-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, B/pGmjHbhFWuE6whs7eEjl9YuWcT6N1nVKh2HndhKSPc+NWiqMZq3QC5z2oCepKe i4Oe4ZSBLsR8J6RNHKHetw== 0000902561-04-000523.txt : 20041115 0000902561-04-000523.hdr.sgml : 20041115 20041115155848 ACCESSION NUMBER: 0000902561-04-000523 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20041002 FILED AS OF DATE: 20041115 DATE AS OF CHANGE: 20041115 FILER: COMPANY DATA: COMPANY CONFORMED NAME: GFSI INC CENTRAL INDEX KEY: 0001036327 STANDARD INDUSTRIAL CLASSIFICATION: MISCELLANEOUS FABRICATED TEXTILE PRODUCTS [2390] IRS NUMBER: 742810748 STATE OF INCORPORATION: DE FISCAL YEAR END: 0627 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 333-24189 FILM NUMBER: 041145165 BUSINESS ADDRESS: STREET 1: 9700 COMMERCE PARKWAY CITY: LENEXA STATE: KS ZIP: 66219 BUSINESS PHONE: 9138880445 10-Q 1 form10q.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended October 2, 2004. --------------- OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________________ to ________________ Commission file number 333-24189 --------- GFSI, INC. --------------------------------------------------- (Exact name of registrant specified in its charter) Delaware 74-2810748 ------------------------------- ------------------------------------ (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 9700 Commerce Parkway Lenexa, Kansas 66219 ---------------------------------------- (Address of principal executive offices) (913) 693-3200 ---------------------------------------------------- (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 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. (1) Yes (X) No ( ) (2) Yes (X) No ( ) Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes ( ) No (X) Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: Common stock, $0.01 par value per share - 1 share issued and outstanding as of November 1, 2004. 1 GFSI, INC. AND SUBSIDIARIES Quarterly Report on Form 10-Q For the Quarter Ended October 2, 2004 INDEX Page ---- PART I - FINANCIAL INFORMATION ITEM 1 - CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Consolidated Balance Sheets 3 Consolidated Statements of Income 4 Consolidated Statements of Cash Flows 5 Notes to Consolidated Financial Statements 6 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 11 ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 16 ITEM 4 - CONTROLS AND PROCEDURES 16 PART II - OTHER INFORMATION 17 SIGNATURE PAGE 18 2 GFSI, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (UNAUDITED) (In thousands, except share data) October 2, July 3, 2004 2004 ----------- ---------- ASSETS Current assets: Cash and cash equivalents $ 1,291 $ 911 Accounts receivable, net 33,641 32,831 Inventories, net 46,331 45,616 Prepaid expenses and other current assets 1,483 1,667 Deferred income taxes 997 1,077 ----------- ---------- Total current assets 83,743 82,102 Property, plant and equipment, net 23,379 22,990 Other assets: Deferred financing costs, net 1,862 2,073 Other 124 122 ----------- ---------- Total assets $ 109,108 $ 107,287 =========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY) Current liabilities: Accounts payable $ 8,648 $ 12,304 Accrued interest expense 1,179 4,424 Accrued expenses 7,439 7,245 Income taxes payable 11,839 10,478 Current portion of long-term debt 174 190 ----------- ---------- Total current liabilities 29,279 34,641 Deferred income taxes 1,357 1,501 Other long-term obligations 452 452 Long-term debt, less current portion 165,963 160,629 Stockholders' equity (deficiency): Common stock, $.01 par value, 10,000 shares authorized, one share issued and outstanding at October 2, 2004 and July 3, 2004 -- -- Additional paid-in capital 71,442 71,442 Parent company bonds acquired (24,995) (24,995) Accumulated deficiency (134,390) (136,383) ----------- ---------- Total stockholders' deficiency (87,943) (89,936) ----------- ---------- Total liabilities and stockholders' equity (deficiency) $ 109,108 $ 107,287 =========== ========== See notes to consolidated financial statements. 3 GFSI, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (In thousands) Quarter Ended October 2, September 27, 2004 2003 ---------- ------------ Net sales $ 53,439 $ 53,818 Cost of sales 32,759 32,752 ---------- ---------- Gross profit 20,680 21,066 Operating expenses: Selling 7,357 6,773 General and administrative 6,013 5,982 ---------- ---------- 13,370 12,755 ---------- ---------- Operating income 7,310 8,311 Other income (expense): Interest expense (3,840) (3,731) Gain on sale of property, plant and equipment 21 939 ---------- ---------- (3,819) (2,792) ---------- ---------- Income before income taxes 3,491 5,519 Income tax expense 1,358 2,152 ---------- ---------- Net income $ 2,133 $ 3,367 ========== ========== See notes to consolidated financial statements. 