoidance, cost reduction, production capacity rationalization
and increased cash flow. The principal manufacturing initiatives included
discontinuation of G&L Service Company, the Company's garment making operations
in Mexico, and the consolidation of its greige fabrics operations. The
discontinuation of G&L Service Company included the closure of the Dimmit
facilities in Piedras Negras, Mexico, the Alta Loma facilities in Monclova,
Mexico and the Eagle Pass Warehouse in Eagle Pass, Texas. The consolidation of
the Company's greige fabrics operations included the closure of its Asheboro,
North Carolina weaving facility and Caroleen, North Carolina spinning facility.
In addition to the principal manufacturing initiatives above, the Company also
provided for the reduction of approximately 5% of its salaried overhead
employees.
In the fourth quarter of fiscal 2001, the Company recorded $63.4 million before
taxes of plant closing and impairment charges and $4.9 million before taxes of
losses related to completing garment customer orders all related to the Fiscal
2001 Cost Reduction and Loss Avoidance Initiatives. The components of the plant
closing and impairment charges included $30.4 million for goodwill impairments,
$20.3 million for fixed asset impairments, $7.5 million for severance expense
and $5.2 million for the write-off of leases and other exit costs.
Approximately 3,300 Mexican employees and 500 U.S. employees were terminated as
a result of the Fiscal 2001 Cost Reduction and Loss Avoidance Initiatives. All
production at the affected facilities ceased in early September 2001 by which
time substantially all the affected employees were terminated.
During fiscal 2002, the Company recorded a change in estimate that decreased the
plant closing costs by $1.4 million, primarily related to leases, as well as,
additional fixed asset impairment charges of $0.9 million. In the first quarter
of fiscal 2003, the Company recorded an additional change in estimate that
decreased the plant closing costs by $0.2 million, also primarily related to
leases.
The Company sold its Asheboro, North Carolina facility and related equipment as
well as all the G&L Service Company equipment in fiscal 2002. The Company
expects that the sale of the remainder of the real estate and equipment in
connection with the Fiscal 2001 Cost Reduction and Loss Avoidance Initiatives
could take an additional 12 months or longer to complete.
The table below summarizes the activity related to the Fiscal 2001 Cost
Reduction and Loss Avoidance Initiatives plant closing accruals for the six
months ended March 29, 2003 (in thousands):
Accrual
Accrual Balance Balance at
at September 28, Cash Change in March 29,
2002 Payments Estimate 2003
---------------- -------- --------- ----------
Severance benefits $ 442 $(4) $ -- $ 438
Lease cancellation and other 1,171 (4) (240) 927
------ --- ----- ------
$1,613 $(8) $(240) $1,365
====== === ===== ======
22
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE J - Fiscal 2001 Cost Reduction and Loss Avoidance Initiatives (Continued)
Of the lease cancellation and other accrual balance related to the Fiscal 2001
Cost Reduction and Loss Avoidance Initiatives outstanding at March 29, 2003,
$0.9 million is included in liabilities subject to compromise. See Note A -
Bankruptcy Filing.
The Company incurred run-out expenses totaling $0.1 million and $0.3 million for
the three and six months ended March 29, 2003, respectively. These expenses,
which include equipment relocation, plant carrying costs and other costs, are
included primarily in cost of sales in the consolidated statement of operations.
NOTE K - Fiscal 2000 Strategic Initiatives
During the fourth quarter of fiscal 2000, the Company announced a series of
strategic initiatives (the "Fiscal 2000 Strategic Initiatives") aimed at
increasing the Company's competitiveness and profitability by reducing costs.
The initiatives included completing a joint venture in Mexico, closing two of
the Company's plants, consolidating some operations, outsourcing certain yarn
production and eliminating excess employees in certain operations. The cost of
these initiatives was reflected in a plant closing and impairment charge
totaling $63.6 million before taxes in the fourth quarter of fiscal 2000. The
original components of the plant closing and impairment charge included $49.3
million for fixed asset write-offs, $10.8 million for severance expense and $3.5
million for the write-off of leases and other exit costs.
All production at the affected facilities ceased during the December quarter of
fiscal 2000 and substantially all of the 1,370 employees have been terminated.
Severance payments were made in either a lump sum or over a maximum period of up
to eighteen months.
During fiscal 2001, the Company recorded a change in estimate for severance
benefits that reduced the plant closing charge by $0.6 million. During the first
quarter of fiscal 2003, the Company recorded an additional change in estimate
that reduced the plant closing costs by $0.2 million.
During fiscal 2001, the Company sold a portion of the Erwin facility as well as
substantially all of the equipment at the Erwin facility and the Brighton
facility. During fiscal 2002, the Company recorded an additional fixed asset
impairment charge of $0.9 million related to the Erwin facility. The Company
expects that the sale of the remaining real estate related to the Fiscal 2000
Strategic Initiatives could take an additional 12 months or longer to complete.
The table below summarizes the activity related to the plant closing accruals
for the six months ended March 29, 2003 (in thousands):
Accrual
Accrual Balance Balance at
at September 28, Cash Usage of Change in March 29,
2002 Payments Reserve Estimate 2003
---------------- -------- -------- --------- ---------
Severance benefits $ 226 $(123) $ -- $ 23 $ 126
Lease cancellation and other 1,930 -- (75) (168) 1,687
------ ----- ---- ----- ------
$2,156 $(123) $(75) $(145) $1,813
====== ===== ==== ===== ======
23
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE K - Fiscal 2000 Strategic Initiatives (Continued)
Of the lease cancellation and other accrual balance related to the Fiscal 2000
Strategic Initiatives outstanding at March 29, 2003, $1.3 million is included in
liabilities subject to compromise. See Note A - Bankruptcy Filing.
The Company incurred run-out expenses totaling $0.3 million and $0.7 million for
the three and six months ended March 29, 2003, respectively. These expenses,
which include equipment relocation, plant carrying costs and other costs, are
included primarily in cost of sales in the consolidated statement of operations.
As a result of the employees terminated due to the Fiscal 2000 Strategic
Initiatives, the Company recognized a net curtailment gain of $2.4 million in
fiscal 2001 related to its defined benefit pension and post-retirement medical
plans.
NOTE L - Segment Information
The Company's operations are classified into three business segments: Galey &
Lord Apparel, Swift Denim and Klopman International. The Company is principally
organized around differences in products; however, one segment exists primarily
due to geographic location. The business segments are managed separately and
distribute products through different marketing channels. Galey & Lord Apparel
manufactures and sells woven cotton and cotton blended apparel fabrics. Swift
Denim manufactures and markets a wide variety of denim products for apparel and
non-apparel uses. Klopman International manufactures principally workwear and
careerwear fabrics as well as woven sportswear apparel fabrics primarily for
consumption in Europe.
Through fiscal 2002, the Company reported Home Fashion Fabrics as a separate
business segment. Home Fashion Fabrics sells dyed and printed fabrics to the
home furnishing trade for use in bedspreads, comforters, curtains and
accessories as well as greige fabrics (undyed and unfinished) which it sends to
independent contractors for dyeing and finishing. During fiscal 2002, the
Company realigned its Home Fashion Fabrics' management under the control of the
Galey & Lord Apparel business unit. Accordingly, Home Fashion Fabrics' operating
results are not presented as a separate operating segment effective in fiscal
2003. Prior year financial information has been restated to reflect Home Fashion
Fabrics' results included with Galey & Lord Apparel's results for comparative
purposes.
The Company evaluates performance and allocates resources based on operating
income; therefore, certain expenses, principally net interest expense and income
taxes, are excluded from the chief operating decision makers' assessment of
segment performance. Accordingly, such expenses have not been allocated to
segment results. The corporate segment's operating loss represents principally
the administrative expenses from the Company's various holding companies.
Additionally, the corporate segment assets consist primarily of corporate cash,
deferred bank charges and investments in and advances to associated companies.
24
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE L - Segment Information (Continued)
Information about the Company's operations in its different industry segments
for the three and six months ended March 29, 2003 and March 30, 2002 is as
follows (in thousands):
Three Months Ended Six Months Ended
--------------------- ---------------------
March 29, March 30, March 29, March 30,
2003 2002 2003 2002
--------- --------- --------- ---------
Net Sales to External Customers
Galey & Lord Apparel $ 58,899 $ 70,854 $126,234 $133,595
Swift Denim 53,090 65,561 100,516 109,522
Klopman International 34,544 31,567 63,148 61,311
-------- -------- -------- --------
Consolidated $146,533 $167,982 $289,898 $304,428
======== ======== ======== ========
Operating Income (Loss)
Galey & Lord Apparel $ (927) $ (2,162) $ 310 $ (5,259)
Swift Denim 578 2,881 5,066 13,378
Klopman International 1,438 1,312 3,123 2,002
Corporate (169) (466) (292) (1,973)
-------- -------- -------- --------
920 1,565 8,207 8,148
Interest expense 5,392 9,372 11,052 22,572
Income from associated companies/(1)/ (2,303) (1,914) (4,847) (4,240)
Reorganization items/(2)/ 3,699 9,881 7,065 9,881
-------- -------- -------- --------
Loss before income taxes and cumulative effect
of accounting change $ (5,868) $(15,774) $ (5,063) $(20,065)
======== ======== ======== ========
March 29, March 30,
2003 2002
--------- ---------
Assets/(3)/
Galey & Lord Apparel/(4)/ $211,959 $251,305
Swift Denim/(5)/ 245,903 337,668
Klopman International 116,502 104,294
Corporate 69,802 71,810
-------- --------
$644,166 $765,077
======== ========
/(1)/ Net of amortization of $0, $163, $0, and $326, respectively. The Company
adopted Statement of Financial Accounting Standards No. 142, "Goodwill and
Other Intangible Assets" ("FAS 142"), on September 29, 2002 (the beginning
of the Company's fiscal 2003). Upon adoption of FAS 142, the Company ceased
amortizing the remaining investment over its equity in the underlying net
assets of its joint venture interests.
