10-Q 1 a10-q.txt FORM 10-Q UNITED STATES 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 JUNE 30, 2000 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 333-58223 DIAMOND BRANDS OPERATING CORP. (Exact name of registrant as specified in its charter) DELAWARE 411905675 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 1800 CLOQUET AVENUE 55720 CLOQUET, MINNESOTA (Address of principal executive offices) (Zip Code) (218) 879-6700 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes {x} No { } As of August 11, 2000, 100% of the common stock of the Registrant was owned by Diamond Brands Incorporated. There is no established public trading market for such stock. Documents incorporated by reference: None DIAMOND BRANDS OPERATING CORP. TABLE OF CONTENTS PART I - FINANCIAL INFORMATION ITEM - 1. Financial Statements (Unaudited) Consolidated Balance Sheets Consolidated Statements of Operations Consolidated Statements of Cash Flow Notes to Consolidated Financial Statements ITEM - 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ITEM - 3. Quantitative and Qualitative Disclosures about Market Risk PART II - OTHER INFORMATION ITEM - 6. Exhibits and Reports on Form 8-K SIGNATURE DIAMOND BRANDS OPERATING CORP. Consolidated Balance Sheets (Unaudited) (In Thousands, Except Share and Per Share Amounts)
June 30, December 31, 2000 1999 ------------ ------------ ASSETS CURRENT ASSETS: Accounts receivable, net of allowances of $1,330 and $1,354 $ 13,272 $ 14,311 Inventories 16,991 12,084 Deferred income taxes 1,857 2,671 Prepaid expenses 592 590 Net assets from discontinued operations 426 1,589 ------------ ------------ Total current assets 33,138 31,245 PROPERTY, PLANT AND EQUIPMENT, net of accumulated depreciation of $21,415 and $20,210 17,388 16,188 GOODWILL 24,021 24,381 DEFERRED INCOME TAXES 5,395 5,395 DEFERRED FINANCING COSTS 5,621 6,085 ------------ ------------ $ 85,563 $ 83,294 ============ ============ LIABILITIES AND STOCKHOLDERS' DEFICIT CURRENT LIABILITIES: Current maturities of long-term debt $ 5,000 $ 4,625 Accounts payable 7,592 5,768 Accrued expenses 10,835 8,826 ------------ ------------ Total current liabilities 23,427 19,219 POSTRETIREMENT BENEFIT OBLIGATIONS 1,497 1,497 LONG-TERM DEBT, net of current maturities 170,750 173,000 ------------ ------------ Total liabilities 195,674 193,716 ------------ ------------ COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' DEFICIT: Common stock, $.01 par value; 1,000 shares authorized; 1,000 shares issued and outstanding 1 1 Accumulated deficit (110,112) (110,423) ------------ ------------ Total stockholders' deficit (110,111) (110,422) ------------ ------------ $ 85,563 $ 83,294 ============ ============
The accompanying notes are an integral part of these consolidated balance sheets. DIAMOND BRANDS OPERATING CORP. Consolidated Statements of Operations (Unaudited) (In Thousands)
Three Months Ended Six Months Ended June 30, June 30, ------------------------------------------------------ 2000 1999 2000 1999 ------------ ------------ ------------ ------------ NET SALES $ 27,419 $ 29,620 $ 50,701 $ 51,886 COST OF SALES 18,819 18,462 33,926 32,368 ------------ ------------ ------------ ------------ Gross profit 8,600 11,158 16,775 19,518 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES 2,674 3,398 5,825 6,407 GOODWILL AMORTIZATION 180 180 360 360 ------------ ------------ ------------ ------------ Operating income 5,746 7,580 10,590 12,751 INTEREST EXPENSE 4,624 4,799 8,915 9,146 ------------ ------------ ------------ ------------ Income from continuing operations before provision for income taxes 1,122 2,781 1,675 3,605 PROVISION FOR INCOME TAXES 520 1,184 813 1,584 ------------ ------------ ------------ ------------ Income from continuing operations 602 1,597 862 2,021 DISCONTINUED OPERATIONS (Note 2): Loss from discontinued operations, net of income tax benefit of $0, $593, $0 and $956, respectively -- 892 -- 1,436 ------------ ------------ ------------ ------------ Net income $ 602 $ 705 $ 862 $ 585 ============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial statements. DIAMOND BRANDS OPERATING CORP. Consolidated Statements of Cash Flows (Unaudited) (In Thousands)