4 GFSI, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (In thousand) Quarter Ended October 2, September 27, 2004 2003 ---------- ------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 2,133 $ 3,367 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation 792 657 Amortization of deferred financing costs 214 253 Gain on sale or disposal of property, plant and equipment (20) (939) Deferred income taxes (64) 66 Changes in operating assets and liabilities: Accounts receivable, net (810) (1,028) Inventories, net (715) 4,924 Prepaid expenses, other current assets and other assets 182 (153) Income taxes payable 1,361 2,078 Accounts payable, accrued expenses and other long-term obligations (6,707) 8,105 -------- -------- Net cash provided by (used in) operating activities (3,634) 17,330 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sales of property, plant and equipment 25 2,797 Purchases of property, plant and equipment (1,186) (990) -------- -------- Net cash provided by (used in) investing activities (1,161) 1,807 -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Net change in revolving credit agreement borrowing 5,360 (6,663) Purchase of parent company bonds -- (12,230) Distributions to GFSI Holdings, Inc. (191) (240) Issuance of long-term debt -- 82 Payments on long-term debt (42) (72) Other (3) (1) -------- -------- Net cash provided by (used in) financing activities 5,124 (19,124) -------- -------- Effect of foreign exchange rate changes on cash 51 (17) -------- -------- Net increase (decrease) in cash and cash equivalents 380 (4) Cash and cash equivalents at beginning of period 911 1,387 -------- -------- Cash and cash equivalents at end of period $ 1,291 $ 1,383 ======== ======== Supplemental cash flow information: Interest paid $ 6,762 $ 6,832 ======== ======== Income taxes paid $ 64 $ 9 ======== ======== Non-cash financing activities: Bonds contributed from parent company $ -- $ 12,315 ======== ======== See notes to consolidated financial statements.
5 GFSI, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) October 2, 2004 1. Basis of Presentation --------------------- The accompanying unaudited consolidated financial statements of GFSI, Inc. (the "Company") include the accounts of the Company and the accounts of its wholly-owned subsidiaries, Event 1, Inc. ("Event 1"), CC Products, Inc. ("CCP") and GFSI Canada Company. All intercompany balances and transactions have been eliminated. The unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X promulgated by the Securities and Exchange Commission. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for annual financial statement reporting purposes. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the financial position, operations and cash flows of the Company have been included. Operating results for the interim periods are not necessarily indicative of the results that may be expected for the entire fiscal year. The consolidated balance sheet information as of July 3, 2004 has been derived from the audited consolidated financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. For further information, refer to the consolidated financial statements and footnotes thereto for the year ended July 3, 2004 included in the Company's Annual Report on Form 10-K. The Company is a wholly owned subsidiary of GFSI Holdings, Inc. ("Holdings"). 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 those estimates. 2. Commitments and Contingencies ----------------------------- The Company, in the normal course of business, may be threatened with or named as a defendant in various lawsuits. It is not possible to determine the ultimate disposition of these matters, however, management is of the opinion that there are no known claims or known contingent claims that are likely to have a material adverse effect on the results of operations, financial condition, or cash flows of the Company. 3. Inventories: ----------- The following is a summary of inventories at October 2, 2004 and July 3, 2004: (in thousands) October 2, July 3, 2004 2004 ----------- ------- (unaudited) Undecorated apparel ("blanks") and supplies $ 44,678 $ 42,857 Work in process 184 314 Finished goods 1,864 3,340 -------- -------- 46,726 46,511 Allowance for markdowns (395) (895) -------- -------- Total $ 46,331 $ 45,616 ======== ======== 6 4. Condensed Consolidating Financial Information --------------------------------------------- The accompanying condensed consolidating financial information has been prepared and presented pursuant to SEC Regulation S-X Rule 3-10 "Financial statements of guarantors and issuers of guaranteed securities registered or being registered." This information is not necessarily intended to present the financial position, results of operations and cash flows of the individual companies or groups of companies in accordance with accounting principles generally accepted in the United States of America. Each of the subsidiary guarantors are 100% owned by GFSI, Inc. The subsidiary guarantees of GFSI, Inc.'s debts are full and unconditional and joint and several.
