10-Q 1 0001.txt FORM 10-Q ============================================================================== SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 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 July 1, 2000 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 0-21499 _________________ SPECIALTY CATALOG CORP. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 04-3253301 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 21 BRISTOL DRIVE SOUTH EASTON, MASSACHUSETTS 02375 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (508) 238-0199 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) 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 twelve 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 [_] Number of shares of the Registrant's Common Stock outstanding as of August 1, 2000: 4,337,886. ============================================================================== SPECIALTY CATALOG CORP. INDEX PART I. FINANCIAL STATEMENTS PAGE NO. -------- ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AS OF JULY 1, 2000, JANUARY 1, 2000 AND JULY 3, 1999, FOR THE THIRTEEN WEEKS ENDED JULY 1, 2000 AND JULY 3, 1999 AND FOR THE TWENTY-SIX WEEKS ENDED JULY 1, 2000 AND JULY 3, 1999 Condensed Consolidated Statements of Operations 3-4 Condensed Consolidated Balance Sheets 5 Condensed Consolidated Statements of Cash Flows 6 Notes to Condensed Consolidated Financial Statements 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 12 PART II. OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 15 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 16 SIGNATURES 17 2 PART I. FINANCIAL STATEMENTS ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS SPECIALTY CATALOG CORP. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
THIRTEEN WEEKS ENDED JULY 1, 2000 JULY 3, 1999 ---------------------- ------------------ Net sales................................................ $ 14,541,814 $ 12,264,398 Cost of sales (including buying, occupancy and order fulfillment costs).................................. 4,876,715 4,160,051 ---------------- --------------- Gross profit............................................. 9,665,099 8,104,347 Operating expenses....................................... 7,728,666 6,244,889 Depreciation and amortization............................ 416,329 206,754 ---------------- --------------- Income from operations................................... 1,520,104 1,652,704 Interest expense, net.................................... 204,660 169,297 ---------------- --------------- Income before income taxes............................... 1,315,444 1,483,407 Income tax provision..................................... 539,329 619,009 ---------------- --------------- Net income............................................... 776,115 864,398 Other comprehensive loss................................. (81,204) (14,418) ---------------- --------------- Comprehensive income..................................... $ 694,911 $ 849,980 ================ =============== Earnings per share - Basic EPS: Net income per share............................... $ 0.18 $ 0.20 ================ =============== Weighted average shares outstanding................ 4,340,353 4,417,718 ================ =============== Earnings per share - Diluted EPS: Net income per share............................... $ 0.17 $ 0.18 ================ =============== Weighted average shares outstanding................ 4,615,365 4,698,616 ================ ===============
See notes to condensed consolidated financial statements. 3 SPECIALTY CATALOG CORP. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (CONTINUED) (unaudited)
TWENTY-SIX WEEKS ENDED JULY 1, 2000 JULY 3, 1999 ------------------ ----------------- Net sales.............................................. $ 28,505,114 $ 25,531,066 Cost of sales (including buying, occupancy and order fulfillment costs)................................ 9,744,564 8,720,478 ------------------ ----------------- Gross profit........................................... 18,760,550 16,810,588 Operating expenses..................................... 16,277,025 13,713,042 Depreciation and amortization.......................... 816,030 404,690 ------------------ ----------------- Income from operations................................. 1,667,495 2,692,856 Interest expense, net.................................. 419,240 365,110 ------------------ ----------------- Income before income taxes............................. 1,248,255 2,327,746 Income tax provision................................... 511,769 966,179 ------------------ ----------------- Net income............................................. 736,486 1,361,567 Other comprehensive loss............................... (76,537) (50,704) ------------------ ----------------- Comprehensive income................................... $ 659,949 $ 1,310,863 ================== ================= Earnings per share - Basic EPS: Net income per share............................. $ 0.17 $ 0.31 ================== ================= Weighted average shares outstanding.............. 4,345,973 4,426,344 ================== ================= Earnings per share - Diluted EPS: Net income per share............................. $ 0.16 $ 0.29 ================== ================= Weighted average shares outstanding.............. 4,631,735 4,708,514 ================== =================