Six Months Ended June 30, ---------------------------- 2000 1999 ------------ ------------- OPERATING ACTIVITIES: Net income $ 862 $ 585 Net assets of discontinued operations 1,163 (1,043) Adjustments to reconcile net income to net cash provided by (used for) operating activities from continuing operations- Depreciation and amortization 2,028 1,913 Deferred income taxes 814 628 Change in operating assets and liabilities- Accounts receivable 1,039 (3,710) Inventories (4,907) (728) Prepaid expenses (2) (443) Accounts payable 1,824 (427) Accrued expenses 2,009 (35) ------------ ------------ Net cash provided by (used for) operating activities of continuing operations 4,830 (3,260) ------------ ------------ INVESTING ACTIVITIES: Purchases of property, plant and equipment (2,404) (1,890) ------------ ------------ Net cash used for investing activities of continuing operations (2,404) (1,890) ------------ ------------ FINANCING ACTIVITIES: Borrowings under bank revolving line of credit 11,750 9,400 Repayments of bank revolving line of credit (11,500) (3,000) Repayments of long-term debt (2,125) (1,000) Distributions to Holdings (551) -- Debt issuance costs -- (250) ------------ ------------ Net cash provided by (used for) financing activities of continuing operations (2,426) 5,150 ------------ ------------ NET INCREASE IN CASH AND CASH EQUIVALENTS -- -- CASH AND CASH EQUIVALENTS, beginning of period -- -- ------------ ------------ CASH AND CASH EQUIVALENTS, end of period $ -- $ -- ============ ============ SUPPLEMENTAL CASH FLOW INFORMATION: Cash paid during the year for- Interest $ 8,567 $ 9,130 ============ ============ Income taxes $ -- $ 7 ============ ============
The accompanying notes are an integral part of these consolidated financial statements. DIAMOND BRANDS OPERATING CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BASIS OF PRESENTATION The accompanying consolidated financial statements include the accounts of Diamond Brands Operating Corp. ("Operating Corp") and Operating Corp.'s wholly owned subsidiaries, Forster Inc. and Empire Candle, Inc. (Empire) after elimination of all material intercompany balances and transactions. Operating Corp. and its subsidiaries are collectively referred to as "the Company". Diamond Brands Operating Corp. is a wholly owned subsidiary of Diamond Brands Incorporated ("Holdings") The consolidated financial statements have been restated to reflect the candle operation as a discontinued operation as further discussed in Note 2. The Company is a leading manufacturer and marketer of a broad range of consumer products including wooden matches, toothpicks, clothespins and wooden crafts and plastic cutlery and straws. The Company's products are marketed primarily in the United States and Canada under the nationally recognized Diamond and Forster brand names The interim consolidated financial statements of the Company are unaudited; however, in the opinion of management, all adjustments necessary for a fair presentation of such consolidated financial statements have been reflected in the interim periods presented. The significant accounting policies and certain financial information which are normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States, but which are not required for interim reporting purposes, have been condensed or omitted. The accompanying consolidated financial statements of the Company should be read in conjunction with the consolidated financial statements and related notes included in the Company's Annual Report on Form 10-K. 2. DISCONTINUED OPERATIONS Effective September 30, 1999, the board of directors of the Company approved the divestiture of the candle operations of the Company and recorded a total charge for the loss from discontinued operations of approximately $18,500,000, net of tax. For segment reporting purposes, the candle operations were previously reported as the candles reportable segment. On December 14, 1999, the Company entered into an agreement for purchase and sale of the assets of Empire. The agreement provided for the sale of certain assets and liabilities of Empire for a total consideration of approximately $2,900,000. The sale resulted in a decrease of the net loss on disposal of discontinued operations of $2,300,000, net of tax, during the fourth quarter of 1999. Net sales from discontinued operations were $0 and approximately $7,800,000 for the six months ended June 30, 2000 and 1999, respectively 3. LONG TERM DEBT In April 1998, the Company completed an offering of $100.0 million of 10 1/8% senior subordinated notes due 2008. The net proceeds to the Company for the offering, after discounts, commissions and other offering costs were $95.4 million and were used to repay existing indebtedness and purchase common stock of the Company. The senior subordinated notes are fully and unconditionally guaranteed on a senior subordinated basis, jointly and severally, by all of Operating Corp.'s direct and indirect subsidiaries (the "Subsidiary Guarantors"). The Subsidiary Guarantors are Forster, Inc. and Empire Candle, Inc. Separate financial statements of the Subsidiary Guarantors are not presented because management has determined that they are not material to investors. In lieu of the separate guarantor financial statements, summarized consolidating financial information of Holdings/Operating Corp. and the Subsidiary Guarantors are presented below (in thousands): AS OF JUNE 30, 2000
