UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED FEBRUARY 27, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 333-20759
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COMMEMORATIVE BRANDS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 13-3915801
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
7211 CIRCLE S ROAD
AUSTIN, TEXAS 78745
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (512) 444-0571
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 [ ] No [X]. (Effective
December 31, 1997, registrant is no longer subject to such filing
requirements.)
COMMEMORATIVE BRANDS, INC.
FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED FEBRUARY 27, 1999
INDEX
Page
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements and Notes
Consolidated Balance Sheets-
As of February 27, 1999 (unaudited) and August 29, 1998 (audited)...................... 1
Consolidated Statements of Operations-
For the Three Months Ended February 27, 1999 and February 28, 1998
(all unaudited)........................................................................ 2
Consolidated Statements of Operations-
For the Six Months Ended February 27, 1999 and February 28, 1998
(all unaudited)........................................................................ 3
Consolidated Statements of Stockholders' Equity -
For the Six Months Ended February 27, 1999 (unaudited) and for the
Year Ended August 29, 1998 (audited).................................................... 4
Consolidated Statements of Cash Flows -
For the Six Months Ended February 27, 1999 and February 28, 1998
(all unaudited).......................................................................... 5
Notes to Consolidated Financial Statements................................................... 6-15
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..... 16-21
PART II. OTHER INFORMATION
Item 1. Legal Proceedings......................................................................... 22
Item 2. Changes in Securities..................................................................... 22
Item 3. Defaults Upon Senior Securities........................................................... 22
Item 4. Submission of Matters to a Vote of Security Holders....................................... 22
Item 6. Exhibits and Reports on Form 8-K.......................................................... 22
SIGNATURES......................................................................................... 23
PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS AND NOTES
COMMEMORATIVE BRANDS, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
February 27, August 29,
1999 1998
-------------- ------------
ASSETS (Unaudited) (Audited)
Current assets:
Cash and cash equivalents $ 1,719 $ 975
Accounts receivable, net 33,776 24,705
Inventories 14,670 14,299
Prepaid expenses and other current assets 10,773 10,517
-------------- ------------
Total current assets 60,938 50,496
Property, plant and equipment, net 38,797 36,294
Trademarks, net 29,043 29,427
Goodwill, net 79,462 80,517
Other assets 7,845 7,071
-------------- ------------
Total assets $ 216,085 $ 203,805
-------------- ------------
-------------- ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Bank overdraft $ 3,808 $ 3,138
Accounts payable and accrued expenses 28,170 22,116
Current portion of long-term debt 1,500 1,983
-------------- ------------
Total current liabilities 33,478 27,237
Long-term debt, net of current portion 137,668 132,339
Other long-term liabilities 9,607 9,383
-------------- ------------
Total liabilities 180,753 168,959
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value, 750,000 shares authorized (in total)-
Series A, 100,000 shares issued and outstanding 1 1
Series B, 377,156 shares issued and outstanding 4 4
Common stock, $.01 par value, 750,000 shares authorized, 377,156
shares issued and outstanding 4 4
Additional paid-in capital 50,391 50,391
Retained earnings (deficit) (15,068) (15,554)
-------------- ------------
Total stockholders' equity 35,332 34,846
-------------- ------------
Total liabilities and stockholders' equity $ 216,085 $ 203,805
-------------- ------------
-------------- ------------
The accompanying notes are an integral part of these consolidated financial
statements.
-1-
COMMEMORATIVE BRANDS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share and per share data)
(Unaudited)
For Three Months For Three Months
Ended Ended
February 27, February 28,
1999 1998
---------------- ----------------
Net sales $ 43,323 $ 44,168
Cost of sales 18,930 19,767
---------------- ----------------
Gross profit 24,393 24,401
Selling, general and administrative expenses 19,358 18,558
---------------- ----------------
Operating income 5,035 5,843
Interest expense, net 3,906 3,776
---------------- ----------------
Income before provision for income taxes 1,129 2,067
Provision for income taxes 30 -
---------------- ----------------
Net income $ 1,099 $ 2,067
Preferred dividends (300) (300)
---------------- ----------------
Net income to common stockholders $ 799 $ 1,767
---------------- ----------------
---------------- ----------------
Basic and diluted earnings
per share $ 2.12 $ 4.71
---------------- ----------------
---------------- ----------------
Weighted average common shares outstanding and common and
common equivalent shares outstanding 377,156 375,000
---------------- ----------------
---------------- ----------------
The accompanying notes are an integral part of these consolidated financial
statements.
-2-
COMMEMORATIVE BRANDS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share and per share data)
(Unaudited)
For Six Months For Six Months
Ended Ended
February 27, February 28,
1999 1998
----------------- -----------------
Net sales $ 84,501 $ 82,532
Cost of sales 36,137 36,993
----------------- -----------------
Gross profit 48,364 45,539
Selling, general and administrative expenses 39,566 35,118
----------------- -----------------
Operating income 8,798 10,421
Interest expense, net 7,652 7,376
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Income before provision for income taxes 1,146 3,045
Provision for income taxes 60 -
----------------- -----------------
Net income $ 1,086 $ 3,045
Preferred dividends (600) (600)
----------------- -----------------
Net income to common stockholders $ 486 $ 2,445
----------------- -----------------
----------------- -----------------
Basic and diluted earnings
per share $ 1.29 $ 6.52
----------------- -----------------
----------------- -----------------
Weighted average common shares outstanding and common and
common equivalent shares outstanding 377,156 375,000
----------------- -----------------
----------------- -----------------
The accompanying notes are an integral part of these consolidated financial
statements.
-3-
COMMEMORATIVE BRANDS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands, except share data )
Preferred stock
-----------------------------------------------------
Series A Series B
------------------------- -------------------------
Shares Amount Shares Amount
------------------------- -------------------------
Balance, August 30, 1997 100,000 $ 1 375,000 $ 4
Issuance of Common Stock - - - -
Issuance of Preferred Stock - - 2,156 -
Accrued Preferred Stock dividends - - - -
Net loss - - - -
------------------------- -------------------------
Balance, August 29, 1998 100,000 1 377,156 4
Accrued Preferred Stock dividends - - - -
Net income - - - -
------------------------- -------------------------
Balance, February 27, 1999 100,000 $ 1 377,156 $ 4
------------------------- -------------------------
Common stock
------------------------
Additional
paid-in Retained
Shares Amount capital earnings (deficit) Total
------------------------ ------------ ------------------ ----------
Balance, August 30, 1997 375,000 $ 4 $ 50,161 $ (9,717) $ 40,453
Issuance of Common Stock 2,156 - 14 - 14
Issuance of Preferred Stock - - 216 - 216
Accrued Preferred Stock dividends - - - (1,200) (1,200)
Net loss - - - (4,637) (4,637)
------------------------ ------------ ----------------- ------------
Balance, August 29, 1998 377,156 4 50,391 (15,554) 34,846
Accrued Preferred Stock dividends - - - (600) (600)
Net income - - - 1,086 1,086
------------------------ ------------ ----------------- ------------
Balance, February 27, 1999 377,156 $ 4 $ 50,391 $ (15,068) $ 35,332
------------------------ ------------ ----------------- ------------
The accompanying notes are an integral part of these consolidated financial
statements.