/(2)/ Reorganization items for the three months and six months ended March 29,
2003 include $2.1 million and $3.9 million, respectively, of professional
fees associated with the Chapter 11 Filings and $1.6 million and $3.2
million, respectively, of expenses related to incentive and retention
programs. Reorganization items for the three months and six months ended
March 30, 2002 include $7.7 million for the non-cash write-off of the
unamortized discount on the 9 1/8% Senior Subordinated Notes and the
non-cash write-off of the related deferred financing fees and $2.2 million
of professional fees associated with the Chapter 11 Filings.
25
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE L - Segment Information (Continued)
/(3)/ Excludes intercompany balances and investments in subsidiaries which are
eliminated in consolidation.
/(4)/ Upon adoption of FAS 142, Galey & Lord Apparel recorded a goodwill
impairment write-off of $0.8 million. This was reported as a cumulative
effect of an accounting change, retroactive to the first day of fiscal
2003.
/(5)/ Upon adoption of FAS 142, Swift Denim recorded a goodwill impairment
write-off of $64.4 million and an other intangible assets impairment
write-down of $22.2 million. This was reported as a cumulative effect of an
accounting change, retroactive to the first day of fiscal 2003.
26
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE M - Supplemental Condensed Consolidating Financial Information
The following summarizes condensed consolidating financial information for the
Company, segregating Galey & Lord, Inc. (the "Parent") and guarantor
subsidiaries from non-guarantor subsidiaries. The guarantor subsidiaries are
wholly-owned subsidiaries of the Company and guarantees are full, unconditional
and joint and several. Separate financial statements of each of the guarantor
subsidiaries are not presented because management believes that these financial
statements would not be material to investors.
March 29, 2003
---------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Financial Position Parent Subsidiaries Subsidiaries Eliminations Consolidated
- -------------------------------------- --------- ------------ ------------ ------------ ------------
Current assets:
Trade accounts receivable $ -- $ 81,346 $ 39,485 $ -- $ 120,831
Inventories -- 128,760 43,416 -- 172,176
Other current assets 2,131 27,413 13,972 -- 43,516
--------- --------- --------- --------- ---------
Total current assets 2,131 237,519 96,873 -- 336,523
Property, plant and equipment, net -- 155,977 82,999 -- 238,976
Intangibles -- 26,127 -- -- 26,127
Other assets (101,847) 6,007 35,337 103,043 42,540
--------- --------- --------- --------- ---------
$ (99,716) $ 425,630 $ 215,209 $ 103,043 $ 644,166
========= ========= ========= ========= =========
Liabilities not subject to compromise:
Current liabilities:
Long-term debt - current $ 297,583 $ 5,275 $ 1,958 $ -- $ 304,816
Trade accounts payable 53 14,826 18,124 -- 33,003
Accrued liabilities 21,836 35,813 14,913 (22) 72,540
Other current liabilities -- 932 3,015 -- 3,947
--------- --------- --------- --------- ---------
Total current liabilities 319,472 56,846 38,010 (22) 414,306
Long-term debt -- 305 20,656 -- 20,961
Other non-current liabilities (57) 770 14,172 -- 14,885
--------- --------- --------- --------- ---------
Total liabilities not subject to
compromise 319,415 57,921 72,838 (22) 450,152
Net intercompany balance (598,628) 653,187 (54,559) -- --
Liabilities subject to compromise 312,905 14,517 -- -- 327,422
Stockholders' equity (deficit) (133,408) (299,995) 196,930 103,065 (133,408)
--------- --------- --------- --------- ---------
$ (99,716) $ 425,630 $ 215,209 $ 103,043 $ 644,166
========= ========= ========= ========= =========
27
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE M - Supplemental Condensed Consolidating Financial Information (Continued)
March 30, 2002
---------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Financial Position Parent Subsidiaries Subsidiaries Eliminations Consolidated
- -------------------------------------- --------- ------------ ------------ ------------ ------------
Current assets:
Trade accounts receivable $ -- $ 98,167 $ 42,938 $ -- $141,105
Inventories -- 137,222 38,605 -- 175,827
Other current assets 2,163 10,052 34,220 (1,285) 45,150
--------- --------- --------- --------- --------
Total current assets 2,163 245,441 115,763 (1,285) 362,082
Property, plant and equipment, net -- 167,501 74,773 -- 242,274
Intangibles -- 113,015 -- -- 113,015
Other assets 16,609 5,655 36,293 (10,851) 47,706
--------- --------- --------- --------- --------
$ 18,772 $ 531,612 $ 226,829 $ (12,136) $765,077
========= ========= ========= ========= ========
Liabilities not subject to compromise:
Current liabilities:
Long-term debt - current $ 327,383 $ 5,537 $ 1,728 $ -- $334,648
Trade accounts payable -- 15,312 17,961 -- 33,273
Accrued liabilities 12,575 23,257 12,164 (15) 47,981
Other current liabilities -- 1,025 5,448 -- 6,473
--------- --------- --------- --------- --------
Total current liabilities 339,958 45,131 37,301 (15) 422,375
Long-term debt -- 780 34,498 -- 35,278
Other non-current liabilities (1,489) 7,103 11,767 (1,285) 16,096
--------- --------- --------- --------- --------
Total liabilities not 338,469 53,014 83,566 (1,300) 473,749
subject to compromise
Net intercompany balance (595,232) 621,433 (26,201) -- --
Liabilities subject to compromise 312,775 15,793 -- -- 328,568
Stockholders' equity (deficit) (37,240) (158,628) 169,464 (10,836) (37,240)
--------- --------- --------- --------- --------
$ 18,772 $ 531,612 $ 226,829 $ (12,136) $765,077
========= ========= ========= ========= ========
28
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE M - Supplemental Condensed Consolidating Financial Information (Continued)
Three Months Ended March 29, 2003
-------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
------- ------------ ------------ ------------ ------------
Results of Operations
- -----------------------------------
Net sales $ -- $ 98,116 $50,766 $(2,349) $146,533
Gross profit -- 4,714 3,716 -- 8,430
Operating income (loss) (91) (176) 1,187 -- 920
Reorganization items 3,699 -- -- -- 3,699
Interest expense, income taxes, and
other, net (8,800) 13,838 (1,671) -- 3,367
Cumulative effect of accounting
change (net of applicable income
taxes) -- -- -- -- --
Net income (loss) $ 5,010 $(14,014) $ 2,858 $ -- $ (6,146)
Six Months Ended March 29, 2003
--------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
-------- ------------ ------------ ------------ ------------
Results of Operations
- -----------------------------------
Net sales $ -- $ 198,746 $96,312 $(5,160) $289,898
Gross profit -- 13,268 9,428 -- 22,696
Operating income (loss) (114) 3,824 4,497 -- 8,207
Reorganization items 7,065 -- -- -- 7,065
Interest expense, income taxes and
other, net (17,202) 27,418 (2,624) -- 7,592
Cumulative effect of accounting
change (net of applicable income
taxes) -- 87,408 -- -- 87,408
Net income (loss) $ 10,023 $(111,002) $ 7,121 $ -- $(93,858)
29
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE M - Supplemental Condensed Consolidating Financial Information (Continued)
Three Months Ended March 30, 2002
-------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
------- ------------ ------------ ------------ ------------
Results of Operations
- -----------------------
Net sales $ -- $116,124 $52,666 $(808) $167,982
Gross profit -- 4,460 6,586 -- 11,046
Operating income (loss) (284) (2,194) 4,043 -- 1,565
Reorganization items 9,881 -- -- -- 9,881
Interest expense,
income taxes and
other, net (7,914) 15,512 (44) -- 7,554
Net income (loss) $(2,251) $(17,706) $ 4,087 $ -- $(15,870)
Six Months Ended March 30, 2002
--------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
------- ------------ ------------ ------------ ------------
Results of Operations
- -----------------------
Net sales $ -- $211,822 $94,653 $(2,047) $304,428
Gross profit -- 11,768 10,844 -- 22,612
Operating income (loss) (1,598) 2,566 7,180 -- 8,148
Reorganization items 9,881 -- -- -- 9,881
Interest expense,
income taxes and
other, net (13,287) 33,402 (745) -- 19,370
Net income (loss) $ 1,808 $(30,836) $ 7,925 $ -- $(21,103)
30
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE M - Supplemental Condensed Consolidating Financial Information (Continued)
Six Months Ended March 29, 2003
--------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
-------- ------------ ------------ ------------ ------------
Cash Flows
- --------------------------------------
Cash provided by (used in) operating
activities $ 13,683 $(18,579) $ 5,487 $ -- $ 591
Cash provided by (used in) investing
activities (5) (5,827) 3,984 -- (1,848)
Cash provided by (used in) financing
activities (13,671) 12,950 (9,455) -- (10,176)
Effect of exchange rate change on cash
and cash equivalents -- -- 359 -- 359
-------- -------- ------- ---- --------
Net change in cash and cash equivalents 7 (11,456) 375 -- (11,074)
Cash and cash equivalents at
beginning of period 15 33,781 5,579 -- 39,375
-------- -------- ------- ---- --------
Cash and cash equivalents at end
of period $ 22 $ 22,325 $ 5,954 $ -- $ 28,301
======== ======== ======= ==== ========
31
GALEY & LORD, INC.
(DEBTORS-IN-POSSESSION)
Notes to Consolidated Financial Statements
March 29, 2003
(Unaudited)
NOTE M - Supplemental Condensed Consolidating Financial Information (Continued)
Six Months Ended March 30, 2002
--------------------------------------------------------------------
(in thousands)
Non-
Guarantor Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
-------- ------------ ------------ ------------ ------------
Cash Flows
- -----------------------
Cash provided by
(used in) operating
activities $ 10,881 $(29,640) $ 4,807 $ 3 $(13,949)
Cash provided by
(used in) investing
activities (650) 3,744 12,066 (8,294) 6,866
Cash provided by
(used in) financing
activities (10,221) 23,280 5,135 8,291 26,485
Effect of exchange
rate change on cash
and cash equivalents -- -- (158) -- (158)
-------- -------- ------- ------- --------
Net change in cash
and cash equivalents 10 (2,616) 21,850 -- 19,244
Cash and cash
equivalents at
beginning of period 5 4,623 4,529 -- 9,157
-------- -------- ------- ------- --------
Cash and cash
equivalents at end
of period $ 15 $ 2,007 $26,379 $ -- $ 28,401
======== ======== ======= ======= ========
32
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Bankruptcy Filing
On February 19, 2002 (the "Filing Date"), Galey & Lord, Inc. (the "Company") and
each of its domestic subsidiaries (together with the Company, the "Debtors")
filed voluntary petitions for reorganization (the "Chapter 11 Filings" or the
"Filings") under Chapter 11 of Title 11, United States Code (the "Bankruptcy
Code") in the United States Bankruptcy Court for the Southern District of New
York (Case Nos. 02-40445 through 02-40456 (ALG)). The Chapter 11 Filings pending
for the Debtors are being jointly administered for procedural purposes only. The
Debtors' direct and indirect foreign subsidiaries and foreign joint venture
entities did not file petitions under Chapter 11 and are not the subject of any
bankruptcy proceedings.