As of October 2, 2004 (in thousands) (unaudited): Parent Subsidiary Consolidating Consolidated Obligor Guarantors Adjustments GFSI, Inc. --------- ---------- ------------- ------------ Assets: Current assets: Cash and cash equivalents $ 1,203 $ 88 $ -- $ 1,291 Accounts receivable, net 18,660 31,686 (16,705) 33,641 Inventories, net 44,338 1,993 -- 46,331 Prepaid expenses and other current assets 1,274 209 -- 1,483 Deferred income taxes 997 -- -- 997 -------- -------- -------- --------- Total current assets 66,472 33,976 (16,705) 83,743 Investment in equity of subsidiaries 30,996 -- (30,996) -- Property, plant and equipment, net 23,188 191 -- 23,379 Other assets 2,634 (648) -- 1,986 -------- -------- -------- --------- Total assets $123,290 $ 33,519 $(47,701) $ 109,108 ======== ======== ======== ========= Liabilities and stockholders' equity: Current liabilities: Accounts payable $ 25,140 $ 213 $(16,705) $ 8,648 Accrued interest expense 1,179 -- -- 1,179 Accrued expenses 4,984 2,455 -- 7,439 Income taxes payable 11,984 (145) -- 11,839 Current portion of long-term debt 174 -- -- 174 -------- -------- -------- --------- Total current liabilities 43,461 2,523 (16,705) 29,279 Deferred income taxes 1,357 -- -- 1,357 Other long-term obligations 452 -- -- 452 Long-term debt, less current portion 165,963 -- -- 165,963 Stockholders' equity (deficiency) (87,943) 30,996 (30,996) (87,943) -------- -------- -------- --------- Total liabilities and stockholders' equity $123,290 $ 33,519 $(47,701) $ 109,108 (deficiency) ======== ======== ======== =========
7
Quarter ended October 2, 2004 (in thousands) (unaudited): Parent Subsidiary Consolidating Consolidated Obligor Guarantors Adjustments GFSI, Inc. --------- ---------- ------------- ------------ Net sales $ 30,573 $ 22,990 $ (124) $ 53,439 Cost of sales 19,465 13,418 (124) 32,759 Selling expenses 3,788 3,569 -- 7,357 General and administrative expense 5,177 836 -- 6,013 --------- ---------- --------- --------- Total costs and expenses 28,430 17,823 (124) 46,129 --------- ---------- --------- --------- Operating income 2,143 5,167 -- 7,310 Equity in net earnings of subsidiaries 3,154 -- (3,154) -- Interest expense (3,838) (2) -- (3,840) Gain (loss) on sale of property, plant and equipment 22 (1) -- 21 --------- ---------- --------- --------- Income before income taxes 1,481 5,164 (3,154) 3,491 Income tax expense (benefit) (652) 2,010 1,358 --------- ---------- --------- --------- -- Net income $ 2,133 $ 3,154 $ (3,154) $ 2,133 ========= ========== ========== =========
Quarter ended October 2, 2004 (in thousands) (unaudited): Parent Subsidiary Consolidating Consolidated Obligor Guarantors Adjustments GFSI, Inc. ---------- ---------- ------------- ------------ Net cash flows provided by (used in) operating activities $ (3,640) $ 6 $ -- $ (3,634) Net cash flows provided by (used in) investing activities (1,151) (10) -- (1,161) Cash flows from financing activities: Net borrowings under revolving credit agreements 5,360 -- -- 5,360 Payments on long-term debt (42) -- -- (42) Distributions to GFSI Holdings, Inc. (191) -- -- (191) Other (3) -- -- (3) --------- ---------- --------- ---------- Net cash provided by financing activities 5,124 -- -- 5,124 --------- ---------- --------- ---------- Effect of foreign exchange rate changes on cash -- 51 -- 51 --------- ---------- --------- ---------- Net increase in cash and cash equivalents 333 47 -- 380 Cash and cash equivalents at beginning of period 870 41 -- 911 --------- ---------- --------- ---------- Cash and cash equivalents at end of period $ 1,203 $ 88 $ -- $ 1,291 ========= ========== ========= ==========
8
As of July 3, 2004 (in thousands): Parent Subsidiary Consolidating Consolidated Obligor Guarantors Adjustments GFSI, Inc. ---------- ---------- ------------- ------------ Current assets: Cash and cash equivalents $ 870 $ 41 $ -- $ 911 Accounts receivable, net 18,978 27,338 (13,485) 32,831 Inventories, net 42,724 2,892 -- 45,616 Prepaid expenses and other current assets 1,453 214 -- 1,667 Deferred income taxes 1,077 -- -- 1,077 --------- --------- --------- ---------- Total current assets 65,102 30,485 (13,485) 82,102 Investment in equity of subsidiaries 27,791 -- (27,791) -- Property, plant and equipment, net 22,799 191 -- 22,990 Other assets 2,842 (647) 2,195 --------- --------- --------- ---------- Total assets $ 118,534 $ 30,029 $ (41,276) $ 107,287 ========= ========= ========= ========== Liabilities and stockholders' equity: Current liabilities: Accounts payable $ 25,261 $ 528 $ (13,485) $ 12,304 Accrued interest expense 4,424 -- -- 4,424 Accrued expenses 5,414 1,831 -- 7,245 Income taxes payable (receivable) 10,599 (121) -- 10,478 Current portion of long-term debt 190 -- -- 190 --------- --------- --------- ---------- Total current liabilities 45,888 2,238 (13,485) 34,641 Deferred income taxes 1,501 -- -- 1,501 Other long-term obligations 452 -- -- 452 Long-term debt, less current portion 160,629 -- -- 160,629 Stockholders' equity (deficiency) (89,936) 27,791 (27,791) (89,936) --------- --------- --------- ---------- Total liabilities and stockholders' equity $ 118,534 $ 30,029 $ (41,276) $ 107,287 (deficiency) ========= ========= ========== ==========