-4-
COMMEMORATIVE BRANDS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
For Six Months Ended
February 27, February 28,
1999 1998
----------------- -----------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 1,086 $ 3,045
Adjustments to reconcile net income to net cash
provided by (used in) operating activities-
Depreciation and amortization 3,514 3,316
Provision for doubtful accounts 360 354
Changes in assets and liabilities-
Increase in account receivables (9,431) (11,809)
Increase in inventories (371) (2,124)
Increase (decrease) in prepaid expenses and other current assets (256) 3,249
Increase in other assets (774) (754)
Increase in bank overdraft, accounts payable and accrued expenses,
and other long-term liabilities 6,348 992
---------------- -----------------
Net cash provided by (used in) operating activities 476 (3,731)
---------------- -----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (4,578) (3,021)
---------------- -----------------
Net cash used in investing activities (4,578) (3,021)
---------------- -----------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on term loan facility (500) (250)
Note borrowings, net 5,346 9,000
---------------- ----------------
Net cash provided by financing activities 4,846 8,750
NET INCREASE IN CASH AND CASH EQUIVALENTS 744 1,998
CASH AND CASH EQUIVALENTS, beginning of period 975 2,174
---------------- -----------------
CASH AND CASH EQUIVALENTS, end of period $ 1,719 $ 4,172
---------------- -----------------
---------------- -----------------
SUPPLEMENTAL DISCLOSURE
Cash paid during the period for -
Interest $ 6,030 $ 6,506
---------------- -----------------
---------------- -----------------
Taxes $ - $ -
---------------- -----------------
---------------- -----------------
SUPPLEMENTAL DISCLOSURE OF NONCASH FINANCING ACTIVITIES
Accrued preferred stock dividends $ 600 $ 600
---------------- -----------------
---------------- -----------------
The accompanying notes are an integral part of these consolidated financial
statements.
-5-
COMMEMORATIVE BRANDS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) BACKGROUND AND ORGANIZATION
Commemorative Brands, Inc., a Delaware corporation (together with its
subsidiaries, CBI or the Company), is a manufacturer and supplier of class rings
and other graduation-related scholastic products for the high school and college
markets, and manufactures and markets recognition and affinity jewelry designed
to commemorate significant events, achievements and affiliations. The Company's
corporate office and primary manufacturing facilities are located in Austin,
Texas.
CBI was initially formed in March 1996 by Castle Harlan Partners II, L.P.
(CHPII), a Delaware limited partnership and private equity investment fund, for
the purpose of acquiring (the Acquisition) substantially all of the scholastic
and recognition and affinity product assets and businesses of the ArtCarved
Class Rings (ArtCarved) operations of CJC Holdings, Inc. (CJC), from CJC and of
L. G. Balfour Company, Inc. (Balfour) from Town & Country Corporation and,
until December 16, 1996, engaged in no business activities other than in
connection with the Acquisitions and the financing thereof.
The accompanying consolidated financial statements have been prepared
without audit pursuant to the rules and regulations of the Securities and
Exchange Commission. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations, although the Company believes the disclosures are adequate to make
the information presented not misleading. In the opinion of management, all
adjustments (consisting only of normal recurring adjustments) necessary for a
fair presentation of the financial position and results of operations for the
periods presented have been included. Operating results for the six months ended
February 27, 1999 are not necessarily indicative of the results that may be
expected for the fiscal year ending August 28, 1999.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
FISCAL YEAR-END
CBI uses a 52/53-week fiscal year ending on the last Saturday of August.
CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All material intercompany accounts and transactions have
been eliminated in consolidation.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include highly liquid investments with original
maturities of three months or less.
-6-
INVENTORIES
Inventories, which include raw materials, labor and manufacturing overhead,
are stated at the lower of cost or market using the first-in, first-out (FIFO)
method.
ADVERTISING
The Company incurs advertising and promotion costs that are directly
related to a product in advance of the sale occurring. These amounts are
included in prepaid expenses and other current assets and are amortized over the
period in which the sale of products occurs.
SALES REPRESENTATIVE ADVANCES AND RESERVE FOR SALES REPRESENTATIVE ADVANCES
The Company advances funds to new sales representatives in order to open up
new sales territories and makes payments to predecessor sales representatives on
behalf of successor sales representatives. Such amounts are repaid by the sales
representatives through earned commissions on product sales. The Company
provides reserves to cover those amounts which it estimates to be uncollectible.
These amounts are included in prepaid expenses and other current assets in the
accompanying balance sheets.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost, net of accumulated
depreciation. Depreciation is provided principally using the straight-line
method based on estimated useful lives of the assets as follows:
Description Useful Life
- ----------- -----------
Land improvements 15 years
Buildings and improvements 10 to 25 years
Tools and dies 10 to 20 years
Machinery and equipment 2 to 10 years
Maintenance, repairs and minor replacements are charged against income as
incurred; major replacements and betterments are capitalized. The cost of assets
sold or retired and the related accumulated depreciation are removed from the
accounts at the time of disposition, and any resulting gain or loss is reflected
as other income or expense for the period.
TRADEMARKS
The value of trademarks was determined based on a third-party appraisal and
is being amortized on a straight-line basis over 40 years.
IMPAIRMENT OF LONG-LIVED ASSETS
In March 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards (SFAS) No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." This statement
deals with accounting for the impairment of long-lived assets, certain
identifiable intangibles and goodwill related to assets to be held and used, and
for long-lived assets and certain identifiable intangibles to be disposed of.
This statement requires that long-lived assets (e.g., property, plant and
equipment and intangibles) be reviewed for impairment whenever events or changes
in circumstances, such as change in market value, indicate that the assets'
carrying amounts may not be recoverable. In performing the review for
recoverability, if future undiscounted cash flows (excluding interest charges)
from the use and ultimate disposition of the assets are less than their carrying
values, an impairment loss is recognized. Impairment losses are to be measured
based on the fair value of the asset. When factors indicate that long-lived
assets should be evaluated for possible impairment, the Company uses an estimate
of the related product lines' undiscounted cash flows over the remaining lives
of the assets in measuring whether the assets are recoverable.
-7-
GOODWILL
Costs (including transaction costs) in excess of fair value of net tangible
and identifiable intangible assets acquired are included in goodwill in the
accompanying balance sheets. Goodwill is being amortized on a straight-line
basis over 40 years. The Company continually evaluates whether events and
circumstances have occurred that indicate that the remaining estimated useful
life of goodwill may warrant revision or that the remaining balance of goodwill
may not be recoverable. If factors indicate that goodwill should be evaluated
for possible impairment, the Company would use an estimate of the related
product lines' undiscounted cash flows over the remaining life of the goodwill
in measuring whether the goodwill is recoverable.
OTHER ASSETS
Other assets include deferred financing costs which are amortized
straight-line over the lives of the specific debt and ring samples to national
chain stores and sales representatives which are amortized straight-line over
three years.
INCOME TAXES
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. Deferred tax assets are
recognized net of any valuation allowance. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period that
includes the enactment date.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments consist primarily of cash and cash
equivalents, accounts receivable, bank overdraft, accounts payable and long-term
debt (including current maturities). The carrying amounts of the Company's cash
and cash equivalents, accounts receivable, bank overdraft and accounts payable
approximate fair value due to their short-term nature. The fair value of the
Company's long-term debt approximates the recorded amount based on current rates
available to the Company for debt with the same or similar terms.
REVENUE RECOGNITION
Revenues from product sales are recognized at the time the product is
shipped.
CONCENTRATION OF CREDIT RISK
Credit is extended to various companies in the retail industry which may be
affected by changes in economic or other external conditions. The Company's
policy is to manage its exposure to credit risk through credit approvals and
limits.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from these estimates.
-8-
NEW ACCOUNTING PRONOUNCEMENTS
In March 1997, the Financial Accounting Standards Board issued SFAS No.