During the pendency of the Filings, the Debtors remain in possession of their
properties and assets and management continues to operate the businesses of the
Debtors as debtors-in-possession pursuant to Sections 1107(a) and 1108 of the
Bankruptcy Code. As debtors-in-possession, the Debtors are authorized to operate
their businesses, but may not engage in transactions outside of the ordinary
course of business without the approval of the Bankruptcy Court, after notice
and the opportunity for a hearing.
On the Filing Date, the Debtors filed a motion seeking authority for the Company
to enter into a credit facility of up to $100 million in debtor-in-possession
("DIP") financing with First Union National Bank (the "Agent") and Wachovia
Securities, Inc. On February 21, 2002, the Bankruptcy Court entered an interim
order approving the credit facility and authorizing immediate access of up to
$30 million. On March 19, 2002, the Bankruptcy Court entered a final order
approving the entire $100 million DIP financing. Effective September 24, 2002,
the Company exercised its right, as permitted under the DIP Financing Agreement,
to permanently reduce such maximum amount of revolving credit borrowings from
$100 million to $75 million. For a description of the DIP Financing Agreement,
see "--Liquidity and Capital Resources."
The Bankruptcy Court has approved payment of certain of the Debtors'
pre-petition obligations, including, among other things, employee wages,
salaries, and benefits, and certain critical vendor and other business-related
payments necessary to maintain the operation of their businesses. The Debtors
have retained, with Bankruptcy Court approval, legal and financial professionals
to advise the Debtors in the bankruptcy proceedings and the restructuring of
their businesses, and certain other "ordinary course" professionals. From time
to time the Debtors may seek Bankruptcy Court approval for the retention of
additional professionals.
By orders dated June 6, 2002, and July 24, 2002, the Bankruptcy Court authorized
the implementation of various employee programs for the Debtors. These programs
include:
Stay Bonus and Emergence Plans - These plans provide for payments totaling
$5.2 million for 62 employees including executive officers. Payments under
the Stay Bonus Plan are in four equal payments beginning in August 2002 and
ending the later of June 2003 or upon emergence. The Emergence Plan
provides for a single payment upon emergence.
33
Enhanced Severance Program - Pursuant to this program, certain employees,
including executive officers, are entitled to "enhanced" severance payments
under certain terms and conditions.
Discretionary Transition Payment Plan - This plan allows the Debtors to
offer incentives to certain employees during a transition period at the end
of which such employees would be terminated, in the event such incentives
become necessary (the Debtors have no current plans to significantly reduce
headcount).
Discretionary Retention Pool - This plan provides the Chief Executive
Officer discretionary authority to offer incentives to employees (including
new employees) not otherwise participating in other portions of the
program.
Performance Incentive Plan - The Debtors filed a motion for approval of a
proposed performance incentive plan, pursuant to which certain employees,
including executive officers, would be entitled to an additional bonus in
the event certain personal and/or company performance goals were achieved.
The Debtors voluntarily withdrew that motion without prejudice to their
right to seek the relief requested therein at a later date.
The Debtors have also received authority to conduct certain other transactions
that might be considered "outside the ordinary course" of business. The Debtors
have sought and received authority to pay certain pre-petition personal and
property taxes, to sell certain identified assets, to enter into certain
financing agreements, and to retain a real estate professional to market and
sell certain unused properties.
The Debtors must, subject to Bankruptcy Court approval and certain other
limitations, assume, assume and assign, or reject each of their executory
contracts and unexpired leases. In this context, "assumption" means, among other
things, re-affirming their obligations under the relevant lease or contract and
curing all monetary defaults thereunder. In this context, "rejection" means
breaching the relevant contract or lease as of the Filing Date, being relieved
of on-going obligations to perform under the contract or lease, and being liable
for damages, if any, for the breach thereof. Such damages, if any, are deemed to
have accrued prior to the Filing Date by operation of the Bankruptcy Code. The
Bankruptcy Court has entered three orders collectively approving the rejection
of one executory contract and several unexpired leases. In addition, under the
Bankruptcy Code, the Debtors must assume, assume and assign, or reject all
unexpired leases of non-residential real property for which a Debtor is lessee
within 60 days from the Filing Date. By orders dated April 29, 2002, August 16,
2002, December 11, 2002, and April 17, 2003, the Bankruptcy Court extended this
deadline up through and including August 14, 2003. The Debtors are in the
process of reviewing their remaining executory contracts to determine which, if
any, they will reject. At this time the Debtors cannot reasonably estimate the
ultimate liability, if any, that may result from rejecting and/or assuming
executory contracts or unexpired leases, and no provisions have yet been made
for these items.
The Bankruptcy Court established October 1, 2002 as the "bar date" as of which
all claimants are required to submit and characterize claims against the
Debtors. The Debtors are currently in the process of reviewing the claims that
were filed against the Company. The ultimate amount of the
34
claims allowed by the Court against the Company could be significantly different
than the amount of the liabilities recorded by the Company.
The consummation of a plan or plans of reorganization (a "Plan") is the
principal objective of the Chapter 11 Filings. A Plan would, among other things,
set forth the means for satisfying claims against and interests in the Company
and its Debtor subsidiaries, including setting forth the potential distributions
on account of such claims and interests, if any. The Plan could also involve the
sale of the Debtors' assets and/or stock. It is also possible that a sale of the
Debtors' assets and/or stock could be accomplished outside a plan of
reorganization. Pursuant to the Bankruptcy Code, the Debtors had the exclusive
right for 120 days from the Filing Date (through and including June 18, 2002) to
file a Plan, and for 180 days from the Filing Date (through and including August
17, 2002) to solicit and receive the votes necessary to confirm a Plan. As of
the date hereof, the Bankruptcy Court had entered four orders collectively
extending the Debtors' exclusive right to file a Plan through and including May
30, 2003, and extending the Debtors' exclusive right to solicit acceptances of
such plan through and including August 4, 2003. Both of these exclusivity
periods may be further extended by the Bankruptcy Court for cause. If the
Debtors fail to file a Plan during the exclusive filing period or if the Debtors
fail to obtain the requisite acceptance of such Plan during the exclusive
solicitation period, any party-in-interest, including a creditor, an equity
holder, a committee of creditors or equity holders, or an indenture trustee, may
file its own Plan for the Debtors. Confirmation of a Plan is subject to certain
statutory findings by the Bankruptcy Court. Subject to certain exceptions as set
forth in the Bankruptcy Code, confirmation of a Plan requires, among other
things, a vote on the Plan by certain classes of creditors and equity holders
whose rights or interests are impaired under the Plan. If any impaired class of
creditors or equity holders does not vote to accept the Plan, but all of the
other requirements of the Bankruptcy Code are met, the proponent of the Plan may
seek confirmation of the Plan pursuant to the "cram down" provisions of the
Bankruptcy Code. Under these provisions, the Bankruptcy Court may still confirm
a Plan notwithstanding the non-acceptance of the Plan by an impaired class, if,
among other things, no claim or interest receives or retains any property under
the Plan until each holder of a claim senior to such claim or interest has been
paid in full. As a result of the amount of pre-petition indebtedness and the
availability of the "cram down" provisions, the holders of the Company's capital
stock may receive no value for their interests under any Plan. Because of such
possibility, the value of the Company's outstanding capital stock and unsecured
instruments are highly speculative. In addition, there can be no assurance that
a Plan will be proposed by the Debtors or confirmed by the Bankruptcy Court, or
that any such Plan will be consummated.
On or about April 4, 2003, the Official Committee of General Unsecured Creditor
(the "Committee") filed a motion seeking the appointment of an examiner in the
Debtors' cases pursuant to Sections 1104(c)(1), 1104(c)(2) and 105(a) of the
Bankruptcy Code and Bankruptcy Rules 2007.1 and 9014, and seeking an injunction
prohibiting the Debtors from filing a Plan for at least 90 days from the
appointment of such examiner. Both the Debtors and the agent for the Debtors'
pre-petition secured lenders filed objections to this motion, objecting to the
relief requested therein and the purported factual predicate therefore.
Consideration of this motion, originally scheduled for April 29, 2003, has been
adjourned until May 15, 2003. There is no assurance that the motion will not be
granted, that an examiner will not be appointed,
35
or that an injunction will not be placed on the Debtors prohibiting them from
filing a Plan for 90 days or longer.
It is not possible to predict the length of time the Company will operate under
the protection of Chapter 11 and the supervision of the Bankruptcy Court, the
outcome of the bankruptcy proceedings in general, or the effect of the
proceedings on the business of the Company or on the interest of the various
creditors and stakeholders. Since the Filing Date, the Debtors have conducted
business in the ordinary course. Management is in the process of evaluating
their operations as part of the development of a Plan. During the pendency of
the Chapter 11 Filings, the Debtors may, with Bankruptcy Court approval, sell
assets and settle liabilities, including for amounts other than those reflected
in the financial statements. The administrative and reorganization expenses
resulting from the Chapter 11 Filings will unfavorably affect the Debtors'
results of operations. In addition, under the priority scheme established by the
Bankruptcy Code, most, if not all, post-petition liabilities must be satisfied
before most other creditors or interest holders, including stockholders, can
receive any distribution on account of such claim or interest.