Operating Subsidiary Consolidated Corp Guarantor (1) Eliminations Total ------------------------------------------------------------- Balance sheet data: Current assets $ 15,639 $ 17,499 -- $ 33,138 Non current assets 97,875 12,255 (57,705) 52,425 Current liabilities 52,269 6,639 (35,481) 23,427 Non current liabilities 171,356 891 -- 172,247 Stockholders' equity (deficit) (110,111) 22,224 (22,224) (110,111)
SIX MONTHS ENDED JUNE 30, 2000 Statement of operations data: Net sales $ 17,304 $ 33,397 -- $ 50,701 Gross profit 5,733 11,042 -- 16,775 Operating income 3,385 7,205 -- 10,590 Income from continuing operations 176 686 -- 862 Loss from discontinued operations -- -- -- -- Equity in earnings of subsidiaries 686 -- (686) -- Net Income 862 686 (686) 862
AS OF DECEMBER 31, 1999 Balance sheet data: Current assets $ 17,572 $ 13,673 -- $ 31,245 Noncurrent assets 93,926 15,142 (57,019) 52,049 Current liabilities 48,314 3,618 (32,713) 19,219 Non current liabilities 173,606 891 -- 174,497 Stockholders' equity (deficit) (110,422) 24,306 (24,306) (110,422)
SIX MONTHS ENDED JUNE 30, 1999 Statement of operations data: Net sales $ 17,094 $ 34,792 -- $ 51,886 Gross profit 5,435 14,083 -- 19,518 Operating income 2,965 9,786 -- 12,751
Income (loss) from continuing operations (27) 2,048 -- 2,021 Loss from discontinued operations -- 1,436 -- 1,436 Equity in earnings of subsidiaries 612 -- (612) -- Net Income 585 612 (612) 585
(1) Summarized financial information of the Subsidiary Guarantors includes the results of operations for Empire Candle, Inc. as loss from discontinued operations (see Note 2). Current assets of the Subsidiary Guarantors included net assets of discontinued operations of $426 and $1,589 as of June 30, 2000, and December 31, 1999, respectively. The senior credit agreement was amended on March 5, 1999, allowing for certain non-recurring expenses totaling $6.0 million to be excluded in the calculation of EBITDA on or before the third quarter of 1999. The amendment also adjusted the Minimum Fixed Charge Coverage Ratio, Maximum Leverage Ratio and Interest Coverage Ratio for the next eight quarters. The Company was in compliance with all covenants as of June 30, 2000. 4. SEGMENT REPORTING In 1998, the Company adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." The Company has one reportable segment, consumer products, after the sale of the Company's candle operations (see Note 2). The consumer product segment consists of plastic cutlery and straws, matches, toothpicks, clothespins, wooden crafts and various woodenware items sold primarily to grocery, mass and drug store channels. Detailed gross revenue by product sold was as follows for the six months ended June 30 (in thousands):
2000 1999 ------------ ------------ Cutlery/straws $ 25,015 $ 23,592 Woodware 14,391 15,434 Wooden lights 9,207 10,973 Institutional/other 7,304 7,608 ------------ ------------ Total $ 55,917 $ 57,607 ============ ============
DIAMOND BRANDS OPERATING CORP. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. RESULTS OF CONTINUING OPERATIONS The Company manufactures and markets consumer products, consisting primarily of plastic cutlery/straws, wooden matches, toothpicks, clothespins and wooden crafts. The Company's products are marketed primarily under the nationally recognized Diamond and Forster brand names, which have been in existence since 1881 and 1887, respectively. The Company derives its revenue primarily from the sale of its products to substantially all major grocery stores, drug stores, mass merchandisers and warehouse clubs in the United States. During the six months ended June 30, 2000, sales to the Company's top 10 customers accounted for approximately 50.2% of the Company's gross sales, with one customer accounting for approximately 21.3% of the Company's gross sales. The following table sets forth, for the period indicated, certain historical statements of operations data, as well as the Company's EBITDA and EBITDA margin, for the continuing operations of the Company, with 1999 comparable results of continuing operations restated to exclude discontinued operations.