See notes to condensed consolidated financial statements. 4 SPECIALTY CATALOG CORP. CONDENSED CONSOLIDATED BALANCE SHEETS
JULY 1, JANUARY 1, JULY 3, 2000 2000 1999 ----- ----- ---- ASSETS (unaudited) (audited) (unaudited) Current assets: Cash and cash equivalents.................... $ 608,112 $ 1,136,847 $ 1,576,722 Accounts receivable, net..................... 1,502,619 1,206,490 1,326,640 Inventories.................................. 5,667,516 5,626,304 4,574,730 Prepaid expenses............................. 4,458,275 4,012,538 3,443,426 ------------ ------------ ------------ Total current assets................ 12,236,522 11,982,179 10,921,518 ------------ ------------ ------------ Property, plant and equipment, net.................. 4,561,834 4,326,710 3,607,732 Intangible assets, net.............................. 4,172,925 4,563,627 3,344,187 Deferred income taxes............................... 4,001,199 4,338,843 3,922,564 Other assets........................................ 169,507 211,918 182,362 ------------ ------------ ------------ Total assets........................ $ 25,141,987 $ 25,423,277 $ 21,978,363 ============ ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable and accrued expenses........ $ 4,953,065 $ 4,261,400 $ 2,788,959 Liabilities to customers..................... 1,163,359 1,169,256 975,783 Short-term borrowings........................ 5,426,132 6,401,238 4,276,098 Income taxes payable......................... 588,340 449,577 368,404 Current portion of long-term debt............ 2,384,105 2,125,000 1,964,471 ------------ ------------ ------------ Total current liabilities........... 14,515,001 14,406,471 10,373,715 ------------ ------------ ------------ Long-term debt...................................... 1,959,053 2,900,000 2,880,049 Other long-term liabilities......................... 304,499 377,875 213,869 Commitments and contingencies Shareholders' equity: Common stock................................ 52,397 52,397 52,397 Additional paid-in capital.................. 16,159,570 16,159,570 16,159,570 Deferred compensation....................... -- -- (39,613) Accumulated other comprehensive loss........ (127,787) (51,250) (34,778) Accumulated deficit......................... (4,853,568) (5,590,054) (5,027,973) ------------ ------------ ------------ 11,230,612 10,570,663 11,109,603 Less treasury stock, at cost, 901,388 shares at July 1, 2000, 888,388 shares at January 1, 2000 and 828,188 shares at July 3, 1999......................... (2,867,178) (2,831,732) (2,598,873) ------------ ------------ ------------ Total shareholders' equity............. 8,363,434 7,738,931 8,510,730 ------------ ------------ ------------ Total liabilities and shareholders' equity............... $ 25,141,987 $ 25,423,277 $ 21,978,363 ============ ============ ============
See notes to condensed consolidated financial statements. 5 SPECIALTY CATALOG CORP. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
TWENTY-SIX WEEKS ENDED JULY 1, 2000 JULY 3, 1999 ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net income.................................................... $ 736,486 $ 1,361,567 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization.......................... 816,030 404,690 Deferred income tax expense............................ 351,587 806,854 Amortization of deferred compensation.................. -- 8,750 Changes in operating assets and liabilities: Accounts receivable, net............................. (321,096) (124,055) Inventories.......................................... (89,503) 789,544 Prepaid expenses..................................... (455,066) 358,594 Other assets......................................... 23,388 (9,874) Accounts payable and accrued expenses................ 734,685 (957,313) Liabilities to customers............................. (5,897) 299,336 Income taxes payable................................. 155,487 104,326 Other long-term liabilities.......................... (16,668) -- ------------ ------------ Net cash provided by operating activities..................... 1,929,433 3,042,419 ------------ ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of property, plant and equipment............ (862,648) (830,697) ------------ ------------ Net cash used in investing activities......................... (862,648) (830,697) ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES: Repayments on short-term borrowings, net............... (873,758) (730,389) Purchases of treasury stock............................ (35,446) (245,232) Repayments of long-term debt........................... (616,728) (713,164) Repayments of capital lease obligations................ (67,138) (38,007) ------------ ------------ Net cash used in financing activities......................... (1,593,070) (1,726,792) ------------ ------------ Effect of exchange rate changes on cash and cash equivalents.. (2,450) (6,079) ------------ ------------ Increase (decrease) in cash and cash equivalents.............. (528,735) 478,851 Cash and cash equivalents, beginning of year.................. 1,136,847 1,097,871 ------------ ------------ Cash and cash equivalents, end of period...................... $ 608,112 $ 1,576,722 =========== ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: During the twenty-six weeks ended July 1, 2000 and July 3, 1999, the Company received federal income tax refunds of $320,000 and $375,000, respectively. SUMMARY OF NON-CASH TRANSACTIONS: During the twenty-six weeks ended July 1, 2000 and July 3, 1999, the Company recorded capital lease obligations of $10,430 and $100,257, respectively related to the purchase of data processing equipment. See notes to condensed consolidated financial statements. 