The Company's consolidated financial statements are presented in accordance with
American Institute of Certified Public Accountants Statement of Position 90-7,
"Financial Reporting by Entities in Reorganization under the Bankruptcy Code"
("SOP 90-7"), assuming that the Company will continue as a going concern. The
Company is currently operating under the jurisdiction of Chapter 11 of the
Bankruptcy Code and the Bankruptcy Court, and continuation of the Company as a
going concern is contingent upon, among other things, its ability to formulate a
Plan which will gain approval of the requisite parties under the Bankruptcy Code
and confirmation by the Bankruptcy Court, its ability to comply with the DIP
Financing Agreement, and its ability to return to profitability, generate
sufficient cash flows from operations, and obtain financing sources to meet
future obligations. These matters raise substantial doubt about the Company's
ability to continue as a going concern. The Company's consolidated financial
statements do not include any adjustments relating to the recoverability and
classification of recorded asset amounts or the amounts and classification of
liabilities that might result from the outcome of these uncertainties.
In the Chapter 11 Filings, substantially all unsecured liabilities as of the
Filing Date are subject to compromise or other treatment under a Plan which must
be confirmed by the Bankruptcy Court after submission to any required vote by
affected parties. Generally, all actions to enforce or otherwise effect
repayment of pre-petition liabilities, as well as all pending litigation against
the Debtors, are stayed while the Debtors continue their business operations as
debtors-in-possession. The ultimate amount of and settlement terms for
liabilities subject to compromise are subject to an approved Plan and
accordingly are not presently determinable.
36
The principal categories of obligations classified as liabilities subject to
compromise under the Chapter 11 Filings as of March 29, 2003 are identified
below (in thousands):
9 1/8% Senior Subordinated Notes $300,000
Interest accrued on above debt 12,775
Accounts payable 11,407
Liability for rejected leases 2,165
Other accrued expenses 1,075
--------
$327,422
========
Pursuant to SOP 90-7, professional fees associated with the Chapter 11 Filings
are expensed as incurred and reported as reorganization items. Interest expense
is reported only to the extent that it will be paid during the Chapter 11
Filings or that it is probable that it will be an allowed claim. The Company
recognized a charge of $3.7 million and $7.1 million associated with the Chapter
11 Filings for the three and six months ended March 29, 2003, respectively. Of
these charges, $2.1 million and $3.9 million for the three and six months ended
March 29, 2003, respectively, were for fees payable to professionals retained to
assist with the Chapter 11 Filings and $1.6 million and $3.2 million for the
three and six months ended March 29, 2003, respectively, were related to
incentive and retention programs. The Company recognized a charge of $9.9
million associated with the Chapter 11 Filings for the three months ended March
30, 2002. Approximately $7.7 million of this charge related to the non-cash
write-off of the unamortized discount on the 9 1/8% Senior Subordinated Notes
and the non-cash write-off of related deferred financing fees. In addition, the
Company incurred $2.2 million for fees payable to professionals retained to
assist with the Chapter 11 Filings.
37
Results of Operations
The Company's operations are primarily classified into three operating segments:
(1) Galey & Lord Apparel, (2) Swift Denim and (3) Klopman International.
Through fiscal 2002, the Company reported Home Fashion Fabrics as a separate
business segment. During fiscal 2002, the Company realigned its Home Fashion
Fabrics' management under the control of the Galey & Lord Apparel business unit.
Accordingly, Home Fashion Fabrics' operating results are not presented as a
separate operating segment effective in fiscal 2003. Prior year financial
information has been restated to reflect Home Fashion Fabrics' results included
with Galey & Lord Apparel's results for comparative purposes.
Results for the three and six months ended March 29, 2003 and March 30, 2002 for
each segment are shown below:
Three Months Ended Six Months Ended
---------------------- ----------------------
March 29, March 30, March 29, March 30,
2003 2002 2003 2002
--------- --------- --------- ---------
(Amounts in thousands) (Amounts in thousands)
Net Sales per Segment
Galey & Lord Apparel $ 58,899 $ 70,854 $126,234 $133,595
Swift Denim 53,090 65,561 100,516 109,522
Klopman International 34,544 31,567 63,148 61,311
-------- -------- -------- --------
Total $146,533 $167,982 $289,898 $304,428
======== ======== ======== ========
Operating Income (Loss) per Segment
Galey & Lord Apparel $ (927) $ (2,162) $ 310 $ (5,259)
Swift Denim 578 2,881 5,066 13,378
Klopman International 1,438 1,312 3,123 2,002
Corporate (169) (466) (292) (1,973)
-------- -------- -------- --------
$ 920 $ 1,565 $ 8,207 $ 8,148
======== ======== ======== ========
38
March Quarter 2003 Compared to March Quarter 2002
Net Sales
Net sales for the March quarter 2003 (second quarter of fiscal 2003) were $146.5
million as compared to $168.0 million for the March quarter 2002 (second quarter
of fiscal 2002). The sales decrease was primarily attributable to a decline in
domestic customer demand for apparel products as retail sales were adversely
impacted by the overall economic conditions.
Galey & Lord Apparel Galey & Lord Apparel's net sales for the March quarter 2003
were $58.9 million, a $12.0 million decrease as compared to the March quarter
2002 net sales of $70.9 million. The decrease in net sales primarily resulted
from a decline in apparel fabric sales volume of approximately 15.7% partially
offset by an improvement in mix. Approximately $2.0 million of the sales decline
resulted from reduced sales volume from the Home Fashion Fabrics business.
Swift Denim Swift Denim's net sales for the March quarter 2003 were $53.1
million as compared to $65.6 million in the March quarter 2002. The $12.5
million decrease was primarily attributable to a 24.0% decrease in volume
partially offset by a 6.2% improvement in sales mix.
Klopman International Klopman International's net sales for the March quarter
2003 were $34.5 million, a $2.9 million increase as compared to the March
quarter 2002 net sales of $31.6 million. The increase was primarily attributable
to a 22.4% increase in net sales due to exchange rates used in translation
offset by a 9.1% decrease in sales volume.
Operating Income (Loss)
Operating income for the March quarter 2003 was $0.9 million as compared to $1.6
million for the March quarter 2002.
Galey & Lord Apparel Galey & Lord Apparel's operating loss was $0.9 million for
the March quarter 2003 as compared to $2.2 million operating loss for the March
quarter 2002. Approximately $0.8 million of the operating loss decrease was due
to a fixed asset impairment charge and run-out costs incurred in March quarter
2002 as part of the Fiscal 2001 Cost Reduction and Loss Avoidance Initiatives.
The balance of the operating loss decrease was principally due to reduced
lower-of-cost-or-market adjustment (LCM) for last-in, first-out (LIFO)
inventories, improved manufacturing productivity, and reduced selling expenses,
partially offset by higher raw material costs and reduced apparel fabric sales
due to a continuing decline in the market.
Swift Denim Swift Denim's operating income was $0.6 million for the March
quarter 2003 compared to $2.9 million for the March quarter 2002. The decrease
in Swift Denim's operating income was principally due to lower sales volume,
price pressure due to competition and unfavorable variances due to manufacturing
inefficiencies and higher raw material and energy costs. In addition, in the
March Quarter 2002, Swift recognized a reduction of LCM reserves of
approximately $1.0 million due to the change in method of accounting for
inventories to the LIFO inventory method effective September 30, 2001. These
decreases were partially offset by an improvement in sales mix and an
improvement of approximately $0.5 million related to run-out expenses incurred
in connection with the Fiscal 2000 Strategic Initiatives. Further, upon adoption
of Statement of Financial Accounting Standards No.
39
142, "Goodwill and Other Intangible Assets", effective as of the beginning of
the Company's fiscal 2003, the Company ceased amortizing its goodwill and
intangible assets resulting in an improvement in operating income of
approximately $0.8 million.
Klopman International Klopman International's operating income in the March
quarter 2003 increased $0.1 million to $1.4 million as compared to the March
quarter 2002 operating income of $1.3 million. The increase was principally due
to improved manufacturing variances of $0.6 million, reduced agent commissions
of $0.4 million, and reduced freight and discounts of $0.1 million partially
offset by lower sales volume and mix of $0.3 million and lower selling prices of
$0.7 million.
Corporate The corporate segment reported an operating loss for the March quarter
2003 of $0.2 million as compared to an operating loss for the March quarter 2002
of $0.5 million. The corporate segment's operating loss typically represents the
administrative expenses from the Company's various holding companies.
Income from Associated Companies
Income from associated companies was $2.3 million in the March quarter 2003 as
compared to $1.9 million in the March quarter 2002. The income represents
amounts from several joint venture interests that manufacture and sell denim
products. The increase in income from associated companies was principally due
to the favorable impact of foreign currency exchange rates used in translation
and improved results in the March quarter 2003 over the March quarter 2002 of
the Swift Denim-Hidalgo joint venture partially offset by the Company's
decreased ownership percentage in its European joint ventures.
Interest Expense
Interest expense was $5.4 million for the March quarter 2003 compared to $9.4
million for the March quarter 2002. The decrease in interest expense was
primarily due to the discontinuation of the 9 1/8% Senior Subordinated Notes
("Subordinated Notes") interest accrual as of the Filing Date and lower prime
and LIBOR base rates in the March quarter 2003 as compared to the March quarter
2002. The average interest rate paid by the Company on its bank debt, excluding
the Subordinated Notes, in the March quarter 2003 was 5.35% per annum as
compared to 5.74% per annum in the March quarter 2002.
Income Taxes
The Company's overall tax rate for the March quarter 2003 differed from the
statutory rate principally due to the nonrecognition of the U.S. tax benefits on
the domestic net operating loss carryforwards. The result is an overall tax
expense rate which is higher than the statutory rate.