Quarter ended September 27, 2003 (in thousands) (audited): Parent Subsidiary Consolidating Consolidated Obligor Guarantors Adjustments GFSI, Inc. ---------- ---------- ------------- ------------ Net sales $ 32,118 $ 21,850 $ (150) $ 53,818 Cost of sales 19,751 13,151 (150) 32,752 Selling expenses 3,473 3,300 -- 6,773 General and administrative expense 5,111 871 -- 5,982 --------- ---------- ---------- ---------- Total costs and expenses 28,335 17,322 (150) 45,507 --------- ---------- ---------- ---------- Operating income 3,783 4,528 -- 8,311 Equity in net earnings of subsidiaries 2,755 -- (2,755) -- Interest expense (3,729) (12) 10 (3,731) Gain on sale of property, plant and equipment 949 -- (10) 939 --------- ---------- ---------- ---------- Income before income taxes 3,758 4,516 (2,755) 5,519 Income tax expense 391 1,761 -- 2,152 --------- ---------- ---------- ---------- Net income $ 3,367 $ 2,755 $ (2,755) $ 3,367 ========= ========== ========== ==========
9 Quarter ended September 27, 2003 (in thousands) (audited):
Parent Subsidiary Consolidating Consolidated Obligor Guarantors Adjustments GFSI, Inc. ---------- ---------- ------------- ------------ Net cash flows provided by operating activities $ 16,922 $ 408 $ -- $ 17,330 Net cash flows provided by investing activities 1,807 -- -- 1,807 Cash flows from financing activities: Net borrowings under revolving credit agreements (6,663) -- -- (6,663) Purchase of parent company bonds (12,230) -- -- (12,230) Payments on long-term debt (72) -- -- (72) Repayment of intercompany debt 375 (375) -- -- Issuance of long-term debt 82 -- -- 82 Distributions to GFSI Holdings, Inc. (240) -- -- (240) Other (1) -- -- (1) --------- --------- --------- -------- Net cash used in financing activities (18,749) (375) -- (19,124) --------- --------- --------- -------- Effect of foreign exchange rate changes on cash -- (17) -- (17) --------- --------- --------- -------- Net increase (decrease) in cash and cash equivalents (20) 16 -- (4) Cash and cash equivalents at beginning of period 1,323 64 -- 1,387 --------- --------- --------- -------- Cash and cash equivalents end of period $ 1,303 $ 80 $ -- $ 1,383 ========= ========= ========= ========
5. Financing and Recapitalization ------------------------------ On October 4, 2004, the Company amended its existing $65 million Revolving Bank Credit Agreement ("RBCA"). Under the terms of amendment, the term of the credit agreement was extended by one year to January 15, 2007. In September 2003, Company management formed a Delaware limited liability company named Gearcap LLC ("Gearcap") to affect the Recapitalization of Holdings. Gearcap purchased 11.375% Senior Discount Notes of Holdings ("11.375% Notes") with an aggregate principal amount at maturity of approximately $30.5 million (the "Contributed Notes") for approximately $12.3 million in cash. Gearcap and Holdings subsequently entered into an Exchange Agreement under which they exchanged 8,250 shares of newly authorized Holdings Class C common stock and 11,490 shares of newly authorized Series E 10% Cumulative Preferred Stock for the Contributed Notes. The Company and Holdings entered into a Contribution Agreement under which Holdings contributed the Contributed Notes it received from Gearcap to the Company as a capital contribution. The Company subsequently pledged the 11.375% Notes as collateral under the RBCA. In September 2003, the Company purchased 11.375% Notes with an aggregate principal amount at maturity of approximately $29.5 million for approximately $12.2 million. The Company subsequently pledged the Notes as collateral under the RBCA. When combined with 11.375% Notes previously acquired, the Company had acquired 11.375% Notes of Holdings with an aggregate maturity value of $84 million representing 78% of the issued 11.375% Notes of Holdings. The Company has elected to record its investment in the 11.375% Notes as a reduction of stockholders' equity at the acquisition cost of the 11.375% Notes. In fiscal 2004 the Company distributed a dividend to Holdings in the form of 11.375% Notes with a cost of $9.5 million and a value at maturity of $21.8 million. At a future date the Company intends to distribute to Holdings its remaining 11.375% Notes it holds to permit the parent company to formally retire these notes. The Company is currently restricted under its various long-term debt agreements from making a full distribution of the remaining 11.375% Notes it holds. At October 2, 2004 stockholders' equity (deficiency) included a reduction of $25.0 million representing the remaining acquisition cost of the 11.375% Notes held by the Company. 10 The Company's and Gearcap's purchases of the 11.375% Notes has reduced the Company's future cash dividend obligations to Holdings to enable it to retire the 11.375% Notes in 2009 from $108 million to $24 million. Additionally, the purchases of the 11.375% Notes has reduced the Company's future cash dividend obligations to Holdings to enable it to pay interest on the 11.375% Notes (commencing in March 2005) from $12.3 million to $2.7 million annually. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The discussions set forth in this Form 10-Q should be read in conjunction with the financial information included herein and the Company's Annual Report on Form 10-K for the year ended July 3, 2004. Management's discussion and analysis of financial condition and results of operations and other sections of this report contain forward-looking statements relating to future results of the Company. Such forward-looking statements are identified by use of forward-looking words such as "anticipates", "believes", "plans", "estimates", "expects", and "intends" or words or phrases of similar expression. These forward-looking statements are subject to various assumptions, risks and uncertainties, including but not limited to, changes in political and economic conditions, demand for the Company's products, acceptance of new products, developments affecting the Company's products and to those discussed in the Company's filings with the Securities and Exchange Commission. Accordingly, actual results could differ materially from those contemplated by the forward-looking statements. CRITICAL ACCOUNTING POLICIES The following discussion and analysis of financial condition, results of operations, liquidity and capital resources is based upon the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. Generally accepted accounting principles require estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, the Company evaluates its estimates, including those related to bad debts, inventories, intangible assets, long-lived assets, deferred income taxes, accrued expenses, contingencies and litigation. The Company bases its estimates on historical experience and on various other assumptions that it believes are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ materially from these estimates under different assumptions or conditions. The Company's management believes that some of its significant accounting policies involve a higher degree of judgment or complexity than other accounting policies. Identified below are the policies deemed critical to its business and the understanding of its results of operations. Revenue recognition. The Company recognizes revenues when goods are shipped, title has passed, the sales price is fixed and collectibility is reasonably assured. Returns, discounts and sales allowance estimates are based on projected sales trends, historical data and other known factors. If actual returns, discounts and sales allowances are not consistent with the historical data used to calculate these estimates, net sales could either be understated or overstated. 11 Accounts receivable. Accounts receivable consist of amounts due from customers and business partners. The Company maintains an allowance for doubtful accounts to reflect expected credit losses and generally provides for bad debts based on collection history and specific risks identified on a customer-by-customer basis. A considerable amount of judgment is required to assess the ultimate realization of accounts receivable and the credit-worthiness of each customer. Furthermore, these judgments must be continually evaluated and updated. If the historic data used to evaluate credit risk does not reflect future collections, or, if the financial condition of the Company's customers were to deteriorate causing an impairment of their ability to make payments, additional provisions for bad debts may be required in future periods. Accounts receivable at October 2, 2004 and July 3, 2004 were net of allowance for doubtful accounts of $577,000 and $637,000, respectively. Reserves for self-insurance. The Company seeks to employ cost effective risk management programs. At times the Company has elected to retain a portion of insurance risk related to workers' compensation claims which are covered under insurance programs with high deductible limits. The Company also actively pursues programs intended to effectively manage the incidence of workplace injuries. Reserves for reported but unpaid losses, as well as incurred but not reported losses, related to the retained risks are calculated based upon loss development factors, as well as other assumptions considered by management, including assumptions provided by other external professionals such as insurance brokers, consultants and carriers. The factors and assumptions used are subject to change based upon historical experience, as well as changes in expected cost trends and other factors. Inventories. Inventories are carried at the lower of cost or market determined under the First-In, First-Out (FIFO) method. The Company writes down obsolete and unmarketable inventories to their estimated market value based upon, among other things, assumptions about future demand and market conditions. If actual market conditions are less favorable than projected, additional inventory write-downs may