6 SPECIALTY CATALOG CORP. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) 1. BASIS OF PRESENTATION These unaudited condensed consolidated financial statements should be read in conjunction with the Form 10-K of Specialty Catalog Corp. (the "Company") for the fiscal year ended January 1, 2000, and the consolidated financial statements and footnotes included therein. Certain information and footnote disclosures normally included in the consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to the Securities and Exchange Commission rules and regulations. The results of operations for the thirteen weeks and twenty-six weeks ended July 1, 2000 are not necessarily indicative of the results for the entire fiscal year ending December 30, 2000. The condensed consolidated financial statements for the thirteen weeks and twenty-six weeks ended July 1, 2000 and July 3, 1999 are unaudited, but include, in the Company's opinion, all adjustments (consisting only of normal recurring accruals) necessary for a fair presentation of the results for the periods presented. 2. ACCOUNTING POLICIES The accounting policies underlying the condensed consolidated financial statements are those set forth in Note 1 of the consolidated financial statements included in the Company's Form 10-K for the fiscal year ended January 1, 2000. In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities". This statement is effective for all fiscal quarters of all fiscal years beginning after June 15, 2000. The Company does not use either derivative financial instruments or hedging activities and has therefore determined that there should be no effect on the condensed consolidated financial statements. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements." SAB No. 101 provides guidance on applying generally accepted accounting principles to revenue recognition issues in financial statements. SAB 101 must be adopted in the quarter ended December 31, 2000 and requires companies to report any changes in revenue recognition as a cumulative effect from a change in accounting principle at the time of adoption. The Company is currently assessing the impact of SAB No. 101 on its consolidated financial statements. Certain amounts in the 1999 financial statements have been reclassified to conform to the 2000 presentation. 3. TREASURY STOCK In December 1998, the Company's Board of Directors authorized the Company to repurchase up to $1.0 million of the Company's common stock. As of July 1, 2000, the Company had repurchased 144,100 shares at an average price of $3.56 per share. 4. ADOPTION OF 2000 STOCK INCENTIVE PLAN On June 22, 2000, the Company adopted the 2000 Stock Incentive Plan (the "Plan") which authorizes the issuance of up to 750,000 shares of the Company's common stock through the grant of stock options and awards of restricted stock. Each option has a maximum term of ten years from the date of grant, subject to early termination. On June 22, 2000, a total of 415,000 stock options were granted to employees and directors of the Company at a price of $2.50 per share. 7 SPECIALTY CATALOG CORP. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) 5. RECONCILIATION OF BASIC AND DILUTED EARNINGS PER SHARE The following table (in thousands) shows the amounts used in computing basic and diluted earnings per share for net income and the effects of potentially dilutive options on the weighted average number of shares outstanding.
FOR THE THIRTEEN WEEKS ENDED FOR THE TWENTY-SIX WEEKS ENDED JULY 1, 2000 JULY 3, 1999 JULY 1, 2000 JULY 3, 1999 ------------ ------------ ------------ ------------ NET INCOME SHARES NET INCOME SHARES NET INCOME SHARES NET INCOME SHARES ---------- ------ ---------- ------ ---------- ------ ---------- ------ Basic earnings per share $ 776 4,340 $ 864 4,418 $ 736 4,346 $ 1,362 4,426 Effect of dilutive options -- 275 -- 281 -- 286 -- 282 ----- ----- ----- ----- ----- ----- ------- ----- Diluted earnings per share $ 776 4,615 $ 864 4,699 $ 736 4,632 $ 1,362 4,708 ===== ===== ===== ===== ===== ===== ======= =====
Options to purchase 564,251 shares of common stock ranging from $5.33 to $7.15 per share were not included in computing diluted EPS for the thirteen weeks and twenty-six weeks ended July 1, 2000 because their effects were antidilutive. Options to purchase 677,601 shares of common stock ranging from $5.33 to $7.15 per share were not included in computing diluted EPS for the thirteen weeks and twenty-six weeks ended July 3, 1999 because their effects were antidilutive. 