Net Loss and Net Loss Per Share
The Company reported a net loss for the March quarter 2003 of $6.1 million or
$0.51 per common share compared to a net loss for the March quarter 2002 of
$15.9 million or $1.32 per common share. The net loss of $6.1 million for the
March quarter 2003 included $3.7 million of reorganization costs and $0.4
million of run-out costs related to the Fiscal 2001 Cost Reduction and Loss
Avoidance Initiatives and Fiscal 2000 Strategic Initiatives. The net loss of
$15.9 million for the March quarter 2002 included $9.9 million of
40
reorganization costs and $1.7 million of run-out costs and restructuring
adjustments related to the Fiscal 2001 Cost Reduction and Loss Avoidance
Initiatives and Fiscal 2000 Strategic Initiatives.
First Six Months of Fiscal 2003 Compared to First Six Months of Fiscal 2002
Net Sales
Net sales for the first six months of fiscal 2003 were $289.9 million as
compared to $304.4 million for the first six months of fiscal 2002. The sales
decrease was primarily attributable to a decline in domestic customer demand for
apparel products as retail sales were adversely impacted by the overall economic
conditions.
Galey & Lord Apparel Galey & Lord Apparel's net sales for the first six months
of fiscal 2003 were $126.2 million, a $7.4 million decrease as compared to the
first six months of fiscal 2002 net sales of $133.6 million. Approximately $4.9
million of the sales decline resulted from reduced volume from the Home Fashion
Fabrics business. The decline was also due to a decrease in apparel fabric sales
volume of approximately 3.1% offset partially by an improved product mix.
Swift Denim Swift Denim's net sales for the first six months of fiscal 2003 were
$100.5 million as compared to $109.5 million in the first six months of fiscal
2002. The $9.0 million decrease was primarily attributable to a 11.3% decrease
in volume partially offset by a 5.0% improvement in sales mix.
Klopman International Klopman International's net sales for the first six months
of fiscal 2003 were $63.1 million, a $1.8 million increase as compared to the
first six months of fiscal 2002's net sales of $61.3 million. The increase was
primarily attributable to a 17.1% increase in net sales due to exchange rates
used in translation partially offset by a 12.6% decrease in sales volume.
Operating Income (Loss)
Operating income for the first six months of fiscal 2003 was $8.2 million as
compared to $8.1 million for the first six months of fiscal 2002.
Galey & Lord Apparel Galey & Lord Apparel's operating income was $0.3 million
for the first six months of fiscal 2003 as compared to a $5.3 million operating
loss for the first six months of fiscal 2002. The increase in operating income
was due to lower manufacturing costs and improved manufacturing productivity,
reduced LCM adjustment for LIFO inventories and reduced costs associated with
the Fiscal 2001 Cost Reduction and Loss Avoidance Initiatives, partially offset
by reduced apparel fabric sales due to a continuing decline in the market, lower
selling prices due to price competition, higher raw material costs and changes
in product mix.
Swift Denim Swift Denim's operating income was $5.1 million for the first six
months of fiscal 2003 compared to $13.4 million for the first six months of
fiscal 2002. The decrease in Swift Denim's operating income was due to a number
of factors, principally lower sales volume, price pressure due to competition
and unfavorable variances due to manufacturing inefficiencies and higher raw
material, labor and energy costs. In the prior year, Swift also recognized a
reduction of LCM reserves of approximately $2.3 million due to the change in
method of accounting for inventories to the LIFO inventory
41
method effective September 30, 2001. In addition, in the December quarter of
fiscal 2002, Swift recognized a benefit curtailment gain of $3.4 million related
to the curtailment of postretirement benefits for employees not retired as of
December 31, 2001. These decreases are partially offset by an improvement in
sales mix and an improvement of approximately $0.7 million related to run-out
expenses incurred in connection with the Fiscal 2000 Strategic Initiatives. In
addition, upon adoption of Statement of Financial Accounting Standards No. 142,
"Goodwill and Other Intangible Assets", effective as of the beginning of the
Company's fiscal 2003, the Company ceased amortizing its goodwill and intangible
assets resulting in an improvement in operating income of approximately $1.6
million.
Klopman International Klopman International's operating income in the first six
months of fiscal 2003 increased $1.1 million to $3.1 million as compared to the
first six months of fiscal 2002's operating income of $2.0 million. The increase
was principally due to improved manufacturing variances of $1.8 million, reduced
agent commissions of $0.6 million, and reduced freight and discounts of $0.5
million partially offset by lower sales volume and mix of $1.0 million and lower
selling prices of $0.9 million.
Corporate The corporate segment reported an operating loss for the first six
months of fiscal 2003 of $0.3 million as compared to an operating loss for the
first six months of fiscal 2002 of $2.0 million. The corporate segment's
operating loss typically represents the administrative expenses from the
Company's various holding companies, however, the first six months of fiscal
2002 included financial advisor fees of $1.1 million.
Income from Associated Companies
Income from associated companies was $4.8 million in the first six months of
fiscal 2003 as compared to $4.2 million in the first six months of fiscal 2002.
The income represents amounts from several joint venture interests that
manufacture and sell denim products. The increase in income from associated
companies was principally due to improved results in the first six months of
fiscal 2003 over the first six months of fiscal 2002 of the Swift Denim-Hidalgo
joint venture and the favorable impact of foreign currency exchange rates used
in translation partially offset by the Company's decreased ownership percentage
in its European joint ventures.
Interest Expense
Interest expense was $11.1 million for the first six months of fiscal 2003
compared to $22.6 million for the first six months of fiscal 2002. The decrease
in interest expense was primarily due to the discontinuation of the Subordinated
Notes interest accrual as of the Filing Date and lower prime and LIBOR base
rates in the first six months of fiscal 2003 as compared to the first six months
of fiscal 2002. The average interest rate paid by the Company on its bank debt,
excluding the Subordinated Notes, in the first six months of fiscal 2003 was
5.51% per annum as compared to 6.0% per annum in the first six months of fiscal
2002.
Income Taxes
The Company's overall tax rate differed from the statutory rate principally due
to the nonrecognition of the U.S. tax benefits on the domestic net operating
loss carryforwards. The result is an overall tax expense rate which is higher
than the statutory rate.
42
Cumulative Effect of an Accounting Change
The Company adopted Statement of Financial Accounting Standard No. 142,
"Goodwill and Other Intangible Assets" retroactive to the beginning of fiscal
2003 and, accordingly, recorded goodwill impairment charges of $0.8 million at
Galey & Lord Apparel and goodwill and trademark impairment charges of $86.6
million at Swift Denim.
Net Loss and Net Loss Per Share
The Company reported a net loss for the first six months of fiscal 2003 of $93.9
million or $7.82 per common share compared to a net loss for the first six
months of fiscal 2002 of $21.1 million or $1.76 per common share. The net loss
of $93.9 million for the first six months of fiscal 2003 included $87.4 million
(net of applicable income taxes), or $7.28 per common share, related to the
cumulative effect of an accounting change, $7.1 million of reorganization costs
and $0.6 of run-out costs and restructuring adjustments related to the Fiscal
2001 Cost Reduction and Loss Avoidance Initiatives and Fiscal 2000 Strategic
Initiatives. The net loss of $21.1 million for the first six months of fiscal
2002 included $9.9 million of reorganization costs and $3.4 million of run-out
costs and restructuring adjustments related to the Fiscal 2001 Cost Reduction
and Loss Avoidance Initiatives and Fiscal 2000 Strategic Initiatives.
43
Order Backlog
The Company's order backlog at March 29, 2003 was $92.3 million, a 33.3%
decrease from the March 30, 2002 backlog of $138.3 million. Over the past
several years, many apparel manufacturers, including many of the Company's
customers, have modified their purchasing procedures and have shortened lead
times from order to delivery. Accordingly, the Company believes that order
backlogs may not be as meaningful as they have in the past with regard to the
Company's future sales.
Liquidity and Capital Resources
As previously discussed, the Company and each of its domestic subsidiaries filed
voluntary petitions for reorganization under Chapter 11 of Title 11 of the
Bankruptcy Code. The matters described under this caption "Liquidity and Capital
Resources," to the extent that they relate to future events or expectations, may
be significantly affected by the Chapter 11 Filings. Such proceedings will
involve, or result in, various restrictions on the Debtors' activities,
limitations on financing, the need to obtain Bankruptcy Court approval for
various matters and uncertainty as to relationships with vendors, suppliers,
customers and others with whom the Debtors may conduct or seek to conduct
business.
The Company and its subsidiaries had cash and cash equivalents totaling $28.3
million and $28.4 million at March 29, 2003 and March 30, 2002, respectively. As
a result of the Chapter 11 Filings, the Company's ability to borrow under its
Senior Credit Facility (as defined below) was frozen and replaced with the
Company's DIP Financing Agreement (as defined below). As of March 29, 2003, the
Company's borrowing availability under its DIP Financing Agreement was $68.8
million. As of March 29, 2003, the Company's Canadian operations also had a
total of U.S. $9.6 million of revolving credit borrowing availability under the
Canadian Loan Agreement (as defined below).
During the March quarter 2003, the Company primarily utilized its available cash
and revolving credit borrowings under the Canadian Loan Facility to fund the
Company's operating and investing requirements.
During the March quarter 2002, Klopman International used existing cash balances
and borrowings under its credit agreements to complete a capital reduction of
$20.2 million with its European parent holding company (which is a wholly-owned
subsidiary of the Company). In April 2002, $19.5 million was transferred from
the Company's European holding company to the Company in the United States. The
Company then utilized the cash to repay its $7.4 million outstanding balance
under its DIP Financing Agreement (as defined below) as well as repay $5.0
million, $4.2 million, and $2.9 million of the Company's pre-petition revolving
line of credit, Term Loan B, and Term Loan C borrowings, respectively under the
pre-petition Senior Credit Facility (as defined below).
44
Debtor-in-Possession Financing Agreement
Under the terms of the final DIP financing agreement (the "DIP Financing
Agreement") among the company and the Debtor subsidiaries and First Union
National Bank (the "Agent") and Wachovia Securities, Inc., the Company, as
borrower, may make revolving credit borrowings (including up to $15 million for
post-petition letters of credit) in an amount not exceeding the lesser of $100
million or the Borrowing Base (as defined in the DIP Financing Agreement).