THREE MONTHS ENDED JUNE 30, 2000 COMPARED TO THREE MONTHS ENDED JUNE 30, 1999 2000 1999 -------- -------- (dollars in millions) Total Total -------- -------- Net Sales $ 27.4 $ 29.6 Cost of Sales 18.8 18.5 -------- -------- Gross Profit 8.6 11.1 Gross Profit % 31.4% 37.5% Selling, General And Administration Expense 2.7 3.4 Goodwill Amortization .2 .2 -------- -------- Operating Income (1) $ 5.7 $ 7.5 ======== ======== Interest Expense $ 4.6 $ 4.8 ======== ======== EBITDA (2) $ 6.5 $ 8.3 ======== ======== EBITDA Margin (3) 23.7% 28.0% ======== ========
(1) Excludes amortization of deferred financing costs. (2) EBITDA represents operating income plus depreciation and amortization (excluding amortization of deferred financing costs). The Company believes that EBITDA provides useful information regarding the Company's ability to service its debt; however, EBITDA does not represent cash flow from operations as defined by generally accepted accounting principles and should not be considered as a substitute for net income as an indicator of the Company's operating performance or cash flow as a measure of liquidity. (3) EBITDA margin represents EBITDA as a percentage of net sales. Net sales for the Company were $27.4 million for the three months ended June 30, 2000, a $2.2 million or a 7.4% decrease from net sales of $29.6 million for the three months ended June 30, 1999. Net sales of plastic cutlery/straws increased 2.7%, but were offset by 16.2% decreased net sales in all other product lines, including wooden matches and other woodenware products. Gross profit was $8.6 million or 31.4% of net sales for the three months ended June 30, 2000, compared to $11.1 million or 37.5% for the same period in 1999. The decrease is primarily due to increased raw material costs, as continually rising polystyrene costs and increased packaging costs adversely impacted gross margins. Selling, general and administrative expenses were $2.7 million for the three months ended June 30, 2000, compared to $3.4 million for the comparable 1999 period. Year 2000 remediation costs incurred in 1999 and reduced commissions accounted for the majority of the $.7 million decrease. RESULTS OF DISCONTINUED OPERATIONS Effective September 30, 1999, the Board of Directors approved the divestiture of the Candle operations of the Company and recorded a total charge from the loss of the discontinued operations of approximately $18.5 million, net of tax. For segment reporting purposes, the candle operations were previously reported as the "Candles" reportable segment. Effective December 14, 1999, the Company entered into an asset purchase agreement to sell certain assets and liabilities of Empire for total consideration of approximately $2.9 million. The sale resulted in a decrease of the net loss from discontinued operations of $2.3 million, net of tax, during the fourth quarter of 1999. There should be no impact on this year's operating income due to the candle discontinuation. RESULTS OF CONTINUING OPERATIONS
SIX MONTHS ENDED JUNE 30, 2000 COMPARED TO SIX MONTHS ENDED JUNE 30, 1999 2000 1999 -------- -------- (dollars in millions) Total Total -------- -------- Net Sales $ 50.7 $ 51.9 Cost of Sales 33.9 32.4 -------- -------- Gross Profit 16.8 19.5 Gross Profit % 33.1% 37.6% Selling, General and Administration Expense 5.8 6.4 Goodwill Amortization .4 .4 -------- -------- Operating Income(1) $ 10.6 $ 12.7 ======== ======== Interest Expense $ 8.9 $ 9.1 ======== ======== EBITDA(2) $ 12.2 $ 14.2 ======== ======== EBITDA Margin(3) 24.1% 27.4% ======== ========
(1) Excludes amortization of deferred financing costs. (2) EBITDA represents operating income plus depreciation and amortization (excluding amortization of deferred financing costs). The Company believes that EBITDA provides useful information regarding the Company's ability to service its debt; however, EBITDA does not represent cash flow from operations as defined by generally accepted accounting principles and should not be considered as a substitute for net income as a indicator of the Company's operating performance or cash flow as a measure of liquidity (3) EBITDA margin represents EBITDA as a percentage of net sales.. Net sales were $50.7 million for the six months ended June 30, 2000, a $1.2 million or 2.3% decrease from net sales of $51.9 million for the six months ended June 30, 1999. Net sales of plastic cutlery/straws increased 8.1%, but were offset by 9.0% decreased net sales in all other product lines, including wooden lights and other woodenware products. Gross profit was $16.8 million or 33.1% of net sales for the six months ended June 30, 2000, compared to $19.5 million or 37.6% for the comparable 1999 period. The decrease is primarily due to increased raw material costs, as continually rising polystyrene costs and increased packaging costs adversely impacted gross margins. Selling, general and administrative expenses were $5.8 million for the six months ended June 30, 2000, compared to $6.4 million for the comparable 1999 period. Year 2000 remediation costs incurred in 1999 and reduced commissions accounted for the majority of the decrease. Interest expense for the six months ended June 30, 2000 was $8.9 million compared to $9.1 million for the