6. RIGHTS AGREEMENT On April 11, 2000, the board of directors of the Company adopted a stockholder rights plan pursuant to a Rights Agreement dated as of April 11, 2000, between the Company and Continental Stock Transfer and Trust Company, as Rights Agent. The Rights Agreement is effective as of April 11, 2000 for all shares of Common Stock outstanding on such date and for all shares of Common Stock issued thereafter and prior to the earliest of the Distribution Date (as defined in the Rights Agreement). Each Right shall be exercisable (as defined in the Rights Agreement) by the registered holder of a Right Certificate to purchase 1/1000th of a share of Series A Preferred Stock of the Company, subject to adjustment, at an exercise price per 1/1000th of a share of Series A Preferred Stock of $15, subject to adjustment. Each 1/1000th of a share of Series A Preferred Stock will have economic attributes (i.e., participation in dividends and voting rights) substantially equivalent to one whole share of the common stock of the Company. The Rights expire on the tenth anniversary of the date of the Rights Agreement unless earlier redeemed or exchanged by the Company as provided in the Rights Agreement. For further information, a detailed description of the Rights Agreement and a copy of the Rights Agreement were included in a current report on Form 8-K, which was filed with the Securities and Exchange Commission on April 13, 2000. 8 SPECIALTY CATALOG CORP. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) 7. EXECUTIVE OFFICER APPOINTMENT On May 9, 2000, the Company announced the appointment of Joseph J. Grabowski (age 53) as president of the Company effective as of May 8, 2000. On July 1, 2000, Mr. Grabowski assumed the title of CEO, replacing Steven L. Bock whose resignation, effective June 30, 2000, was previously announced. The term of the executive employment agreement (the "Employment Agreement") between the Company and Mr. Grabowski commenced on May 8, 2000 and, unless extended, terminates on May 7, 2002 (the "Initial Term"). Under this Employment Agreement, Mr. Grabowski will receive an annual salary of $300,000, along with other benefits. Mr. Grabowski will be eligible for a performance bonus of up to 100 per cent of his annual salary, based upon the Company's performance as compared against the annual performance plan. Upon executing this agreement, Mr. Grabowski was granted options under the 2000 Stock Incentive Plan to purchase 250,000 shares of common stock of the Company at $2.50 per share. The Company may terminate Mr. Grabowski's employment upon his death or permanent disability, or if he engages in conduct that constitutes "cause" under the Employment Agreement. Mr. Grabowski may terminate his employment for "Good Reason" as defined in the Employment Agreement. In the event Mr. Grabowski's employment is terminated by the Company other than for "cause", Mr. Grabowski will receive a "Termination Payment" as defined in the Employment Agreement. The Employment Agreement contains non-competition and other restrictions effective during the term of employment and for a one-year period thereafter. 8. BUSINESS SEGMENTS AND FINANCIAL INFORMATION BY GEOGRAPHIC LOCATION Specialty Catalog Corp. has six reportable segments: Paula Young(R), Especially Yours(R) and Paula's Hatbox(R) under the SC Direct division, Western Schools(R) and the American Healthcare Institute ("AHI") brand under the SC Publishing division and Daxbourne International Limited. The SC Direct division sells women's wigs and hairpieces using two distinct catalogs: Paula Young(R) and Especially Yours(R). In addition, prior to the end of 1999, SC Direct sold apparel, hats and other fashion accessories through its Paula's Hatbox(R) catalog. The SC Publishing division distributes catalogs under its Western Schools(R) brand and specializes in providing continuing education courses to nurses and accounting professionals. SC Publishing's other segment, American Healthcare Institute, which was acquired by the Company on September 10, 1999, distributes catalogs under its own name and specializes in providing continuing education seminars and conferences to nurses and other mental health professionals. Daxbourne International Limited is a retailer and wholesaler of women's wigs, hairpieces and related products in the United Kingdom. Beginning in the second quarter of fiscal year 2000, the Company changed its reportable segments from SC Direct, SC Publishing, AHI and Daxbourne International Limited to Paula Young (R), Especially Yours(R), Paula's Hatbox(R), Western Schools(R), AHI and Daxbourne International Limited. The change was made to conform the Company's financial reporting to how it now manages its business. As a result, the Company has restated the segment reporting results for the thirteen weeks and twenty-six weeks ended July 3, 1999 to conform to its new segments. The accounting policies of the reportable segments are the same as those described in Note 1 of the consolidated financial statements included in the Company's Form 10-K for the fiscal year ended January 1, 2000. The Company's reportable segments are strategic business units that offer either different products or operate in different geographic locations. The Company markets its products in two major geographic areas, the United States and the United Kingdom. The SC Direct and SC Publishing divisions market their products and maintain their assets in the United States. Daxbourne International Limited markets its products and maintains its assets in the United Kingdom. 9 SPECIALTY CATALOG CORP. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) A summary of information about the Company's operations by segment for the thirteen weeks ended July 1, 2000 and July 3, 1999 follows (intersegment eliminations are intercompany receivables and investments in subsidiaries):