be required. The Company also records changes in valuation allowances due to changes in operating strategy, such as the discontinuances of certain product lines and other merchandising decisions related to changes in demand. It is possible that further changes in required inventory allowances may be necessary in the future as a result of market conditions and competitive pressures. COMPARISON OF OPERATING RESULTS FOR THE QUARTERS ENDED OCTOBER 2, 2004 AND SEPEMBER 27, 2003 Net Sales. Net sales for the quarter ended October 2, 2004 were $53.4 million compared to $53.8 million last year, a 1% decline. Certain customer groups produced sales gains off-set by sales declines in other areas. Sales of Champion(R) licensed products continued to experience growth of 6%. This sales increase was offset by sales decreases in Gear branded products. Sales of Gear branded products to Resort and Golf customers increased 13% over last year. This growth was offset by declines of 31% in sales to Corporate and Military customer groups. The Company expects sales in the Resort and Golf markets to soften for the remainder of fiscal 2005 due to the consequences of the recent disastrous weather in Florida, a prime winter and spring golf and resort destination. Gross Profit. Gross profit for the quarter ended October 2, 2004 decreased 2% to $20.7 million compared to $21.1 million last year. Gross profit as a percentage of net sales at 39% was approximately the same for both periods. The decrease in gross profit resulted from an increased volume of off-price sales. The Company is currently working to reduce its higher than desired level of inventory. The Company anticipates it will continue to move through its inventory overstocks during the second and third quarters of fiscal 2005 which may reduce gross profit as compared to last year. Operating Expenses. Operating expenses for the quarter ended October 2, 2004 increased 5% to $13.4 million from $12.8 million last year. Operating expenses as a percentage of net sales were 25% in the first quarter of fiscal 12 2005 compared to 24% last year. Operating expenses increased due to higher selling expenses. During the first quarter of fiscal 2005 the Company sold more licensed apparel at higher royalty rates than in the first quarter of fiscal 2004. The royalty obligation on Champion(R) branded apparel in fiscal 2004 was 3% of net sales compared to 4% for fiscal 2005. The increased royalty expense related to the Champion(R) license and other licensed apparel sales created the increase in operating expenses as a percentage of net sales in comparison to last year. Operating Income. Operating income decreased 12% to $7.3 million in the first quarter of fiscal 2005 compared to $8.3 million last year. Operating income as a percentage of net sales decreased to 14% in the first quarter of fiscal 2005 from 15% in the first quarter of fiscal 2004. Lower sales along with increased operating expenses created the decrease in operating income. Interest Expense. Interest expense in the first quarter of fiscal 2005 was $3.8 million compared to $3.7 million last year. Higher borrowings and higher interest rates created the increase in interest expense. Gain on sale of property, plant and equipment. During the first quarter of fiscal 2004, the Company sold its 100,000 square foot distribution facility located in Lenexa, Kansas, for approximately $2.8 million and recorded a pre-tax gain of approximately $900,000 in other income during the first quarter of last year. The facility was sold as part of a warehouse consolidation and automation initiative completed in fiscal 2004 which combined distribution operations into a larger, renovated facility and eliminated several smaller warehouses. Net Income. Net income for the first quarter of fiscal 2005 was $2.1 million compared to $3.4 million for the first quarter of fiscal 2004, a decrease of $1.3 million or 37%. The current year's decrease in operating income combined with last year's gain on the sale of the distribution facility to produce the comparative decrease in net income. NEW LICENSE AGREEMENTS During the first quarter of fiscal 2005 the Company entered into license agreements for two new apparel brands. The two new brands will be targeted at the high-end casual and technical outerwear golf markets. Sales for these brands are not expected to be significant in fiscal 2005. The Company expects to incur product launch and preproduction expenses related to these brands of approximately $750,000 in the remainder of fiscal 2005. FINANCING AND RECAPITALIZTION In September 2003, Company management formed a Delaware limited liability company named Gearcap LLC ("Gearcap") to affect the Recapitalization of Holdings. Gearcap purchased 11.375% Senior Discount Notes of Holdings ("11.375% Notes") with an aggregate principal amount at maturity of approximately $30.5 million (the "Contributed Notes") for approximately $12.3 million in cash. Gearcap and Holdings subsequently entered into an Exchange Agreement under which they exchanged 8,250 shares of newly