128, "Earnings Per Share." SFAS No. 128 revises the standards for computing
earnings per share currently prescribed by Accounting Principles Board (APB)
Opinion No. 15. SFAS No. 128 retroactively revises the presentation of earnings
per share in the financial statements. The Company adopted SFAS No. 128 for the
fiscal year ended August 29, 1998. Basic and diluted earnings per share are the
same as the average market price of the Company's common stock during the
periods and does not exceed the exercise price of the options and warrants
outstanding (the options and warrants are not "in the money").
SFAS No. 130, "Reporting Comprehensive Income", is required to be adopted
by the Company for the fiscal year ending August 28, 1999, and the statement
requires the presentation of comprehensive income in an entity's financial
statements. Comprehensive income represents all changes in equity of an entity
during the reporting period, including net income and charges directly to equity
which are excluded from net income. This statement is not anticipated to have
any impact on the Company's disclosures as the Company currently does not enter
into any transactions which result in charges (or credits) directly to equity
(such as additional minimum pension liability changes, currency translation
adjustments, unrealized gains and losses on available-for-sale securities,
etc.).
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," is required to be adopted by the Company for the fiscal year
ending August 28, 1999. SFAS No. 131 provides revised disclosure guidelines for
segments of an enterprise based on a management approach to defining operating
segments. The Company currently operates in only one industry segment and
analyzes operations on a companywide basis; therefore, the statement is not
expected to impact the Company's disclosures.
SFAS No. 132, "Employers Disclosure about Pensions and Other Postretirement
Benefits", is required to be adopted by the Company for the fiscal year ending
August 28, 1999. It revises employers' disclosures about pension and other
post-retirement benefit plans, but it does not change the measurement or
recognition of those plans.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities", is required to be adopted by the Company in the first quarter of
fiscal year 2000 (November 1999). It establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities. It requires that an
entity recognize all derivatives as either assets or liabilities in the balance
sheet and measure those instruments at fair value. Management believes that the
adoption of this standard will not have a material effect on the Company's
financial position or results of operations.
-9-
(3) INVENTORIES
A summary of inventories is as follows (in thousands):
February 27, August 29,
1999 1998
---------------- -----------------
Raw materials $ 7,924 $ 8,754
Work in process 4,989 3,139
Finished goods 1,757 2,406
---------------- -----------------
$ 14,670 $ 14,299
---------------- -----------------
---------------- -----------------
Cost of sales includes depreciation and amortization of $1,190,000 and
$1,052,000, for the six months ended February 27, 1999 and February 28, 1998,
respectively.
(4) LONG-TERM DEBT
Long-term debt consists of the following (in thousands):
February 27, August 29,
1999 1998
---------------- ----------------
11% senior subordinated notes due 2007 $ 90,000 $ 90,000
Term loan facility 23,500 24,000
Bank revolver 25,668 19,589
Short-term revolving credit - 733
---------------- ----------------
Total debt $ 139,168 $ 134,322
Less: current portion 1,500 1,983
---------------- ----------------
Total long-term debt $ 137,668 $ 132,339
---------------- ----------------
---------------- ----------------
11 PERCENT SENIOR SUBORDINATED NOTES
The Company's 11 percent senior subordinated notes (the "Notes") mature on
January 15, 2007. The Notes are redeemable at the option of the Company, in
whole or in part, at any time on or after January 15, 2002, at specified
redemption prices ranging from 105.5% of the principal amount thereof if
redeemed during 2002 and declining to 100% of the principal amount thereof if
redeemed during the year 2005 or thereafter, plus accrued and unpaid interest
and Liquidated Damages (as defined in the Indenture), if any, thereon to the
date of redemption. In the event the Company completes one or more Public
Equity Offerings (as defined in the Indenture) on or before January 15, 2000,
the Company may, in its discretion, use the net cash proceeds to redeem up to
33-1/3 percent of the original principal amount of the notes at a redemption
price equal to 111 percent of the principal amount thereof, plus accrued and
unpaid interest and liquidated damages, if any, thereon to the date of
redemption provided that at least 66-2/3 percent of the original principal
amount of the notes remains outstanding immediately after each such
redemption.
In the event of a Change of Control (as defined), each holder of the Notes
will have the right to require the Company to purchase all or any part of such
holder's Notes at a purchase price in cash equal to 101% of the aggregate
principal amount thereof, plus accrued and unpaid interest and Liquidated
Damages, if any, thereon to the date of purchase. The Bank Agreement prohibits
the Company from purchasing any Notes upon a Change of Control, and certain
Change of Control events with respect to the Company would constitute a default
thereunder.
In the event of an Asset Sale (as defined), the Company is required to
apply any Net Proceeds (as defined) to permanently reduce senior indebtedness,
to acquire another business or long-term assets or to make capital expenditures.
To the extent such amounts are not so applied within thirty days and the amount
not applied exceeds $5.0 million, the Company is required to make an offer to
all holders of the Notes to purchase an aggregate principal amount of Notes
equal to such excess amount at a purchase price in cash equal to 100% of the
principal amount thereof, plus accrued and unpaid interest and Liquidated
Damages, if any, thereon to the date of purchase.
-10-
The 11 percent senior subordinated notes contain certain covenants that,
among other things, limit the ability of the Company to (a) incur additional
indebtedness and issue preferred stock, (b) pay dividends or make certain other
restricted payments, (c) enter into transactions with affiliates, (d) create
certain liens, (e) make certain asset dispositions and (f) merge or consolidate
with, or transfer substantially all of its assets to, another person. The
Company was in compliance with the Indenture covenants as of February 27, 1999
and August 29, 1998.
REVOLVING CREDIT, TERM LOAN AND GOLD CONSIGNMENT AGREEMENT
The Company has a revolving credit, term loan and gold consignment
agreement which was entered into as of December 16, 1996 (as amended, the Bank
Agreement) with a group of banks pursuant to which the Company initially
borrowed $25 million under a term loan facility and from time-to-time may borrow
up to $35 million under a revolving credit and gold facility. Loans outstanding
under the Bank Agreement bear interest at either fixed or floating rates based
upon the interest rate option selected by the Company.
TERM LOAN FACILITY
The term loan facility (Term Loan) matures on December 16, 2003. The
Company may prepay the Term Loan at any time. The Company must repay specified
amounts of the Term Loan in 28 consecutive quarterly installments which
commenced March 31, 1997.
REVOLVING CREDIT AND GOLD FACILITIES
The revolving credit and gold facilities (Revolving Credit and Gold
Facilities) permit borrowings of up to a maximum aggregate principal amount of
$35 million based upon availability under a borrowing base based on eligible
receivables and eligible inventory (each as defined in the Revolving Credit and
Gold Facilities), with a sublimit of $5 million for letters of credit and $10
million for gold borrowings or consignment.
The Revolving Credit and Gold Facilities may be borrowed, repaid and
reborrowed from time to time until December 16, 2001, subject to certain
conditions on the date of any such borrowing. Amounts of principal repaid on the
Term Loan may not be reborrowed.
The Bank Agreement is secured by a first priority lien on substantially
all assets of the Company, including all accounts receivable, inventory,
equipment, general intangibles, real estate, buildings and improvements and the
outstanding stock of its subsidiaries. The Company's U.S. subsidiary, CBI North
America, Inc., has guaranteed the Company's obligations and granted a similar
security interest.