PAULA ESPECIALLY PAULA'S CORPORATE TOTAL SC WESTERN TOTAL SC YOUNG YOURS HATBOX EXPENSES DIRECT SCHOOLS AHI PUBLISHING ----- ----- ------ -------- ------ ------- --- ---------- FOR THE THIRTEEN WEEKS ENDED JULY 1, 2000 Net sales............. $8,524,780 $2,011,122 -- $ -- $10,535,902 $1,060,013 $1,659,645 $2,719,658 Gross profit.......... 5,901,291 1,317,946 -- (235,063) 6,984,174 803,261 981,923 1,785,184 Operating expenses.... 3,341,794 1,045,441 -- 1,070,466 5,457,701 728,610 939,606 1,668,216 Depreciation and amortization........ -- -- -- 280,422 280,422 10,180 35,473 45,653 Income from operations.......... 2,559,497 272,505 -- (1,585,951) 1,246,051 64,471 6,844 71,315 Interest expense, net. -- -- -- 150,577 150,577 -- -- -- Income tax provision.. -- -- -- 443,823 443,823 26,431 2,657 29,088 Segment assets........ -- -- -- 20,005,506 20,005,506 4,712,666 2,420,950 7,133,616 Capital expenditures.. -- -- -- 401,551 401,551 -- 21,050 21,050 INTERSEGMENT DAXBOURNE ELIMINATIONS TOTAL --------- ------------ ----- FOR THE THIRTEEN WEEKS ENDED JULY 1, 2000 Net sales............. $1,286,254 -- $14,541,814 Gross profit.......... 895,741 -- 9,665,099 Operating expenses.... 602,749 -- 7,728,666 Depreciation and amortization........ 90,254 -- 416,329 Income from operations.......... 202,738 -- 1,520,104 Interest expense, net. 54,083 -- 204,660 Income tax provision.. 66,418 -- 539,329 Segment assets........ 4,691,803 $(6,688,938) 25,141,987 Capital expenditures.. 7,364 -- 429,965
PAULA ESPECIALLY PAULA'S CORPORATE TOTAL SC WESTERN TOTAL SC YOUNG YOURS HATBOX EXPENSES DIRECT SCHOOLS AHI PUBLISHING ----- ----- ------ -------- ------ ------- --- ---------- FOR THE THIRTEEN WEEKS ENDED JULY 3, 1999 Net sales............. $7,423,350 $1,447,843 $ 890,209 $ -- $9,761,402 $1,258,202 -- $1,258,202 Gross profit.......... 5,133,808 918,902 456,438 (237,196) 6,271,952 953,908 -- 953,908 Operating expenses.... 2,468,634 808,242 788,127 857,756 4,922,759 682,727 -- 682,727 Depreciation and amortization........ -- -- -- 98,766 98,766 11,145 -- 11,145 Income from operations.......... 2,665,174 110,660 (331,689) (1,193,718) 1,250,427 260,036 -- 260,036 Interest expense, net. -- -- -- 112,488 112,488 -- -- -- Income tax provision.. -- -- -- 466,576 466,576 106,618 -- 106,618 Segment assets........ -- -- -- 17,315,976 17,315,976 4,121,403 -- 4,121,403 Capital expenditures.. -- -- -- 472,896 472,896 1,614 -- 1,614 INTERSEGMENT DAXBOURNE ELIMINATIONS TOTAL --------- ------------ ----- FOR THE THIRTEEN WEEKS ENDED JULY 3, 1999 Net sales............. $ 1,244,794 -- $12,264,398 Gross profit.......... 878,487 -- 8,104,347 Operating expenses.... 639,403 -- 6,244,889 Depreciation and amortization........ 96,843 -- 206,754 Income from operations.......... 142,241 -- 1,652,704 Interest expense, net. 56,809 -- 169,297 Income tax provision.. 45,815 -- 619,009 Segment assets........ 5,077,823 $(4,536,839) 21,978,363 Capital expenditures.. 16,722 -- 491,232
10 SPECIALTY CATALOG CORP. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) A summary of information about the Company's operations by segment for the twenty-six weeks ended July 1, 2000 and July 3, 1999 follows (intersegment eliminations are intercompany receivables and investments in subsidiaries):
PAULA ESPECIALLY PAULA'S CORPORATE TOTAL SC WESTERN TOTAL SC YOUNG YOURS HATBOX EXPENSES DIRECT SCHOOLS AHI PUBLISHING ----- ----- ------ -------- ------ ------- --- ---------- FOR THE TWENTY-SIX WEEKS ENDED JULY 1, 2000 Net sales............. $16,813,497 $3,727,093 -- $ -- $20,540,590 $2,761,295 $2,472,938 $5,234,233 Gross profit.......... 11,369,441 2,368,939 -- (467,599) 13,270,781 2,159,604 1,432,056 3,591,660 Operating expenses.... 7,254,404 2,408,544 -- 2,480,909 12,143,857 1,451,521 1,429,739 2,881,260 Depreciation and amortization........ -- -- -- 542,172 542,172 20,852 69,318 90,170 Income from operations.......... 4,115,037 (39,605) -- (3,490,680) 584,752 687,231 (67,001) 620,230 Interest expense, net -- -- -- 305,781 305,781 -- -- -- Income tax provision.. -- -- -- 114,363 114,363 281,763 (27,471) 254,292 Segment assets........ -- -- -- 20,005,506 20,005,506 4,712,666 2,420,950 7,133,616 Capital expenditures.. -- -- -- 781,601 781,601 -- 58,324 58,324 INTERSEGMENT DAXBOURNE ELIMINATIONS TOTAL --------- ------------ ----- FOR THE TWENTY-SIX WEEKS ENDED JULY 1, 2000 Net sales............. $2,730,291 - $28,505,114 Gross profit.......... 1,898,109 - 18,760,550 Operating expenses.... 1,251,908 - 16,277,025 Depreciation and amortization........ 183,688 - 816,030 Income from operations.......... 462,513 - 1,667,495 Interest expense, net. 113,459 - 419,240 Income tax provision.. 143,114 - 511,769 Segment assets........ 4,691,803 $(6,688,938) 25,141,987 Capital expenditures.. 22,723 - 862,648
PAULA ESPECIALLY PAULA'S CORPORATE TOTAL SC WESTERN TOTAL SC YOUNG YOURS HATBOX EXPENSES DIRECT SCHOOLS AHI PUBLISHING ----- ----- ------ -------- ------ ------- --- ---------- FOR THE TWENTY-SIX WEEKS ENDED JULY 3, 1999 Net sales............. $15,139,701 $3,118,037 $1,803,994 $ -- $20,061,732 $2,835,371 -- $2,835,371 Gross profit.......... 10,439,449 1,948,050 881,786 (478,738) 12,790,547 2,156,329 -- 2,156,329 Operating expenses.... 6,062,340 1,882,851 1,365,261 1,798,403 11,108,855 1,302,991 -- 1,302,991 Depreciation and amortization........ -- -- -- 190,291 190,291 22,072 -- 22,072 Income from operations.......... 4,377,109 65,199 (483,475) (2,467,432) 1,491,401 831,266 -- 831,266 Interest expense, net. -- -- -- 242,340 242,340 -- -- -- Income tax provision.. -- -- -- 512,136 512,136 340,835 -- 340,835 Segment assets........ -- -- -- 17,315,976 17,315,976 4,121,403 -- 4,121,403 Capital expenditures.. -- -- -- 806,908 806,908 7,067 -- 7,067 INTERSEGMENT DAXBOURNE ELIMINATIONS TOTAL --------- ------------ ----- FOR THE TWENTY-SIX WEEKS ENDED JULY 3, 1999 Net sales............. $2,633,963 -- $25,531,066 Gross profit.......... 1,863,712 -- 16,810,588 Operating expenses.... 1,301,196 -- 13,713,042 Depreciation and amortization........ 192,327 -- 404,690 Income from operations.......... 370,189 -- 2,692,856 Interest expense, net. 122,770 -- 365,110 Income tax provision.. 113,208 -- 966,179 Segment assets........ 5,077,823 $(4,536,839) 21,978,363 Capital expenditures.. 16,722 -- 830,697