authorized Holdings Class C common stock and 11,490 shares of newly authorized Series E 10% Cumulative Preferred Stock for the Contributed Notes. The Company and Holdings entered into a Contribution Agreement under which Holdings contributed the Contributed Notes it received from Gearcap to the Company as a capital contribution. The Company subsequently pledged the 11.375% Notes as collateral under the RBCA. 13 On September 26, 2003, the Company purchased 11.375% Notes with an aggregate principal amount at maturity of approximately $29.5 million for approximately $12.2 million. The Company subsequently pledged the Notes as collateral under the RBCA. When combined with the 11.375% Notes previously acquired, the Company had acquired 78% of the issued 11.375% Notes of Holdings. The Company has elected to record its investment in the 11.375% Notes as a reduction of stockholders' equity at the acquisition cost of the 11.375% Notes. In fiscal 2004 the Company distributed a dividend to Holdings in the form of 11.375% Notes with a cost of $9.5 million and a value at maturity of $21.8 million. At a future date the Company intends to distribute to Holdings its remaining 11.375% Notes it holds to permit the parent company to formally retire these notes. The Company is currently restricted under its various long-term debt agreements from making a full distribution of the remaining 11.375% Notes it holds. At October 2, 2004 stockholders' equity (deficiency) included a reduction of $25.0 million representing the remaining acquisition cost of the 11.375% Notes held by the Company. LIQUIDITY AND CAPITAL RESOURCES Cash used in operating activities in the first quarter of fiscal 2005 was $3.6 million compared to cash provided by operating activities of $17.3 million last year. Higher inventory levels, lower accounts payable and lower net income produced the decrease in the first quarter's fiscal 2005 operating cash flows. Accounts payable at September 27, 2003 included $11.6 million in unpaid funds to settle the Recapitalization transaction. Cash used in investing activities in the first quarter of fiscal 2005 was $1.2 million compared to cash provided by investing activities of $1.8 million last year. In the first quarter of fiscal 2004, $2.8 million in proceeds were received from the sale of the Company's Lenexa distribution facility. The Company anticipates fiscal 2005 capital expenditures to approximate $3 million. Cash provided by financing activities in the first quarter of fiscal 2005 was $5.1 million compared to cash used in financing activities of $19.1 million in the comparable period of fiscal 2004. In the first quarter of fiscal 2005 borrowings under the Company's RBCA were used to finance higher levels of inventory. The purchase of Holdings 11.375% Notes and the repayment of bank debt was the primary use of cash in fiscal 2004. On October 4, 2004 the Company amended its $65 million Revolving Bank Credit Agreement ("RBCA") to extend the term of the credit agreement to January 15, 2007. Under the Company's RBCA up to $65 million of revolving credit availability is provided, of which $30.5 million was borrowed and outstanding and approximately $4.5 million was utilized for outstanding commercial and stand-by letters of credit as of October 2, 2004. At October 2, 2004, $22.0 million was available for future borrowings under the RBCA. The Company believes that cash flows from operating activities and borrowings under the RBCA will be adequate to meet the Company's short-term and future liquidity requirements prior to the maturity of the RBCA in fiscal 2007, although no assurance can be given in this regard. The Company anticipates paying dividends to Holdings to enable Holdings to pay corporate income taxes, pursuant to a Tax Sharing Agreement, interest on the 11.375% Notes, fees payable under management agreements, fees payable under a non-competition agreement, and certain other ordinary course expenses. Holdings is dependent upon the cash flows of the Company to provide funds to service the 11.375% Notes. At October 2, 2004, Holdings' debt to third parties totaled approximately $24.5 million. The 11.375% Notes annual cash flow requirements commence in March 2005 with semi-annual cash installments of approximately $1.4 million on March 15 and September 15 of each year. 14 Additionally, Holdings' cumulative non-cash preferred stock ("Holdings Preferred Stock") dividends total approximately $1.5 million annually. Dividends on the Holdings Preferred Stock have been accumulating and not paid in cash. Mandatory redemption of the Holdings Preferred Stock is required in fiscal 2009 and fiscal 2017. SEASONALITY AND INFLATION The Company experiences seasonal fluctuations in its sales and profitability, with generally higher sales and gross profit in the first and second quarters of its fiscal year. The seasonality of sales and profitability is primarily due to higher college bookstore sales during the first two fiscal quarters. Sales at the Company's Resort and Corporate divisions typically show little seasonal variations. The impact of inflation on the Company's operations has not been significant to date. However, there can be no assurance that a high rate of inflation in the future would not have an adverse effect on the Company's operating results. OFF-BALANCE SHEET ARRANGEMENTS The Company does not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future material effect on the Company's financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources. 