The Bank Agreement contains certain financial covenants that require the
Company to maintain certain minimum levels of (a) senior funded debt to earnings
before interest, taxes, depreciation and amortization (EBITDA, as defined in the
Bank Agreement), (b) consolidated EBITDA and (c) interest coverage. The
financial covenants were amended on November 27, 1998 and additional covenants
were added pursuant to which the Company agreed that it would not (i) permit its
Consolidated Net Worth (as defined in the Bank Agreement) as of March 30, 1999
to be less than $42 million, (ii) pay the management fee payable to Castle
Harlan, Inc. (see Note 8) unless at the time of payment (A) no Event of Default
(as defined under the Bank Agreement) shall have occurred and be continuing or
would result from the payment thereof; (B) the Short Term Revolving Credit (see
"Short Term Revolving Credit" below) shall have been paid in full; and (C) the
Company meets the requisite Modified Funded Debt Ratio (as defined in the Bank
Agreement) and (iii) permit or make certain capital expenditures for computer
conversion projects in excess of $6,500,000 in the aggregate during fiscal 1998
and 1999 and the first fiscal quarter of 2000. As of March 30, 1999, the
foregoing Consolidated Net Worth covenant was further amended by agreement among
the Company and the banks to extend the date by which the Company must meet the
test from March 30, 1999 to May 27, 1999 and to increase the Consolidated Net
Worth to be not less than $44.0 million. The Bank Agreement also contains
covenants which, among other things, limit the ability of the Company and its
subsidiaries to (a) incur additional indebtedness, (b) acquire and dispose of
assets, (c) create liens, (d) make capital expenditures, (e) pay dividends on or
redeem shares of the Company's capital stock, and (f) make certain investments.
The Company was in compliance with all debt covenants under the Bank Agreement
as of February 27, 1999 and
-11-
August 29, 1998.
Management believes that cash flows generated by existing operations
and its available borrowings under its Bank Credit Facility and Short Term
Revolving Credit will be sufficient to fund its ongoing operations. The Short
Term Revolving Credit facility, as extended, expires May 28, 1999. There can
be no assurance that such facility can be further extended or that the
Company can obtain additional financing in its place. In addition, the Bank
Agreement, as amended, requires the Company to have a Consolidated Net Worth
(as defined in the Bank Agreement) as of May 27, 1999 of at least $44.0
million. Although the Company is exploring its financing and capital raising
alternatives, there can be no assurance that the Company will be able to meet
this net worth covenant or the other financial covenants under the Bank
Agreement or that the Company will be able to obtain waivers from the banks
with respect to any future non-compliance.
Availability under the Revolving Credit and Gold Facilities is subject to a
borrowing base limitation (the Borrowing Base) based on the aggregate of certain
percentages of Eligible Receivables (as defined in the Revolving Credit and Gold
Facilities) and Eligible Inventory (as defined in the Revolving Credit and Gold
Facilities) of the Company. The Borrowing Base is recalculated each month. If
the aggregate amount of loans and other extensions of credit under the Revolving
Credit and Gold Facilities exceeds the Borrowing Base, the Company must
immediately repay or cash collateralize its obligations under the Revolving
Credit and Gold Facilities to the extent of such excess. At February 27, 1999,
the Company had $3,046,000 available under the Revolving Credit Facility and
$2,035,000 available under the Gold Facility.
The Bank Agreement contains certain customary events of default,
including nonpayment, misrepresentation, breach of covenant, bankruptcy,
ERISA, judgments, change of control and cross defaults. In addition, the Bank
Agreement provides that it shall be an Event of Default if the Company or any
of its subsidiaries (other than its Mexican subsidiary) shall be enjoined or
restrained from conducting any material part of its business for more than 30
days.
CONSIGNED GOLD
Under the Company's gold consignment/loan arrangements, the Company has the
ability to have on consignment up to 26,000 ounces of gold or alternatively to
borrow up to $10 million for the purchase of gold. Under these arrangements, the
Company is limited to a maximum value of $10 million in consigned inventory
and/or gold loan funds. For the six months ended February 27, 1999 and February
28, 1998, the Company expensed approximately $122,000 and $138,000 respectively,
in connection with consignment fees. Under the terms of the consignment
arrangement, the Company does not own the consigned gold until it is shipped in
the form of a ring to a customer. Accordingly, the Company does not include the
value of consigned gold in inventory or the corresponding liability for
financial statement purposes. As of February 27, 1999 and August 29, 1998, the
Company held approximately 14,811 ounces and 13,846 ounces, respectively, valued
at $4.3 million and $3.8 million, respectively, of gold on consignment from one
of its lenders.
SHORT TERM REVOLVING CREDIT
On August 26, 1998, the Company obtained a short-term line of credit (as
amended, the Short Term Revolving Credit), pursuant to which the Company may
borrow up to $8,000,000 from BankBoston, N.A. (BankBoston), from time to
time. The Short Term Revolving Credit was initially set to expire on March
31, 1999, but on March 30, 1999 was extended through May 28, 1999. At
February 27, 1999 and August 29, 1998, the Company had $8,000,000 and
$7,267,000, respectively, available under the Short Term Revolving Credit.
Amounts outstanding under the Short Term Revolving Credit bear interest at
either fixed or floating rates based upon the interest rate option selected
by the Company. Any amounts borrowed pursuant to the Short Term Revolving
Credit will be due and payable on May 28, 1999. Any Event of Default under
the Bank Agreement will also constitute an Event of Default under the Short
Term Revolving Credit. Pursuant to the terms of the Company's Bank Agreement,
the Company is prohibited from repaying the outstanding principal of the
Short Term Revolving Credit unless at the time of repayment both before and
after giving effect to such repayment, no Default or Event of Default (as
defined in the Bank Agreement) exists under the Bank Agreement and the
Borrowing Base exceeds all outstanding amounts under the Revolving Credit and
Gold Facilities by at least $2 million. The Short Term Revolving Credit is
unsecured. All of the Company's obligations under the Short Term Revolving
Credit are guaranteed by CHPII. The Company has agreed to indemnify CHPII and
pay CHPII upon demand any amounts that CHPII must pay pursuant to the
guaranty (see Note 8). The Short Term Revolving Credit constitutes Designated
Senior Indebtedness for purposes of the Indenture.
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The long-term debt outstanding as of February 27, 1999, matures as follows
(in thousands):
Amount
Fiscal Year Ending Maturing
----------------
1999 $ 750
2000 1,750
2001 2,500
2002 31,168
2003 8,500
Thereafter 94,500
----------------
$ 139,168
----------------
----------------
The weighted average interest rate of debt outstanding under the Bank
Agreement as of February 27, 1999 and August 29, 1998 was 10.2 percent and 10.3
percent, respectively. The weighted average interest rate under the Short Term
Revolving Credit as of February 27, 1999 and August 29, 1998 was 7.8 percent and
8.5 percent, respectively.
(5) COMMITMENTS AND CONTINGENCIES
Certain Company facilities and equipment are leased under agreements
expiring at various dates through 2005.
The Company is a party to certain contracts with some of its sales
representatives whereby the representatives have purchased from their
predecessor the right to sell the Company's products in a territory. The
contracts generally provide that the value of these rights is primarily
determined by the amount of business achieved by a successor sales
representative and is therefore not determinable in advance of performance by
the successor sales representative.
The Company is not party to any pending legal proceedings other than
ordinary routine litigation incidental to the business. In management's opinion,
adverse decisions on those legal proceedings, in the aggregate, would not have a
materially adverse impact on the Company's results of operations or financial
position.
(6) INCOME TAXES
For the six months ended February 27, 1999 and February 28, 1998, the
Company expensed $60,000 and $0, respectively, related to state income taxes.