11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS In addition to the historical information contained herein, this Quarterly Report on Form 10-Q for the Company may contain "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 ("Exchange Act"), including, but not limited to, the Company's expected future revenues, operations and expenditures, estimates of the potential markets for the Company's products, assessments of competitors and potential competitors and projected timetables for the market introduction of the Company's products. Investors are cautioned that forward-looking statements are inherently uncertain. Actual performance and results of operations may differ materially from those projected or suggested in the forward-looking statements due to certain risks and uncertainties, including, but not limited to, the following risks and uncertainties: (i) the Company's indebtedness and future capital requirements, (ii) increasing postal rates, paper prices and media costs, (iii) limited sources of fiber used to make the Company's products, (iv) the limited number of suppliers of the Company's products, (v) the Company's dependence upon foreign suppliers, especially in China, Indonesia and Korea, (vi) the customary risks of doing business abroad, including fluctuations in the value of currencies, (vii) the potential development of a cure for hair loss and cancer treatment improvements, (viii) the effectiveness of the Company's catalogs and advertising programs, (ix) the Company's competition and (x) the impact of acquisitions on the Company's prospects. Additional information concerning certain risks and uncertainties that could cause actual results to differ materially from those projected or suggested in the forward-looking statements is contained in the Company's filings with the Securities and Exchange Commission, including those risks and uncertainties discussed under the caption "Risk Factors" in the Company's Form 10-K for the fiscal year ended January 1, 2000. The forward-looking statements contained herein represent the Company's judgment as of the date of this Quarterly Report on Form 10-Q, and the Company cautions readers not to place undue reliance on such statements. THIRTEEN WEEKS ENDED JULY 1, 2000 COMPARED TO THE THIRTEEN WEEKS ENDED JULY 3, 1999 Net sales increased to $14.6 million for the thirteen weeks ended July 1, 2000 from $12.3 million for the thirteen weeks ended July 3, 1999, an increase of $2.3 million, or 18.7 per cent. This increase was due to the addition of $1.7 million in net sales from American Healthcare Institute ("AHI"), which was acquired by the Company in September 1999, and increases in SC Direct's and Daxbourne's net sales of approximately $775,000 and $41,000, respectively, offset by lower Western Schools(R) net sales of approximately $198,000. The increase in SC Direct's net sales was primarily due to increases in the Paula Young(R) and Especially Yours(R) catalogs of approximately $1.1 million and $563,000, respectively, due primarily to increased number of orders from increased circulation of its catalogs to new and expanded advertising channels and sales over the Internet and to changes in the product mix in both catalogs. The increase in SC Direct's net sales was offset by a decrease of approximately $890,000 in net sales from its Paula Hatbox(R) catalog, as a result of the Company's decision in the fourth quarter of 1999 to no longer circulate this catalog. Gross margin as a percentage of net sales increased to 66.5 per cent for the thirteen weeks ended July 1, 2000 from 66.1 per cent for the thirteen weeks ended July 3, 1999. Gross margin increased to $9.7 million for the thirteen weeks ended July 1, 2000 from $8.1 million for the thirteen weeks ended July 3, 1999, an increase of $1.6 million, or 19.8 per cent, as a result of the increases in net sales and gross margin rate discussed above. Operating expenses increased to $8.1 million for the thirteen weeks ended July 1, 2000 from $6.4 million for the thirteen weeks ended July 3, 1999, an increase of $1.7 million, or 26.6 per cent. This increase was due primarily to: (i) additional catalog production expenses of $1.0 million, mainly related to the acquisition of AHI as well as increased circulation of catalogs mailed to inactive Paula Young(R) 12 customer files in an effort to reactivate these names, (ii) increased depreciation and amortization of approximately $210,000 related to the implementation of the Company's catalog information system in August 1999, and (iii) approximately $479,000 in additional payroll, mainly related to the AHI acquisition as well as an increase in telemarketing and customer service personnel costs. Interest