15 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK DERIVATIVE AND MARKET RISK DISCLOSURE The Company's market risk exposure is primarily due to possible fluctuations in interest rates. The fixed rate portion of the Company's long-term debt does not bear significant interest rate risk. An immediate 10% change in interest rates would not have a material effect on the Company's results of operations over the next fiscal year, although there can be no assurances that interest rates will not significantly change. ITEM 4. CONTROLS AND PROCEDURES An evaluation was performed under the supervision and with the participation of the Company's management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the period ended October 2, 2004. Based on that evaluation, the Company's management, including the Chief Executive Officer and the Chief Financial Officer, concluded that the Company's disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company's periodic SEC filings. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls, nor were any corrective actions required with regard to significant deficiencies and material weaknesses. 16 PART II - OTHER INFORMATION Item 1. Legal Proceedings The Company is not a party to any pending legal proceeding the resolution of which, the management of the Company believes, would have a material adverse effect on the Company's results of operations or financial condition, nor to any other pending legal proceedings other than ordinary, routine litigation incidental to its business. 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 5. Other Information None. Item 6. Exhibits Exhibit Number Description ------- ----------- 31.1 Certification of Principal Executive Officer. 31.2 Certification of Principal Financial Officer. 17 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. GFSI, INC. November 11, 2004 /s/ J. Craig Peterson ---------------------------------------------------- J. Craig Peterson, Sr. Vice President of Finance and Principal Accounting Officer 18 EX-31.1 2 ex31_1.txt Exhibit 31.1 CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER REGARDING GFSI, INC.'S QUARTERLY REPORT ON FORM 10-Q FOR THE PERIOD ENDED OCTOBER 2, 2004 I, Robert M. Wolff, Chairman and Chief Executive Officer (Principal Executive Officer) of GFSI, Inc., certify that: 1. I have reviewed this Quarterly Report on Form 10-Q of GFSI, Inc.; 2. Based on my knowledge, this Quarterly Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Quarterly Report; 3. Based on my knowledge, the financial statements, and other financial information included in this Quarterly Report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this Quarterly Report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f))for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Quarterly Report is being prepared; (b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this Quarterly Report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this Quarterly Report based on such evaluation; and (d) Disclosed in this Quarterly Report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent function): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 11, 2004 /s/ Robert M. Wolff - ---------------------------- Robert M. Wolff Chairman and Chief Executive Officer EX-31.2 3 ex31_2.txt Exhibit 31.2 CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER REGARDING GFSI, INC.'S QUARTERLY REPORT ON FORM 10-Q FOR THE PERIOD ENDED OCTOBER 2, 2004 I, J. Craig Peterson, Senior Vice President and Chief Financial Officer (Principal Financial Officer) of GFSI, Inc., certify that: 1. I have reviewed this Quarterly Report on Form 10-Q of GFSI, Inc.; 2. Based on my knowledge, this Quarterly Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Quarterly Report; 3. Based on my knowledge, the financial statements, and other financial information included in this Quarterly Report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this Quarterly Report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e))and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Quarterly Report is being prepared; (b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this Quarterly Report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this Quarterly Report based on such evaluations; and (d) Disclosed in this Quarterly Report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent function): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 11, 2004 /s/ J. Craig Peterson - -------------------------- J. Craig Peterson Senior Vice President and Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----