There is no federal income tax provision or benefit as a valuation allowance
exists due to the net operating losses incurred by the Company.
(7) STOCKHOLDERS' EQUITY
The Company is authorized to issue 750,000 shares of Preferred Stock, par
value $.01 per share, and 750,000 shares of common stock, par value $.01 per
share (Common Stock). The Company currently has issued and has outstanding
100,000 shares of Series A Preferred, 377,156 shares of Series B Preferred and
377,156 shares of Common Stock.
SERIES A PREFERRED STOCK (SERIES A PREFERRED)
The holders of shares of Series A Preferred are not entitled to voting
rights. Dividends on the Series A Preferred are payable in cash, when, as and if
declared by the board of directors of the Company, out of funds legally
available therefor, on a quarterly basis. Dividends on the Series A Preferred
accrue from the date of issuance (December 16, 1996) or the last date to which
dividends have been paid at a rate of 12 percent per annum, whether or not such
dividends have been declared and whether or not there shall be funds legally
available for the payment thereof. Any dividends which are declared shall be
paid pro rata to the holders. No dividends or interest shall accrue on any
accrued and unpaid dividends. The Company's 11 percent senior subordinated notes
and bank debt restrict the Company's ability to pay dividends on the Series A
Preferred.
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The Series A Preferred is not subject to mandatory redemption. The Series A
Preferred is redeemable at any time at the option of the Company; however, the
Company's 11 percent senior subordinated notes and bank debt restrict the
Company's ability to redeem the Series A Preferred. In the event of any
liquidation, dissolution or winding up of the Company, the holders of the Series
A Preferred shall receive payment of the liquidation value of $100 per share
plus all accrued and unpaid dividends prior to the payment of any distributions
to the holders of the Series B Preferred or the holders of the Common Stock of
the Company. So long as shares of the Series A Preferred remain outstanding, the
Company may not declare, pay or set aside for payment dividends on, or redeem or
otherwise repurchase any shares of, the Series B Preferred or Common Stock.
SERIES B PREFERRED STOCK (SERIES B PREFERRED)
The holders of shares of Series B Preferred are entitled to one vote per
share, voting together with the holders of the Common Stock as one class on all
matters presented to the shareholders generally. No dividends accrue on the
Series B Preferred.
Dividends may be paid on the Series B Preferred if and when declared by the
board of directors of the Company out of funds legally available therefor. The
Series B Preferred is nonredeemable. In the event of any liquidation,
dissolution or winding up of the Company, the holders of the Series B Preferred
shall receive payment of the liquidation value of $100 per share plus any
accrued and unpaid dividends prior to the payment of any distributions to the
holders of the Common Stock of the Company. So long as shares of the Series B
Preferred remain outstanding, the Company may not declare, pay or set aside for
payment any dividends on the Common Stock.
COMMON STOCK
The holders of Common Stock are entitled to one vote for each share held of
record on all matters submitted to a vote of shareholders, including the
election of directors, and vote together as one class with the holders of the
Series B Preferred.
Dividends may be paid on the Common Stock if and when declared by the board
of directors of the Company out of funds legally available therefor. The Company
does not expect to pay dividends on the Common Stock in the foreseeable future.
COMMON STOCK PURCHASE WARRANTS
The Company has issued warrants, exercisable to purchase an aggregate of
21,405 shares of Common Stock (or an aggregate of approximately 5.1 percent of
the outstanding shares of Common Stock on a fully diluted basis which also
includes stock options), at an initial exercise price of $6.67 per share, at any
time on or after December 16, 1997, and on or before January 31, 2008.
In accordance with a subscription agreement entered into by the Company and
CHPII and certain of its affiliates (the Castle Harlan Group), the Company
granted the Castle Harlan Group certain registration rights with respect to the
shares of capital stock owned by them pursuant to which the Company agreed,
among other things, to effect the registration of such shares under the
Securities Act of 1933, as amended, at any time at the request of the Castle
Harlan Group. The Company also granted to the Castle Harlan Group unlimited
piggyback registration rights on certain registrations of shares of capital
stock by the Company.
STOCK-BASED COMPENSATION PLAN
The Company has a stock option plan (the 1997 Stock Option Plan), effective
as of July 29, 1997, for which a total of 69,954 shares of Common Stock have
been reserved for issuance and 44,898 of those shares were available for grant
to directors and employees of the Company as of February 27, 1999. The 1997
Stock Option Plan provides for the granting of both incentive and nonqualified
stock options. Options granted under the 1997 Stock Option Plan have a maximum
term of 10 years and are exercisable under the terms of the respective option
agreements at fair market value of the Common Stock at the date of grant.
Payment of the exercise price must be made in cash or in whole or in part by
delivery of shares of the Company's Common
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Stock. All Common Stock issued upon exercise of options granted pursuant to
the 1997 Stock Option Plan will be subject to a voting trust agreement.
INCENTIVE STOCK PURCHASE PLAN
On July 7, 1998 the stockholders of the Company unanimously approved and
adopted the Commemorative Brands, Inc. Incentive Stock Purchase Plan (the Plan).
Pursuant to the terms of the Plan, the Company may from time to time offer
shares of the Company's Series B Preferred Stock and Common Stock to employees,
consultants and independent sales representatives who are determined to be
eligible to purchase shares pursuant to the Plan by the Plan Administrator (as
defined in the Plan) upon such terms and at such prices as are set forth in the
Plan and as are determined by the Plan Administrator.
On July 20, 1998, the Company commenced an offering of up to an aggregate
of 18,750 shares of each of the Company's Common Stock and Series B Preferred
Stock to eligible employees, consultants and independent sales representatives.
The offering was terminated on December 22, 1998, prior to the consummation
thereof, and no Company shares were sold pursuant thereto.
(8) RELATED - PARTY TRANSACTIONS
The Company has agreed to indemnify CHPII pursuant to an indemnification
agreement, dated August 26, 1998 for any amounts that may be incurred by CHPII
under CHPII's guaranty of the Company's obligations under the Short Term
Revolving Credit (see Note 4).
On June 30, 1998, the Company sold shares of Common Stock and Series B
Preferred Stock to certain executive officers of the Company including Jeffrey
H. Brennan, former President and Chief Executive Officer of the Company. In
conjunction therewith, the Company lent Mr. Brennan $75,000 to purchase shares
of the Company's stock pursuant to a promissory note in the original principal
amount of $75,000, which is due and payable in full on June 16, 2003, and which
bears interest at the rate of 5.77% per annum, payable annually on the 15th of
June. Mr. Brennan has granted to the Company a security interest in the shares
acquired by him and his interest in the voting trust into which the shares have
been deposited as collateral security for the repayment in full of the
promissory note. The Company also lent another officer of the Company the sum of
$25,000 to purchase shares of the Company's stock on substantially identical
terms as the promissory note issued by Mr. Brennan. The $25,000 loan was repaid
in full to the Company on February 15, 1999. The balance of $75,000 and $100,000
was included in prepaid expenses and other current assets on the accompanying
balance sheet as of February 27, 1999 and August 29,1998, respectively.
The Company entered into a management agreement dated December 16, 1996
(the Management Agreement), with Castle Harlan, Inc. (the Manager), pursuant to
which the Manager agreed to provide business and organizational strategy,
financial and investment management and merchant and investment banking services
to the Company upon the terms and conditions set forth therein. As compensation
for such services, the Company agreed to pay the Manager $1.5 million per year,
which amount was paid in advance for the first year and is payable quarterly in
arrears thereafter. The agreement is for a term of 10 years, renewable
automatically from year to year thereafter unless the Castle Harlan Group then
owns less than 5 percent of the then outstanding capital stock of the Company.