Effective September 24, 2002, the Company exercised its right, as permitted
under the DIP Financing Agreement, to permanently reduce such maximum amount of
revolving credit borrowings from $100 million to $75 million. As a result, $0.4
million of deferred debt fees related to the DIP financing agreement were
written off in the September quarter 2002. The DIP Financing Agreement will
terminate and the borrowings thereunder will be due and payable upon the
earliest of (i) August 19, 2003, (ii) the date of the substantial consummation
of a plan of reorganization that is confirmed pursuant to an order by the
Bankruptcy Court or (iii) the acceleration of the revolving credit loans made by
any of the banks who are a party to the DIP Financing Agreement and the
termination of the total commitment under the DIP Financing Agreement pursuant
to the DIP Financing Agreement. Amounts borrowed under the DIP Financing
Agreement bear interest at the rate per annum at the Company's option, of either
(i) (a) the higher of the prime rate or the federal funds rate plus .50% plus
(b) a margin of 2.00% or (ii) LIBOR plus a margin of 3.25%. There is an unused
commitment fee of (A) at such time as First Union National Bank is no longer the
sole bank, at the rate of (i) .75% per annum on the average daily unused total
commitment at all times during which the average total commitment usage is less
than 25% of the total commitment and (ii) .50% per annum on the average daily
unused total commitment at all times during which the average total commitment
usage is more than or equal to 25% of the total commitment; or (B) at all times
that First Union National Bank is the sole bank, at a rate of .50% per annum on
the average daily unused total commitment. There are letter of credit fees
payable to the Agent equal to LIBOR plus 3.25% on the daily average letters of
credit outstanding and to a fronting bank, its customary fees plus .25% for each
letter of credit issued by such fronting bank.
Borrowings under the DIP Financing Agreement are guaranteed by each of the
Debtor subsidiaries. In general, such borrowings constitute allowed
super-priority administrative expense claims and are secured by (i) a perfected
first priority lien pursuant to Section 364(c)(2) of the Code, upon all property
of the Company and the Debtor subsidiaries that was not subject to a valid,
perfected and non-avoidable lien on the Filing Date, (ii) a perfected junior
lien, pursuant to Section 364(c)(3) of the Code upon all property of the Company
and the Debtor subsidiaries already subject to valid, perfected, non-avoidable
liens, and (iii) a perfected first priority senior priming lien, pursuant to
Section 364(d)(1) of the Code, upon all property of the Company and the Debtor
subsidiaries already subject to a lien that presently secures the Company's and
the Debtor subsidiaries' pre-petition indebtedness under the existing
pre-petition credit agreement, whether created prior to or after the Filing Date
(subject to certain specific existing or subsequently perfected liens). This
security interest is subject to certain explicit exceptions.
The DIP Financing Agreement contains covenants restricting the Company and the
Guarantors from consolidating or merging with and into another person, disposing
of assets, incurring additional indebtedness and guarantees, creating liens and
encumbrances on properties, modifying its or their
45
business, making capital expenditures in excess of $22.5 million through the
maturity date or $15.2 million during any 12 month period, declaring and paying
dividends, making investments, loans or advances, and creating super-priority
claims. There are certain limitations on affiliate transactions and on costs and
expenses incurred in connection with the closing of production facilities. The
DIP Financing Agreement also requires the Company and the Debtor subsidiaries to
achieve certain levels of EBITDA (as defined) as specified therein. At March 29,
2003, the Company was in compliance with the covenants of the DIP Financing
Agreement.
The DIP Financing Agreement also provides for the mandatory prepayment of all or
a portion of outstanding borrowings upon repatriation of funds from foreign
subsidiaries or the sale of assets, or in the event outstanding loans exceed the
Borrowing Base.
Pre-Petition Senior Credit Facility
On January 29, 1998 the Company entered into a new credit agreement (as amended,
the "Senior Credit Facility") with First Union National Bank, as agent and
lender, and, as of March 27, 1998, with a syndicate of lenders. The Senior
Credit Facility provides for (i) a revolving line of credit under which the
Company may borrow up to an amount (including letters of credit up to an
aggregate of $30.0 million) equal to the lesser of $225.0 million or a borrowing
base (comprised of eligible accounts receivable and eligible inventory, as
defined in the Senior Credit Facility), (ii) a term loan in the principal amount
of $155.0 million ("Term Loan B") and (iii) a term loan in the principal amount
of $110.0 million ("Term Loan C"). In July 1999, the Company amended its Senior
Credit Facility (the "July 1999 Amendment") pursuant to which the Company, among
other things, repaid $25 million principal amount of its term loan balance using
available borrowings under its revolving line of credit and reduced the maximum
amount of borrowings under the revolving line of credit by $25 million to $200
million. The repayment of the Term Loan B and Term Loan C principal balances
ratably reduced the remaining quarterly principal payments.
Under the Senior Credit Facility, the revolving line of credit expires on March
27, 2004 and the principal amount of (i) Term Loan B is repayable in quarterly
payments of $304,645 through March 27, 2004, three quarterly payments of
$28,636,594 and final amount of $24,303,053 on Term Loan B's maturity of April
2, 2005 and (ii) Term Loan C is repayable in quarterly payments of $216,111
through April 2, 2005, three quarterly payments of $20,098,295 and a final
amount of $17,024,140 on Term Loan C's maturity of April 1, 2006.
The Company's obligations under the Senior Credit Facility are secured by
substantially all of the assets of the Company and each of its domestic
subsidiaries (including a lien on all real property owned in the United States),
a pledge by the Company and each of its domestic subsidiaries of all the
outstanding capital stock of its respective domestic subsidiaries and a pledge
of 65% of the outstanding voting capital stock, and 100% of the outstanding
non-voting capital stock, of certain of its respective foreign subsidiaries. In
addition, payment of all obligations under the Senior Credit Facility is
guaranteed by each of the Company's domestic subsidiaries. Under the Senior
Credit Facility, the Company is required to make mandatory prepayments of
principal annually in an amount equal to 50% of Excess Cash Flow (as defined in
the Senior Credit Facility), and also in the event of certain dispositions of
assets or debt or equity issuances (all subject to
46
certain exceptions) in an amount equal to 100% of the net proceeds received by
the Company therefrom.
As a result of the February 2001 funding of the Company's Canadian Loan
Agreement (as defined below), the Company repaid $12.7 million in principal on
its U.S. term loan balance and reduced the maximum amount of borrowings under
its U.S. revolving line of credit by $12.3 million to $187.7 million. The
repayment of the Term Loan B and Term Loan C principal balances ratably reduced
the remaining quarterly principal payments. The reduction in the U.S. revolving
line of credit facility resulted in a write-off of $0.1 million of deferred debt
charges which is included in selling, general and administrative expenses in the
March quarter 2001.
During the March quarter 2002, Klopman International used existing cash balances
and borrowings under its credit agreements to complete a capital reduction of
$20.2 million with its European parent holding company (which is a wholly-owned
subsidiary of the Company). (See "--Liquidity and Capital Resources" above)
As a result of the Chapter 11 Filings, the Company and the Debtor subsidiaries
are currently in default under the Senior Credit Facility. (See "--Bankruptcy
Filing" above)
Pre-Petition Senior Subordinated Debt
In February 1998, the Company closed its private offering of $300.0 million
aggregate principal amount of 9 1/8% Senior Subordinated Notes Due 2008 (the
"Notes"). In May 1998, the Notes were exchanged for freely transferable
identical Notes registered under the Securities Act of 1933. Net proceeds from
the offering of $289.3 million (net of initial purchaser's discount and offering
expenses) were used to repay (i) $275.0 million principal amount of bridge
financing borrowings incurred to partially finance the acquisition of the
apparel fabrics business of Dominion Textile, Inc. on January 29, 1998 and (ii)
a portion of the outstanding amount under a revolving line of credit provided
for under the Senior Credit Facility. Interest on the Notes is payable on March
1 and September 1 of each year.
In August 2000, the Company and its noteholders amended the indenture, dated
February 24, 1998 (the "Indenture"), entered into in connection with the Notes
to amend the definition of "Permitted Investment" in the Indenture to allow the
Company and its Restricted Subsidiaries (as defined in the Indenture) to make
additional investments (as defined in the Indenture) totaling $15 million at any
time outstanding in one or more joint ventures which conduct manufacturing
operations primarily in Mexico. This amendment was completed to allow the
Company sufficient flexibility in structuring its investment in the Swift
Denim-Hidalgo joint venture.
The Notes are general unsecured obligations of the Company, subordinated in
right of payment to all existing and future senior indebtedness of the Company
and its subsidiaries and senior in right of payment to any subordinated
indebtedness of the Company. The Notes are unconditionally guaranteed, on an
unsecured senior subordinated basis, by Galey & Lord Industries, Inc., Swift
Denim Services, Inc., G&L Service Company North America, Inc., Swift Textiles,
Inc., Galey & Lord Properties, Inc., Swift Denim Properties, Inc. and other
future direct and indirect domestic subsidiaries of the Company.
47
The Notes are subject to certain covenants, including, without limitation, those
limiting the Company and its subsidiaries' ability to incur indebtedness, pay
dividends, incur liens, transfer or sell assets, enter into transactions with
affiliates, issue or sell stock of restricted subsidiaries or merge or
consolidate the Company or its restricted subsidiaries.
As a result of the Chapter 11 Filings, the Company and the Debtor subsidiaries
are currently in default under the Notes and the Indenture. As of the Filing
Date, the Company discontinued its interest accrual on the Notes and wrote off
$7.7 million of deferred debt fees and the remaining discount on the Notes.
Italian Loan Agreements
The Company's wholly-owned Italian subsidiary, Klopman International S.r.l., had
net borrowings of approximately $13.5 million outstanding under various
unsecured bank line-of-credit agreements as of March 29, 2003. The average
interest rate on these borrowings was 3.80% per annum for the three and six
months ended March 29, 2003 and the various line-of-credit agreements renew
automatically. The amount of outstanding credit allowed is subject to periodic
review by the issuing banks. As of March 29, 2003, total unused credit under
these agreements was approximately $38.5 million.