expense, net of interest income, increased to approximately $205,000 for the thirteen weeks ended July 1, 2000 from approximately $169,000 for the thirteen weeks ended July 3, 1999, an increase of approximately $36,000, or 21.3 per cent. The increase was attributable to higher average principal amounts outstanding on the Company's bank facility as well as increased interest rates during the second quarter of 2000 compared to the second quarter of 1999. TWENTY-SIX WEEKS ENDED JULY 1, 2000 COMPARED TO THE TWENTY-SIX WEEKS ENDED JULY 3, 1999 Net sales increased to $28.5 million for the twenty-six weeks ended July 1, 2000 from $25.5 million for the twenty-six weeks ended July 3, 1999, an increase of $3.0 million, or 11.8 per cent. This increase was due to the addition of $2.5 million in net sales from AHI, which was acquired by the Company in September 1999, and increases in SC Direct's and Daxbourne's net sales of approximately $479,000 and $96,000, respectively, offset by lower Western Schools(R) net sales of approximately $74,000. The increase in SC Direct's net sales was primarily due to increases in the Paula Young(R) and Especially Yours(R) catalogs of approximately $1.7 million and $609,000, respectively, due primarily to increased number of orders from increased circulation of its catalogs to new and expanded advertising channels and sales over the Internet as well as an increase in average order size, attributable to changes in the product mix in both catalogs. The increase in SC Direct's net sales was offset by a decrease of $1.8 million in net sales from its Paula Hatbox(R) catalog, as a result of the Company's decision in the fourth quarter of 1999 to no longer circulate this catalog. Gross margin as a percentage of net sales remained unchanged at 65.8 per cent for the twenty-six weeks ended July 1, 2000 and July 3, 1999. Gross margin increased to $18.8 million for the twenty-six weeks ended July 1, 2000 from $16.8 million for the twenty-six weeks ended July 3, 1999, an increase of $2.0 million, or 11.9 per cent, as a result of the increase in net sales discussed above. Operating expenses increased to $17.1 million for the twenty-six weeks ended July 1, 2000 from $14.1 million for the twenty-six weeks ended July 3, 1999, an increase of $3.0 million, or 21.3 per cent. This increase was due primarily to: (i) additional catalog production expenses of $1.3 million, mainly related to the acquisition of AHI as well as increased circulation of catalogs mailed to inactive Paula Young(R) customer files in an effort to reactivate these names, (ii) approximately $439,000 related to costs incurred in connection with the bonus paid to the former chief executive officer and the terminated sale of the Company's common stock to Golub Associates, Inc., (iii) increased depreciation and amortization of approximately $411,000 related to the implementation of the Company's catalog information system in August 1999, and (iv) approximately $908,000 in additional payroll costs, mainly related to the AHI acquisition and an increase in telemarketing and customer service personnel costs. Interest expense, net of interest income, increased to approximately $419,000 for the twenty-six weeks ended July 1, 2000 from approximately $365,000 for the twenty-six weeks ended July 3, 1999, an increase of approximately $54,000, or 14.8 per cent. The increase was attributable to higher average principal amounts outstanding on the Company's bank facility as well as increased interest rates during the twenty-six weeks ended July 1, 2000 compared to the twenty-six weeks ended July 3, 1999. 13 LIQUIDITY AND CAPITAL RESOURCES Net cash flow used by the Company for the twenty-six weeks ended July 1, 2000 was approximately $529,000. Cash flows provided by operating activities for the twenty-six weeks ended July 1, 2000 was $1.9 million, offset by approximately $863,000 in investing activities and $1.6 million in financing activities. The major factors that caused the difference between net income and net cash flows provided by operations for the twenty-six weeks ended July 1, 2000 were increases in: (i) cash working capital items of approximately $25,000, (ii) depreciation and amortization expense of approximately $816,000 and (iii) deferred income tax expense of approximately $352,000. The Company used approximately $862,000 in investing activities for computer and equipment purchases. The $1.6 million in net cash used in financing activities was primarily due to: (i) the repayment of approximately $874,000 in short-term borrowings, (ii) the repayment of approximately $617,000 of long-term debt, (iii) the repayment of approximately $67,000 of capital leases and (iv) the purchase of approximately $35,000 in treasury stock. The Company's cash flow from operations and available credit facilities are considered adequate to fund planned business operations and both the short- term and long-term capital needs of the Company. However, certain events, such as an additional significant acquisition, could require new external financing. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities". This statement is effective for all fiscal quarters of all fiscal years beginning after June 15, 2000. The Company does not use either derivative financial instruments or hedging activities and has therefore determined that there should be no effect on the condensed consolidated financial statements. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements." SAB No. 101 provides guidance on applying generally accepted accounting principles to revenue recognition issues in financial statements. SAB 101 must be adopted in the quarter ended December 31, 2000 and requires companies to report any changes in revenue recognition as a cumulative effect from a change in accounting principle at the time of adoption. The Company is currently assessing the impact of SAB No. 101 on its consolidated financial statements. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's primary exposures to market risks include fluctuations in interest rates on its short-term and long-term borrowings of $9.8 million as of July 1, 2000 under its credit facility and in foreign currency exchange rates. The Company does not use derivative financial instruments. Historically, the Company has not experienced material gains or losses due to interest rate changes. Management does not believe that the risk inherent in the variable-rate nature of these instruments will have a material adverse effect on the Company's consolidated financial statements. However, no assurance can be given that such a risk will not have a material adverse effect on the Company's consolidated financial statements in the future. The Company's term loan and line of credit bear interest rates based on either a base rate or a LIBOR contract rate. The Company's UK term loan and the UK line of credit bear interest rates based on either a Sterling base rate or a LIBOR contract rate. As of July 1, 2000, the outstanding balance on all of the Company's credit facilities was $9,769,290. Based on this balance, an immediate change of one per cent in the interest rate would cause a change in interest expense of approximately $98,000 on an annual basis. The Company's objective in maintaining these variable rate borrowings is the flexibility obtained regarding early repayment without penalties and lower overall cost as compared with fixed-rate borrowings. The foreign currencies to which the Company has the most significant exchange rate exposure are the British Pound, Chinese Yuan, Indonesian Rupiah and Korean Won. The Company expects that most of its wigs and hairpieces will continue to be manufactured in China, Indonesia and Korea in the future. 14 Although a substantial portion of the Company's transactions with these countries occurs in US dollars, the Company's operations may be subject to fluctuations in the value of these countries' currencies. Although to date such exchange rate exposures have not had a significant effect on the Company's business operations, no assurance can be given that such exchange rate exposures will not have a material adverse effect on the Company's business operations in the future. PART II. OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The Company held its annual meeting of shareholders on Thursday, June 22, 2000. The following represents the results of the voting on proposals submitted to a vote of shareholders at such meeting: a. Proposal to elect directors:
NAME OF DIRECTOR NUMBER OF VOTES IN FAVOR NUMBER OF VOTES WITHHELD ---------------- ------------------------ ------------------------ David Cicurel 3,169,668 7,100 Martin E. Franklin 3,169,668 7,100 Samuel L. Katz 3,169,668 7,100 Guy Naggar 3,169,668 7,100
All persons name above were re-elected as directors of the Company for a term of office expiring on the date of the next annual meeting of shareholders, or special meeting in lieu thereof, and until their respective successors are duly elected and qualified. b. Proposal to ratify and approve the Company's 2000 Stock Incentive Plan. VOTES FOR VOTES AGAINST VOTES ABSTAINING NOT VOTED 1,989,058 160,998 0 1,026,712 c. Proposal to ratify the appointment of Deloitte & Touche LLP as the Company's independent auditors for the fiscal year ending December 30, 2000: VOTES FOR VOTES AGAINST VOTES ABSTAINING 3,176,668 100 0 15 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 10.1 Employment Agreement dated as of May 8, 2000 between the Registrant and Joseph Grabowski. Filed as Exhibit 10.1 to Specialty Catalog Corp.'s Form 10-Q for the Quarter Ended April 1, 2000. 10.2 Eighth Amendment to Credit and Guaranty Agreement and Seventh Amendment to Credit Agreement dated as of May 12, 2000 between Fleet National Bank and the Registrant. Filed as Exhibit 10.2 to Specialty Catalog Corp.'s Form 10-Q for the Quarter Ended April 1, 2000. 10.3 Rights Agreement between Specialty Catalog Corp. and Continental Stock Transfer and Trust Company, as Rights Agent. Filed as Exhibit 4.1 to Specialty Catalog Corp.'s Form 8-K, dated April 11, 2000 27.1 Financial Data Schedule (for EDGAR filing purposes only). Filed herewith. (b) Reports on Form 8-K during the three months ended July 1, 2000: April 11, 2000 - Rights Agreement between Specialty Catalog Corp. and Continental Stock Transfer and Trust Company, as Rights Agent. 16 SIGNATURES PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(d) OF THE SECURITIES ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED. SPECIALTY CATALOG CORP. Dated: August 14, 2000 By: /s/ Joseph Grabowski ----------------------------- JOSEPH GRABOWSKI CHIEF EXECUTIVE OFFICER AND PRESIDENT Dated: August 14, 2000 By: /s/ Thomas McCain ----------------------------- THOMAS MCCAIN SENIOR VICE PRESIDENT, CHIEF FINANCIAL OFFICER, SECRETARY AND TREASURER 17