The Company has agreed to indemnify the Manager against liabilities, costs,
charges and expenses relating to the Manager's performance of its duties, other
than such of the foregoing resulting from the Manager's gross negligence or
willful misconduct. The Indenture prohibits payment of the management fee in the
Event of a Default by the Company in the payment of principal, Redemption Price
or Purchase Price (both as defined in the Indenture), Interest, or Liquidated
Damages (if any) on the Notes. The Bank Agreement prohibits payment of the
management fee unless at the time of payment (i) no Event of Default (as defined
in the Bank Agreement) shall have occurred and is continuing or would result
from the payment of the management fee; (ii) the Short Term Revolving Credit
shall have been paid in full; and (iii) the Company meets the requisite Modified
Funded Debt Ratio (as defined in the Bank Agreement). The management fee for the
six months ended February 27, 1999 has been accrued but not paid, and is
included in accounts payable and accrued expenses.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
For purposes of the discussion contained in this Item 2, unless the
context otherwise requires (i) the term "CBI" refers to Commemorative Brands,
Inc. prior to the consummation of the Acquisitions, (ii) the term "ArtCarved"
refers to the predecessor assets, businesses, and operations of CJC acquired by
CBI, (iii) the term "Balfour" refers to the predecessor class rings assets,
businesses and operations of L. G. Balfour Company, Inc. acquired by CBI, and
(iv) the term "the Company" refers to CBI consolidated with its subsidiaries as
combined with ArtCarved and Balfour after giving effect to the Acquisitions.
On December 16, 1996, CBI completed the Acquisitions. CBI was initially
formed by Castle Harlan Partners II, L.P. ("CHPII"), a Delaware limited
partnership and private equity investment fund, in March 1996 for the purpose of
acquiring ArtCarved and Balfour. Until December 16, 1996, CBI engaged in no
business activities other than in connection with the Acquisitions and the
financing thereof.
The Company uses a 52/53 week fiscal year ending on the last Saturday of
August.
RESULTS OF OPERATIONS
The results of operations of the Company for the six months ended
February 27, 1999 and February 28, 1998, were negatively impacted by the
excess costs and inefficiencies incurred as a result of the additional labor
and overhead that were necessary as a result of the complications that arose
from the integration of the different order entry and manufacturing processes
required to manufacture Balfour rings following the consolidation of the
former Balfour Attleboro and North Attleboro, Massachusetts operations into
the Company's Austin, Texas facilities. Although the consolidation of the
Attleboro and North Attleboro, Massachusetts operations into the Company's
Austin, Texas facilities was substantially completed in the fiscal year ended
August 29, 1998, there can be no assurance that the operations formerly
conducted by each of the Company's predecessors will be fully integrated or
as to the amount of any cost savings that may ultimately result from such
integration.
During January 1998, the Company began a computer project which, among
other things, is intended to (i) convert the more inefficient Balfour computer
systems to the more efficient ArtCarved systems, (ii) unify the Company's
computer system thereby reducing computer operation and maintenance costs,
streamlining and making the Company's order entry system and process more
accurate, and (iii) eliminate any "Year 2000" problems that may be inherent in
the Company's existing computer systems. Management believes that this computer
conversion project will be completed by July 1999, although there can be no
assurance that it will be completed by that date.
THE COMPANY
THREE MONTHS ENDED FEBRUARY 27, 1999 AS COMPARED TO THE THREE MONTHS ENDED
FEBRUARY 28, 1998
NET SALES - Net sales decreased $0.9 million, or 1.9%, to $43.3 million
for the three months ended February 27, 1999, as compared to $44.2 million
for the three months ended February 28, 1998. The decrease in net sales was a
result of a 2.4% decrease in net sales of class rings in the high school
in-school sales channel, high school in-store sales channel, and college
market sales channel which was partially offset by a 0.5% increase in net
sales of fine paper products and the recognition and affinity jewelry.
GROSS PROFIT - Gross profit of $24.4 million remained the same for the
three months ended February 27, 1999 and the three months ended February 28,
1998. As a percentage of net sales, gross profit was 56.3% for the three
months ended February 27, 1999 compared to 55.2% for the three months ended
February 28, 1998. The increase in gross profit was a result of improvements
in personnel efficiencies in the Kentucky fine paper manufacturing plant and
change in the product mix of the sales in the in-school channel.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES - Selling, general and
administrative expenses increased $0.8 million, or 4.3%, to $19.4 million for
the three months ended February 27, 1999, compared to $18.6 million for the
three months ended February 28, 1998. As a percentage of net sales, selling,
general and
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administrative expenses increased to 44.7% for the three months ended
February 27, 1999, compared to 42.0% for the three months ended February 28,
1998. The increase in selling, general and administrative expenses was
primarily a result of increased commissions to sales representatives due to
the change in product mix experienced in the sales in the in-school channel
of class rings and fine paper products having a higher gross profit margin
and a higher commission rate.
OPERATING INCOME - As a result of the foregoing, operating income
decreased $0.8 million to $5.0 million for the three months ended February 27,
1999 compared to $5.8 million for the three months ended February 28, 1998. As a
percentage of net sales, operating income decreased to 11.6% for the three
months ended February 27, 1999 compared to 13.2% for the three months ended
February 28, 1998.
INTEREST EXPENSE, NET - Interest expense, net, was $3.9 million for the
three months ended February 27, 1999 and $3.8 million for the three months
ended February 28, 1998. The increase in interest expense was attributable to
interest on the Bank Credit Facility under which the average outstanding
balance increased to $49.8 million from $44.5 million for the three months
ended February 27, 1999 and February 28, 1998, respectively, at rates ranging
from 8.0% to 9.75%. Interest on the $90.0 million of senior subordinated
notes remained constant at a rate of 11%.
PROVISION FOR INCOME TAXES - For the three months ended February 27, 1999
and February 28, 1998, the Company expensed $30,000 and $0, respectively,
related to state income taxes. There is no federal income tax provision or
benefit as a valuation allowance exists due to the net operating losses incurred
by the Company.
NET INCOME - As a result of the foregoing, net income decreased $1.0
million to $1.1 million for the three months ended February 27, 1999 compared
to a net income of $2.1 million for the three months ended February 28, 1998.
PREFERRED DIVIDENDS - Preferred dividends of $0.3 million were accrued for
the three months ended February 27, 1999 and for the three months ended February
28, 1998. No cash dividends were paid in the three months ended February 27,
1999 or in the three months ended February 28, 1998.
NET INCOME TO COMMON STOCKHOLDERS - As a result of the foregoing, net
income to common stockholders decreased an aggregate of $1.0 million to $0.8
million for the three months ended February 27, 1999 compared to net income to
common stockholders of $1.8 million for the three months ended February 28,
1998.
SIX MONTHS ENDED FEBRUARY 27, 1999 AS COMPARED TO THE SIX MONTHS ENDED
FEBRUARY 28, 1998
NET SALES - Net sales increased $2.0 million, or 2.4%, to $84.5 million
for the six months ended February 27, 1999, as compared to $82.5 million for
the six months ended February 28, 1998. The increase in net sales was the
result of a net 1.2% increase in net sales of class rings and a 1.2% increase
in sales of fine paper products. Net sales in the high school in-school sales
channel increased 3.5% as a result of increased unit sales which resulted
primarily from an increase in the number of sales representatives, which was
partially offset by a 2.3% decrease in net sales of rings in the high school
in-store sales channel and the college bookstores sales channel.