In addition, Klopman has an Italian government term loan of approximately $1.5
million. The term loan requires principal and interest payments through March
2011. The interest rate on such term loan is 4.11% per annum.
Canadian Loan Agreement
In February 2001, the Company's wholly-owned Canadian subsidiary, Drummondville
Services Inc. ("Drummondville"), entered into a Loan Agreement (the "Canadian
Loan Agreement") with Congress Financial Corporation (Canada), as lender. The
Canadian Loan Agreement provides for (i) a revolving line of credit under which
Drummondville may borrow up to an amount equal to the lesser of U.S. $16.0
million or a borrowing base (comprised of eligible accounts receivable and
eligible inventory of Drummondville, as defined in the Canadian Loan Agreement),
and (ii) a term loan in the principal amount of U.S. $9.0 million.
Under the Canadian Loan Agreement, the revolving line of credit expires in
February 2004 and the principal amount of the term loan is repayable in equal
monthly installments of $229,500 CDN with the unpaid balance repayable in
February 2004; provided, however, that the revolving line of credit and the
maturity of the term loan may be extended at the option of Drummondville for up
to two additional one year periods subject to and in accordance with the terms
of the Canadian Loan Agreement. Effective July 24, 2002, the term loan was
converted to U.S. dollars payable in equal monthly installments of U.S. $150,000
with the unpaid balance repayable in February 2004. Under the Canadian Loan
Agreement, the interest rate on Drummondville's borrowings initially is fixed
through the second quarter of fiscal year 2001 (March quarter 2001) at a per
annum rate, at Drummondville's option, of either LIBOR plus 2.75% or the U.S.
prime rate plus .75% (for borrowings in U.S. dollars) or the Canadian prime rate
plus 1.50% (for borrowings in Canadian dollars). Thereafter, borrowings will
bear interest at a per annum rate, at Drummondville's option, of either (i) the
U.S. prime rate plus 0%, .25%, .50%, .75%, or 1.00% (for borrowings in U.S.
dollars), (ii) the Canadian prime rate plus .75%, 1.00%, 1.25%, 1.50%, or 1.75%
(for borrowings in
48
Canadian dollars), or (iii) LIBOR plus 2.00%, 2.25%, 2.50%, 2.75% or 3.00%, all
based on Drummondville maintaining certain quarterly excess borrowing
availability levels under the revolving line of credit or Drummondville
achieving certain fixed charge coverage ratio levels (as set forth in the
Canadian Loan Agreement).
Drummondville's obligations under the Canadian Loan Agreement are secured by all
of the assets of Drummondville. The Canadian Loan Agreement contains certain
covenants, including, without limitation, those limiting Drummondville's ability
to incur indebtedness (other than incurring or paying certain intercompany
indebtedness), incur liens, sell or acquire assets or businesses, pay dividends,
make loans or advances or make certain investments. In addition, the Canadian
Loan Agreement requires Drummondville to maintain a certain level of tangible
net worth (as defined in the Canadian Loan Agreement). At March 29, 2003, the
Company was in compliance with the covenants of the Canadian Loan Agreement.
Tax Matters
At March 29, 2003, the Company had outstanding net operating loss carryforwards
("NOLs") for U.S. federal tax purposes and for state tax purposes of
approximately $164 million and approximately $189 million, respectively. The
federal NOLs will expire in years 2018-2022 if unused, and the state NOLs will
expire in years 2003-2022 if unused. In accordance with the Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes," a
valuation allowance of $60.1 million related to domestic and international net
operating losses has been established since it is more likely than not that some
portion of the deferred tax asset will not be realized.
Adequacy of Capital Resources
As discussed above, the Company and the Debtor subsidiaries are operating their
businesses as debtors-in-possession under Chapter 11 of the Bankruptcy Code. In
addition to the cash requirements necessary to fund ongoing operations, the
Company anticipates that it will incur significant professional fees and other
restructuring costs in connection with the Chapter 11 Filings and the
restructuring of its business operations. As a result of the uncertainty
surrounding the Company's current circumstances, it is difficult to predict the
Company's actual liquidity needs and sources at this time. However, based on
current and anticipated levels of operations, and efforts to effectively manage
working capital, the Company anticipates that its cash flow from operations
together with cash on hand, cash generated from asset sales, and amounts
available under the DIP Financing Agreements, the Canadian Loan Agreement and
certain other foreign bank loans (entered into by the non-Debtor subsidiaries),
will be adequate to meet its anticipated cash requirements during the pendency
of the Chapter 11 Filings.
In the event that cash flows and available borrowings under the DIP Financing
Agreement, the Canadian Loan Agreement and other foreign bank loans are not
sufficient to meet future cash requirements, the Company may be required to
reduce planned capital expenditures, sell assets or seek additional financing.
The Company can provide no assurance that reductions in planned capital
expenditures or proceeds from asset sales would be sufficient to cover
shortfalls in available cash or that additional financing would be available or,
if available, offered on acceptable terms.
49
As a result of the Chapter 11 Filings, the Company's access to additional
financing is, and for the foreseeable future will likely continue to be, very
limited. The Company's long-term liquidity requirements and the adequacy of the
Company's capital resources are difficult to predict at this time, and
ultimately cannot be determined until a plan of reorganization has been
developed and confirmed by the Bankruptcy Court in connection with the Chapter
11 Filings.
Other
The Company expects to spend approximately $13.8 million for capital
expenditures in fiscal 2003, of which $7.1 million was spent in the first six
months of fiscal 2003. The Company anticipates that approximately 25% of the
forecasted capital expenditures will be used to enhance the Company's capacity
while the remaining 75% will be used to maintain existing capacity.
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
In January 2003, the Financial Accounting Standards Board ("FASB") issued FASB
Interpretation No. 46, Consolidation of Variable Interest Entities ("FIN 46").
FIN 46 requires unconsolidated variable interest entities to be consolidated by
their primary beneficiaries. The Company does not believe that the adoption of
FIN 46 will have a material impact on the Company's consolidated financial
statements or related disclosures.
50
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in accordance with U.S. Generally
Accepted Accounting Principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes.
Chapter 11 Filings: On February 19, 2002, the Company and each of its domestic
subsidiaries filed voluntary petitions for reorganization under Chapter 11 of
the Bankruptcy Code in the United States Bankruptcy Court for the Southern
District of New York (Case Nos. 02-40445 through 02-40456 (ALG)). The Chapter 11
Filings pending for the Debtors are being jointly administered for procedural
purposes only. The Debtors' direct and indirect foreign subsidiaries and foreign
joint venture entities did not file petitions under Chapter 11 of the Bankruptcy
Code and are not the subject of any bankruptcy proceedings.
The accompanying consolidated financial statements are presented in accordance
with SOP 90-7. See "--Bankruptcy Filing."
Inventories: Inventories are stated at the lower of cost or market. On September
30, 2001, the Company changed its method of accounting for inventories to the
last-in, first-out (LIFO) method for its Swift Denim business which was acquired
on January 28, 1998. The LIFO method is used to cost substantially all
inventories in the U.S. and Canada. The cost of other inventories is determined
by the first-in, first-out (FIFO) method. The Company believes that utilizing
LIFO for the Swift Denim business will result in a better matching of costs with
revenues and provide consistency in accounting for inventory among the Company's
North American operations. The Company also believes the utilization of LIFO is
consistent with industry practice. Approximately $1.0 million and $2.3 million
of lower-of-cost-or-market (LCM) reserves were reversed in the three and six
months ended March 30, 2002 due to the change from FIFO to LIFO. In implementing
the change in inventory method for Swift Denim, the opening fiscal 2002
inventory value under LIFO is the same as the year ending FIFO inventory value
at September 29, 2001. The cumulative effect of implementing LIFO on prior
periods and the pro forma effects of retroactive application is not
determinable.
Impairment of Goodwill and Other Intangible Assets:
Effective as of the beginning of the Company's fiscal 2003, the Company adopted
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets" ("FAS 142"). This new standard eliminates the amortization of
goodwill and intangible assets with indefinite useful lives (collectively, the
"Intangible Assets"). Instead these assets must be tested at least annually for
impairment. In the year of adoption, FAS 142 also requires the Company to
perform an initial assessment of its reporting units to determine whether there
is any indication that the Intangible Assets' carrying value may be impaired.
This transitional assessment is made by comparing the fair value of each
reporting unit, as determined in accordance with the new standard, to its
carrying value. To the extent the fair value of any reporting unit is less than
its carrying value, which would indicate that potential impairment of Intangible
Assets exists, a second transitional test is required to determine the amount of
impairment.
51
For purposes of Intangible Assets impairment testing, FAS 142 requires that
goodwill be assigned to one or more reporting units. The Company has assigned
goodwill to the Swift Denim and Galey & Lord Apparel reporting units. In
addition to goodwill, Swift Denim also owns several trademarks whose useful
lives are considered to be indefinite.
The Company, with the assistance of an outside consultant, completed the initial
transitional assessment of its reporting units in the first quarter of fiscal
2003 and has determined that potential impairment of Intangible Assets exists in
both reporting units. During the second quarter of fiscal 2003, the Company
completed its assessment and, accordingly, the goodwill balance of $65.2 million
($0.8 million and $64.4 million at the Galey & Lord Apparel and Swift Denim
reporting units, respectively) was impaired and $22.2 million of the trademark
(Swift Denim reporting unit) was impaired. The impairment write-down resulting
from the transitional testing has been reported as a cumulative effect of an
accounting change, retroactive to the first day of fiscal 2003. In future years,
an impairment review of Intangible Assets will be conducted at least annually,
and any impairment charges that are required to be recorded will be charged to
operating income.
Investment in and advances to associated companies: In the consolidated balance
sheets, investments in and advances to associated companies represents several
joint ventures with ownership interests ranging from 33% to 50%. These joint
ventures are accounted for under the equity method of accounting. The results of
the Swift Denim-Hidalgo joint venture, which manufactures denim in Mexico and
was formed on August 18, 2001 with Grupo Dioral, is reported on a one-month lag.