comparable 1999 period. Lower debt balances compared to 1999 account for the decreased interest. LIQUIDITY AND CAPITAL RESOURCES The senior credit agreement was amended on March 5, 1999, allowing for certain non-recurring expenses totaling $6.0 million to be excluded in the calculation of EBITDA on or before the third quarter of 1999, for the purpose of calculating covenant compliance. The amendment also adjusted the Minimum Fixed Charge Coverage Ratio, Maximum Leverage Ratio and Interest Coverage Ratio for the next eight quarters. The Company was in compliance with all covenants as of June 30, 2000. The Company is highly leveraged. The Company's high degree of leverage may have important consequences for the Company, including that (i) the ability of the Company to obtain additional financing, if necessary, for working capital, capital expenditures, acquisitions or other purposes may be impaired, or such financing may not be available on terms favorable to the Company; (ii) a substantial portion of the Company's cash flow will be used to pay the Company's interest expense and, in the cases of indebtedness incurred in the future, possible principal repayments, which will reduce the funds that would otherwise be available to the Company for its operations and future business opportunities; (iii) a substantial decrease in net operating cash flows or an increase in expenses of the Company could make it difficult for the Company to meet its debt service requirements and force it to modify its operations; (iv) the Company may be more highly leveraged than its competitors, which may place it at a competitive disadvantage; and (v) the Company's high degree of leverage may make it more vulnerable to a downturn in its business, the general economy or interest rate increases. Any inability of the Company to service its indebtedness or to obtain additional financing, as needed, would have a material adverse effect on the Company's business. CASH FLOW - OPERATING ACTIVITIES. Cash provided by operating activities was $4.8 million for the six months ended June 30, 2000. Cash used for operating activities was $3.3 million for the comparable 1999 period. Cash used for inventory was $4.2 million higher while cash provided by accounts receivable, accounts payable and other accrued expenses was $9.5 million higher during the six months ended June 30, 2000, than the comparable period in 1999. CASH FLOW - INVESTMENT ACTIVITIES. Capital expenditures of $2.4 million for the six months ended June 30, 2000, were primarily used to expand capacity at the cutlery plant. Planned annual capital expenditures for 2000 are $3.2 million. Capital expenditures for the comparable period in 1999 were $1.9 million. CASH FLOW - FINANCING ACTIVITIES. Cash used for financing activities was $2.4 million for the six months ended June 30, 2000, as compared to cash used for financing activities of $5.2 million for the same period prior year. Line of credit net borrowings were $.25 million for the six months ended June 30, 2000, compared to $5.4 million for the same period in 1999. CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 This document contains statements that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. When used in this document, the words "anticipates," "plans," "believes," "estimates," "expects," and similar expressions are intended to identify forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, but are not limited to: the Company's highly leveraged capital structure, its substantial principal repayment obligations, price and product changes and promotional activity by competitors, the loss of a significant customer, the difficulties of integrating acquisitions, adverse publicity and product liability claims and dependence on key employees. The risk factors described herein could cause actual results or outcomes to differ materially from those expressed in any forward-looking statements of the Company and investors, therefore, should not place undue reliance on any such forward-looking statements. Further, any forward-looking statement speaks only as of the date on which such statement is made, and the Company undertakes no obligation to update any forward-looking statement or statements to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events. New factors emerge from time to time, and it is not possible for management to predict all such factors. Further, management cannot assess the impact of each such factor on the Company's business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK There were no material changes in reported market risks since December 31, 1999. See discussion at Item 7A in the Company's annual report on Form 10-K. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Reports on Form 8-K No reports on Form 8-K were filed by the company during the quarter ended June 30, 2000. (b) Exhibits Exhibit 27 is filed as part of this quarterly report. SIGNATURE 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. DIAMOND BRANDS OPERATING CORP. (Registrant) By: /s/ Frank Chalk ---------------------------------- Frank Chalk, Vice President of Finance and Chief Financial Officer (authorized officer, principal financial and accounting officer) Date: August 11, 2000