GROSS PROFIT - Gross profit increased $2.8 million, or 6.2%, to $48.4
million for the six months ended February 27, 1999, as compared to $45.5
million for the six months ended February 28, 1998. As a percentage of net
sales, gross profit was 57.2% for the six months ended February 27, 1999
compared to 55.2% for the six months ended February 28, 1998. The increase in
gross profit was primarily due to improvements in personnel efficiencies in
the Kentucky fine paper manufacturing plant and the product mix of the sales
in the high school in-school channel.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES - Selling, general and
administrative expenses increased $4.4 million, or 12.7%, to $39.6 million
for the six months ended February 27, 1999, compared to $35.1 million for the
six months ended February 28, 1998. As a percentage of net sales, selling,
general and administrative expenses increased to 46.8% for the six months
ended February 27, 1999, compared to 42.6% for the six months ended February
28, 1998. The increase in selling, general and administrative expenses was
primarily a result of increased commissions due to the increase in the net
sales volume of high school class rings in the in-school channel and the
change in the sales mix in the in-school channel of class rings and fine
paper products with higher commissions.
OPERATING INCOME - As a result of the foregoing, operating income
decreased $1.6 million to $8.8 million for the six months ended February 27,
1999 compared to $10.4 million for the six months ended February 28,
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1998. As a percentage of net sales, operating income decreased to 10.4% for
the six months ended February 27, 1999 compared to 12.6% for the six months
ended February 28, 1998.
INTEREST EXPENSE, NET - Interest expense, net, was $7.7 million for the
six months ended February 27, 1999 and $7.4 million for the six months ended
February 28, 1998. The increase in interest expense resulted primarily from
increased interest on the Bank Credit Facility which increased to an average
outstanding balance of $47.0 million from $42.0 million for the six months ended
February 27, 1999 and February 28, 1998, respectively, at rates ranging from
7.6% to 9.75%. Interest on the $90.0 million of senior subordinate notes
remained constant at a rate of 11%.
PROVISION FOR INCOME TAXES - For the six months ended February 27, 1999
and February 28, 1998, the Company expensed $60,000 million and $0,
respectively, related to state income taxes. There is no federal income tax
provision or benefit as a valuation allowance exists due to the net operating
losses incurred by the Company.
NET INCOME - As a result of the foregoing, net income decreased
$2.0 million to $1.1 million for the six months ended February 27, 1999
compared to net income of $3.0 million for the six months ended February 28,
1998.
PREFERRED DIVIDENDS - Preferred dividends of $0.6 million were accrued for
the six months ended February 27, 1999 and for the six months ended February 28,
1998. No cash dividends were paid in the six months ended February 27, 1999 or
in the six months ended February 28, 1998.
NET INCOME TO COMMON STOCKHOLDERS - As a result of the foregoing, net
income to common stockholders decreased an aggregate of $2.0 million to $0.5
million for the six months ended February 27, 1999 compared to $2.4 million for
the six months ended February 28, 1998.
SEASONALITY
The Company's scholastic product sales tend to be seasonal. Class ring
sales are highest during October through December (which overlaps the Company's
first and second fiscal quarters), when students have returned to school after
the summer recess and orders are taken for delivery of class rings to students
before the winter holiday season. Sales of the Company's fine paper products are
predominantly made during February through April (which overlaps the Company's
second and third fiscal quarters) for graduation in May and June. The Company
has historically experienced operating losses during the period of the Company's
fourth fiscal quarter, which includes the summer months when school is not in
session. The Company's recognition and affinity product line is not seasonal in
any material respect, although sales generally are highest during the winter
holiday season and in the period prior to Mother's Day. As a result, the effects
of seasonality of the class ring business on the Company are tempered by the
Company's relatively broad product mix. As a result of the foregoing, the
Company's working capital requirements tend to exceed its operating cash flows
from July through December.
LIQUIDITY AND CAPITAL RESOURCES
As of February 27, 1999, the Company had a $35.0 million aggregate
borrowing limit under its Revolving Credit and Gold Facilities and an $8.0
million short-term line of credit expiring March 31, 1999 (subsequently
extended to May 28, 1999) (as amended, the "Short Term Revolving Credit").
The Company had $25,668,000 outstanding under the Revolving Credit Facility,
$4,251,000 outstanding under the Gold Facility and no borrowings were
outstanding under the Short Term Revolving Credit as of February 27, 1999. At
February 27, 1999 the Company had $3,046,000 available under its Revolving
Credit Facility, $2,035,000 available under its Gold Facility and $8,000,000
available under its Short Term Revolving Credit. The Company's liquidity
needs arise primarily from debt service on the Bank Credit Facility, the
Short Term Revolving Credit and the Notes, working capital and capital
expenditure requirement, and payments required under a Management Agreement
with Castle Harlan, Inc. ("CHP Management Fee") (See Related-Party
Transactions).
Management believes that cash flows generated by existing operations
and its available borrowings under its Bank Credit Facility and Short Term
Revolving Credit will be sufficient to fund its ongoing operations. The Short
Term Revolving Credit facility, as extended, expires May 28, 1999. There can
be no assurance that such facility can be further extended or that the
Company can obtain additional financing in its place. In addition, the Bank
Agreement, as amended, requires the Company to have a Consolidated Net Worth
(as defined in the Bank Agreement) as of May 27, 1999 of at least $44.0
million. Although the Company is exploring its financing and capital raising
alternatives, there can be no assurance that the Company will be able to meet
this net worth covenant or the other financial covenants under the Bank
Agreement or that the Company will be able to obtain waivers from the banks
with respect to any future non-compliance.
Operating activities provided cash of $0.5 million for the six months
ended February 27, 1999 as a
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result of net income of $1.1 million adjusted to eliminate expenses for
non-cash items of $3.9 million and partially offset by changes in assets and
liabilities of $4.5 million. The $4.5 million of cash used by changes in
assets and liabilities resulted from increases in accounts receivable of $9.4
million, inventories of $0.4 million, other assets of $0.8 million and
prepaid expenses and other current assets of $0.3 million, which were offset
by increases in bank overdraft, accounts payable and accrued expenses of $6.3
million. These fluctuations generally reflect the seasonality of the
Company's business. The seasonal fluctuations usually result in higher sales
during the first two fiscal quarters of the year and correspondingly higher
levels of accounts receivable, inventories and bank overdraft, accounts
payable and accrued expenses. Prepaid and other current assets usually
decline during the first two fiscal quarters as a result of amortization of
prepaid advertising expenses that are paid for in the preceding period.
Prepaid expenses increased during the six months ended February 27, 1999 as a
result of an increase in advances to the in-school sales representatives in
advance of commissions earned. The increase in other assets for the six
months ended February 27, 1999 was a result of an increase in the manufacture
of samples to support the increased sales volume. The increase in bank
overdraft, accounts payable, and accrued expenses was an increase of customer
deposits of approximately $5.2 million, an increase of $2.6 million in
commissions owed to sales representatives offset by a $1.5 million decrease
in accounts payable.