At March 29, 2003 and March 30, 2002, the excess of the Company's investment
over its equity in the underlying net assets of its joint venture interests is
approximately $9.7 million and $10.0 million, respectively (net of accumulated
amortization of $3.0 million and $2.7 million, respectively), and prior to
adoption of FAS 142 on September 29, 2002 (the beginning of the Company's fiscal
2003), was being amortized on a straight-line basis over 20 years as a component
of the equity in earnings of the unconsolidated associated companies. Upon
adoption of FAS 142, the Company ceased amortizing the remaining investment over
its equity in the underlying net assets of its joint venture interests. However,
equity method goodwill will continue to be reviewed in accordance with APB
Opinion No. 18 "The Equity Method of Accounting for Investments in Common
Stock." The Company believes that no impairment of the equity method goodwill
existed at March 29, 2003.
Revenue Recognition: The Company recognizes revenues from product sales when
goods are shipped or when ownership is assumed by the customer. Consistent with
recognized practice in the textile industry, the Company records revenues on a
bill and hold basis, invoicing goods that have been produced, packaged and made
ready for shipment. The goods are effectively segregated from inventory which is
available for sale. The risk of ownership of the goods has passed to the
customer and remittance terms are consistent with all other sales by the
Company. During the first six months of fiscal 2003 and 2002, invoices issued
under these terms represent 12% and 12% of revenue, respectively.
The Company classifies amounts billed to customers for shipping and handling in
net sales and costs incurred for shipping and handling in cost of sales in the
consolidated statements of operations.
52
Allowance for Doubtful Accounts: An allowance for losses is provided for known
and potential losses arising from amounts owed by customers and quality claims.
Reserves for quality claims are based on historical experience and known pending
claims. The collectibility of customer accounts receivable is based on a
combination of factors including the aging of accounts receivable, write-off
experience and the financial condition of specific customers. Accounts are
written off when they are no longer deemed to be collectible. General reserves
are established based on the percentages applied to accounts receivables aged
for certain periods of time and are supplemented by specific reserves for
certain customer accounts where collection is no longer certain. Establishing
reserves for quality claims and bad debts requires management judgment and
estimates, which may impact the ending accounts receivable valuation, gross
margins and the provision for bad debts.
53
Forward Looking Statements
This Form 10-Q contains statements which constitute forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. Those statements
include statements regarding the intent and belief of current expectations of
the Company and its management team. Prospective investors are cautioned that
any such forward-looking statements are not guarantees of future performance and
involve risks and uncertainties, and that actual results may differ materially
from those projected in the forward-looking statements. Such risks and
uncertainties include, among other things, competitive and economic factors in
the textile, apparel and home furnishings markets, raw materials and other
costs, the level of the Company's indebtedness, interest rate fluctuations,
weather-related delays, general economic conditions, governmental legislation
and regulatory changes, the long-term implications of regional trade blocs and
the effect of quota phase-out and lowering of tariffs under the WTO trade
regulations and other risks and uncertainties that may be detailed herein, or in
the Company's Annual Report on Form 10-K for the fiscal year ended September 28,
2002. In addition, such risks and uncertainties include those related to the
Chapter 11 Filings, including, without limitation, those detailed herein.
54
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Information relative to the Company's market risk sensitive instruments by major
category at September 28, 2002 is presented under Item 7a of the registrant's
Annual Report on Form 10-K for the fiscal year ended September 28, 2002.
Foreign Currency Exposures
The Company conducts its business in various foreign currencies and, as a
result, is exposed to movements in foreign currency exchange rates. To protect
against the volatility of forecasted foreign currency sales and purchases and
accounts receivable and payable denominated in foreign currencies, the Company
uses natural offsets and forward contracts. As of March 29, 2003, the result of
a uniform 10% change in the value of the U.S. dollar relative to currencies of
countries in which the Company manufactures or sells its products would not be
material.
Cotton Commodity Exposures
Purchase contracts are used to hedge against fluctuations in the price of raw
material cotton. Increases or decreases in the market price of cotton may effect
the fair value of cotton commodity purchase contracts. A 10% decline in market
price as of March 29, 2003 would have a negative impact of approximately $5.1
million.
Derivative Financial Instruments
The Company follows the accounting provisions of Statement of Financial
Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended ("FAS 133"), which requires that all derivative
instruments be reported on the balance sheet at fair value and establishes
criteria for designation and effectiveness of hedging relationships.
The Company uses forward exchange contracts to reduce the effect of fluctuating
foreign currencies on sales, purchases, short-term assets and commitments. These
short-term assets and commitments principally related to accounts receivable and
trade payable positions and fixed asset purchase obligations. The Company also
enters into energy purchase contracts to lock in natural gas prices when rates
are attractive for its forecasted natural gas usage in the normal course of
business. The Company does not utilize derivative financial instruments for
trading or other speculative purposes. The Company actively evaluates the
creditworthiness of the financial institutions that are counterparties to
derivative financial instruments, and it does not expect any counterparties to
fail to meet their obligations.
Cash Flow Hedging Strategy
The Company conducts its business in various foreign currencies and, as a
result, is exposed to movements in foreign currency exchange rates. To protect
against the volatility of forecasted foreign currency cash flows resulting from
sales or purchases denominated in other than the Company's functional currencies
over the next year, the Company has instituted a foreign currency hedging
program. The Company hedges portions of its forecasted sales and purchases
denominated in foreign currencies with forward contracts.
55
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Derivative Financial Instruments (Continued)
The Company uses natural gas in the ordinary course of its business and enters
into energy purchase contracts, when deemed appropriate, to hedge the exposure
to variability in expected future cash flows attributable to price fluctuations
related to the forecasted purchases of natural gas.
Foreign currency forward contracts that hedge forecasted sales and purchases and
energy purchase contracts are designated as cash flow hedges. The amount of gain
or loss resulting from hedge ineffectiveness for these contracts is attributable
to the difference in the spot exchange rates and forward contract rates. The net
gain was not material for the three and six months ended March 29, 2003.
Fair Value Hedging Strategy
The Company also maintains foreign currency forward contracts to hedge
receivables and payables denominated in foreign currencies. These contracts are
designated as fair value hedges. The gain or loss resulting from hedge
ineffectiveness for these contracts is attributable to the difference in spot
exchange rates and forward contract rates.
At March 29, 2003, the Company had no forward contracts or energy purchase
contracts outstanding.
56
Item 4. CONTROLS AND PROCEDURES
In designing and evaluating the Company's disclosure controls and procedures (as
defined in Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934, as
amended ("Exchange Act")), management recognized that any control and
procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives, as ours are
designed to do, and management necessarily was required to apply its judgment in
evaluating the cost-benefit relationship of possible controls and procedures.
Based on a recent evaluation, which was performed within 90 days of the filing
of this Quarterly Report on Form 10-Q, our Chief Executive Officer and Chief
Accounting Officer have concluded that our disclosure controls and procedures
are effective in timely alerting them to material information relating to the
Company (including the Company's consolidated subsidiaries) required to be
included in periodic reports filed under the Exchange Act. There have been no
significant changes in our internal controls or in other factors that could
significantly affect these controls subsequent to March 29, 2003.
57
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
For a discussion of Chapter 11 Filings, see Note A - Bankruptcy
Filing in the Notes to Consolidated Financial Statements and
Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Item 2. Changes in Securities and Use of Proceeds (not applicable)
Item 3. Defaults Upon Senior Securities
The commencement of the Chapter 11 Filings constitutes an event of
default under the Senior Credit Facility, the 9 1/8% Senior
Subordinated Notes and the Indenture related thereto, and the
Company's South Carolina Job and Economic Development Authority
Bonds ("JEDA Bonds"). At March 29, 2003, principal in the amount of
$300 million and $4.8 million is in default in relation to the 9
1/8% Senior Subordinated Notes and the JEDA Bonds, respectively. The
payment of interest accruing under the 9 1/8 % Senior Subordinated
Notes and the JEDA Bonds after February 19, 2002 is stayed in
connection with the Chapter 11 Filings. At March 29, 2003, $12.8
million of accrued interest expense related to the 9 1/8% Senior
Subordinated Notes is recorded on the Company's Consolidated Balance
Sheet and is in default. Had the payment of interest not been stayed
subsequent to February 19, 2002, an additional $30.6 million of
interest would have been accrued and considered in default.
Item 4. Submission of Matters to a Vote of Security Holders (not applicable)
Item 5. Other Information (not applicable)
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits - The exhibits to this Form 10-Q are listed in the
accompanying Exhibit Index
(b) Reports on Form 8-K - None
58
EXHIBIT INDEX
Exhibit Sequential
Number Description Page No.
- ------- ----------- ----------
10.84 Fourth Amendment to the Galey & Lord
Retirement Savings Plan (401(k)),
as Amended and Restated.
99.1 Chief Executive Officer's Certificate
Pursuant to 18 U.S.C. Section 1350,
As Adopted Pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
99.2 Chief Accounting Officer's Certificate
Pursuant to 18 U.S.C. Section 1350,
As Adopted Pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
59
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Galey & Lord, Inc.
---------------------------
(Registrant)
/s/ Leonard F. Ferro
---------------------------
Leonard F. Ferro
Vice President
May 13, 2003
Date
60
CERTIFICATIONS
I, Arthur C. Wiener, certify that:
1.) I have reviewed this quarterly report on Form 10-Q of Galey & Lord,
Inc.;
2.) Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3.) Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4.) The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a) Designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5.) The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) All significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and
report financial data and have identified for the
registrant's auditors any material weaknesses in internal
controls; and
b) Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
6.) The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
May 13, 2003 /s/ Arthur C. Wiener
---------------------------
Date Arthur C. Wiener
Chairman of the Board
and President
61
CERTIFICATIONS
I, Leonard F. Ferro, certify that:
1.) I have reviewed this quarterly report on Form 10-Q of Galey & Lord,
Inc.;
2.) Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3.) Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4.) The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a. Designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b. Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c. Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5.) The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a. All significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and
report financial data and have identified for the
registrant's auditors any material weaknesses in internal
controls; and
b. Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
6.) The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
May 13, 2003 /s/ Leonard F. Ferro
---------------------------
Date Leonard F. Ferro
Vice President and Chief
Accounting Officer
62