Comparing the six months ended February 27, 1999 with the six months
ended February 28, 1998, the Company's operating activities provided cash of
$0.5 million for the six months ended February 27, 1999 and used $3.7 million
for the six months ended February 28, 1998. Decreased cash used by changes in
assets and liabilities accounts for most of this swing. Changes in assets and
liabilities used cash of $10.4 million for the six months ended February 28,
1998 and only $4.5 million for the six months ended February 27, 1999, a
decrease of $5.9 million. For the six months ended February 27, 1999,
accounts receivable increased $2.4 million less for the six months ended
February 28, 1998 because of the increased focus in the current year to
collect receivables faster. Inventories increased $1.8 million less during
the six months ended February 27, 1999 than the six months ended February 28,
1998 because inventory as of August 29, 1998 was $2.8 million higher than the
inventory as of August 30, 1997 as a result of changes in the product mix and
the Company producing product more efficiently in the current year. During
the period ended February 28, 1998, the Company reduced its prepaid expenses
and other current assets by $3.2 million, whereas prepaid expenses and other
current assets increased by $0.3 million for the six months ended February
27, 1999. The difference in prepaid expenses and other current assets between
the two years was a result of advances to sales representatives in advance of
commissions earned and a greater amount of prepaid advertising remaining at
February 27, 1999 as compared to February 28, 1998. The increase in bank
overdraft, accounts payable and accrued expenses of approximately $5.4
million for the six months ended February 27, 1999 compared to the six months
ended February 28, 1998 was a result of an increase of approximately $3.4
million in accounts payable, $1.3 million in customer deposits due to an
increase in orders from the six months ended February 27, 1999, an increase
of $1.1 million in commissions owed to sales representatives resulting from
increased sales of rings in the high school in-school sales channel and
increased sales of fine paper products partially offset by a $0.4 million
decrease in other accrued expenses. As of February 27, 1999 and August 29,
1998, there was a remaining accrued expense balance of $0.8 million in
reserves for expenses associated with the metal stamping and tooling
operations currently located in Attleboro.
The Company used $1.6 million more cash in the six months ended February
27, 1999 than in the six months ended February 28, 1998 for investing
activities. The increase reflects the capital expenditures for its computer
project.
For a description of the Company's debt, please see Note 4 to the
consolidated financial statements included herein.
YEAR 2000 COMPLIANCE
YEAR 2000 ISSUE. Many software applications, hardware and equipment and
embedded chip systems identify dates using only the last two digits of the year.
These products may be unable to distinguish between dates in the year 2000 and
dates in the year 1900. That inability (referred to as the "Year 2000" issue),
if not addressed, could cause applications, equipment or systems to fail or to
provide incorrect information after December 31, 1999, or, when using dates
after December 31, 1999. This in turn could have an adverse effect on the
Company due to the Company's direct dependence on its own applications,
equipment and systems and indirect dependence on those of other entities with
which the Company must interact.
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COMPLIANCE PROGRAM. In order to address the Year 2000 issues, the Company
has conducted a review of its computer systems, applications and equipment and
has contacted external parties (such as suppliers) regarding their preparedness
for year 2000 to identify the systems that could be affected by the Year 2000
problem and is making certain investments in its software applications and
systems to ensure that the Company's systems and applications function properly
to and through the year 2000.
COMPANY STATE OF READINESS. The awareness phase of the Year 2000 project
has begun with a corporate-wide awareness program which will continue to be
updated throughout the life of the project. The assessment phase of the project
involves, among other things, efforts to obtain representations and assurances
from third parties, including third party vendors, that their hardware and
equipment, embedded chip systems and software being used by or impacting the
Company or any of its business units are or will be modified to be Year 2000
compliant. However, the Company does not expect that responses from such third
parties will be conclusive. As a result, management cannot predict the potential
consequences if these or other third parties are not Year 2000 compliant. The
exposure associated with the Company's interaction with third parties is also
currently being evaluated.
The Company expects its Year 2000 conversion project to be completed by
July 1999, although there can be no assurance that it can be completed by that
date. Failure to meet this schedule could have a material impact on the
operations of the Company.
COSTS TO ADDRESS YEAR 2000 COMPLIANCE ISSUES. While the total cost to
the Company of the Year 2000 project is still being evaluated, management
currently estimates that the costs to be incurred by the Company will range
from $0.5 million to $1.0 million. The materiality of the costs of the
project and the date when the Company believes it will complete the Year 2000
project are based on management's best estimates, which were derived
utilizing numerous assumptions of future events, including the continued
availability of certain resources and other factors. However, there can be no
guarantee that these estimates will be achieved, and actual results could
differ materially from those anticipated. Specific factors that might cause
such material differences include, but are not limited to, the availability
and cost of personnel trained in this area, the ability to locate and correct
all relevant computer codes and similar uncertainties. To date, the Company
has expended $194,000 related to its Year 2000 compliance assessment.
RISK OF NON-COMPLIANCE AND CONTINGENCY PLAN. The major applications which
pose the greatest Year 2000 risks for the Company if implementation of the Year
2000 compliance program is not successful are order management applications,
production applications, financial applications and related third party
software. Potential problems if the Year 2000 compliance program is not
successful include the Company's inability to produce product, loss of customers
and the inability to perform its other financial and accounting functions.
The goal of the Year 2000 project is to ensure that all of the critical
systems and processes which are under the direct control of the Company remain
functional. However, because certain systems and processes may be interrelated
with systems outside of the control of the Company, there can be no assurance
that all implementations will be successful. Accordingly, as part of the Year
2000 project, contingency and business plans will be developed to respond to any
failures as they may occur. Such contingency and business plans are scheduled to
be completed during calendar 1999. Management does not expect the costs to
the Company of the Year 2000 project to have a material adverse effect on the
Company's financial position, results of operations or cash flows. However,
based on information available at this time, the Company cannot conclude that
any failure of the Company or third parties to achieve Year 2000 compliance
will not adversely affect the Company.
DISCLOSURE REGARDING FORWARD LOOKING STATEMENTS
This report includes 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. Although management believes
that the expectations reflected in such forward looking statements are based
upon reasonable assumptions, the Company can give no assurance that these
expectations will be achieved. Any change in the following factors may impact
the achievement of results in forward-looking statements: the price of gold
and precious, semiprecious and synthetic stones; the Company's access to
students and consumers in schools; the seasonality of the Company's business;
regulatory and accounting rules; the Company's
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relationship with its independent sales representatives; fashion and
demographic trends; general economic, business and market trends and events,
especially during peak buying seasons for the Company's products; the
Company's ability to respond to customer change orders and delivery
schedules; development and operating costs; competitive pricing changes;
successful completion of management initiatives designed to achieve operating
efficiencies; and completion of Year 2000 compliance projects with respect to
internal and external computer-based systems. The foregoing factors are not
exhaustive. New factors may emerge or changes may occur that impact the
Company's operations and businesses. Forward-looking statements attributable
to the Company or persons acting on behalf of the Company are expressly
qualified on the foregoing or such other factors as may be applicable.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company is a
party or to which any of its property is subject. The Company monitors all
claims, and the Company accrues for those, if any, which management believes are
probable of payment. The Company has no pending administrative proceedings
related to environmental matters involving governmental authorities.
Item 2. Changes in Securities
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.15 Employment Agreement dated as of February 19, 1999,
among the Company, Castle Harlan Partners II, L.P. and
Robert F. Amter
10.16 Waiver and Fifth Amendment to Revolving Credit, Term Loan
and Gold Consignment Agreement, dated March 30, 1999
10.17 Amended and Restated Revolving Credit Note
27. Financial Data Schedule for the period ended February 27,
1999.
(b) The Company did not file any reports on Form 8-K during the six
months ended February 27, 1999.
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COMMEMORATIVE BRANDS, INC.
SIGNATURES
Commemorative Brands, Inc. has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
COMMEMORATIVE BRANDS, INC.
By: /s/Sherice P. Bench
-------------------------------------
Sherice P. Bench
Vice President Finance and
Principal Accounting Officer
Date:
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