-----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, CokOJpTtW/OmKH8rV0K5tgjArGKH3KtQR+eOa81Hd+Pk9p3BquEt12mc1KuTYiPw +o2XjPqufw9AbK+Zbh0zOQ== 0000950123-03-003236.txt : 20030325 0000950123-03-003236.hdr.sgml : 20030325 20030325173832 ACCESSION NUMBER: 0000950123-03-003236 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 15 CONFORMED PERIOD OF REPORT: 20021228 FILED AS OF DATE: 20030325 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HANOVER DIRECT INC CENTRAL INDEX KEY: 0000320333 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-CATALOG & MAIL-ORDER HOUSES [5961] IRS NUMBER: 138053260 STATE OF INCORPORATION: DE FISCAL YEAR END: 1227 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-08056 FILM NUMBER: 03616505 BUSINESS ADDRESS: STREET 1: 1500 HARBOR BLVD CITY: WEEHAWKEN STATE: NJ ZIP: 07087 BUSINESS PHONE: 2018653800 MAIL ADDRESS: STREET 1: 1500 HARBOR BLVD CITY: WEEHAWKEN STATE: NJ ZIP: 07087 FORMER COMPANY: FORMER CONFORMED NAME: HORN & HARDART CO /NV/ DATE OF NAME CHANGE: 19920703 10-K 1 y84434e10vk.txt FORM 10-K - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 28, 2002 COMMISSION FILE NUMBER 1-12082 ------------------------ HANOVER DIRECT, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE (STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) 115 RIVER ROAD, BUILDING 10, EDGEWATER, NEW JERSEY (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) 13-0853260 (IRS EMPLOYER IDENTIFICATION NO.) 07020 (ZIP CODE) (201) 863-7300 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NAME OF EACH EXCHANGE TITLE OF EACH CLASS ON WHICH REGISTERED ------------------- --------------------- COMMON STOCK, $.66 2/3 PAR VALUE AMERICAN STOCK EXCHANGE
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 [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [ ] No [X] As of June 28, 2002, the last business day of the registrant's most recently completed second fiscal quarter, the aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant was $17,443,928 (based on the closing price of the Common Stock on the American Stock Exchange on June 28, 2002 of $0.25 per share; shares of Common Stock owned by directors and officers of the Company are excluded from this calculation; such exclusion does not represent a conclusion by the Company that all of such directors and officers are affiliates of the Company). As of March 20, 2003, the registrant had 138,315,800 shares of Common Stock outstanding (excluding treasury shares). ------------------------ DOCUMENTS INCORPORATED BY REFERENCE The Company's definitive proxy statement to be filed by the Company pursuant to Regulation 14A is incorporated into items 11, 12 and 13 of Part III of this Form 10-K. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- HANOVER DIRECT, INC. FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 28, 2002 INDEX
PAGE ---- PART I ITEM 1. Business.................................................... 2 General................................................... 2 Direct Commerce........................................... 2 Business-to-Business...................................... 7 Credit Management......................................... 8 Financing................................................. 8 Additional Investments.................................... 10 Employees................................................. 13 Seasonality............................................... 13 Competition............................................... 14 Trademarks................................................ 14 Government Regulation..................................... 14 Listing Information....................................... 15 Web site Access to Information............................ 15 ITEM 2. Properties.................................................. 15 ITEM 3. Legal Proceedings........................................... 17 ITEM 4. Submission of Matters to a Vote of Security Holders......... 21 PART II ITEM 5. Market for Registrant's Common Equity and Related Stockholder Matters......................................... 22 ITEM 6. Selected Financial Data..................................... 23 ITEM 7. Management's Discussion and Analysis of Consolidated Financial Condition and Results of Operations............... 24 Results of Operations..................................... 24 Liquidity and Capital Resources........................... 28 Uses of Estimates and Other Critical Accounting Policies............................................... 32 New Accounting Pronouncements............................. 34 Off-Balance Sheet Arrangements............................ 34 Forward Looking Statements................................ 34 Cautionary Statements..................................... 35 ITEM 7A. Quantitative and Qualitative Disclosures about Market Risk........................................................ 37 ITEM 8. Financial Statements and Supplementary Data................. 38 ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................................... 84 PART III ITEM 10. Directors and Executive Officers of the Registrant.......... 85 ITEM 11. Executive Compensation...................................... 89 ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.................. 89 ITEM 13. Certain Relationships and Related Transactions.............. 89 ITEM 14. Controls and Procedures..................................... 89 PART IV ITEM 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K......................................................... 90 Signatures.................................................. 92 Certifications.............................................. 93 Exhibit Index............................................... 95
PART I ITEM 1. BUSINESS GENERAL Hanover Direct, Inc. (the "Company") provides quality, branded merchandise through a portfolio of catalogs and e-commerce platforms to consumers, as well as a comprehensive range of Internet, e-commerce and fulfillment services to businesses. The Company's direct commerce operations comprise its catalog and Web site portfolio of home fashions, apparel and gift categories including during 2002 Domestications, The Company Store, Scandia Down, Silhouettes, International Male, Undergear and Gump's By Mail. Each brand can be accessed on the Internet individually by name. In addition, the Company owns Gump's, a retail store based in San Francisco, California. In 2002, the Company integrated its The Company Store and Domestications divisions, and also completed the integration of the Gump's store and Gump's By Mail catalog divisions. The Company's business-to-business operations comprise the third party fulfillment business of Keystone Internet Services, LLC (formerly Keystone Internet Services, Inc.), the Company's third party, end-to-end, fulfillment, logistics and e-care provider. The Company is incorporated in Delaware and its executive offices are located at 115 River Road, Edgewater, New Jersey 07020. The Company's telephone number is (201) 863-7300. The Company is a successor in interest to The Horn & Hardart Company, a restaurant company founded in 1911, and Hanover House Industries, Inc., founded in 1934. Regan Partners, L.P. and Basil P. Regan own approximately 28.0% of the Company's outstanding common stock. Richemont Finance S.A. ("Richemont"), a Luxembourg company, owns approximately 21.3% of the Company's outstanding common stock and all of the Company's Class B Preferred Stock. Richemont is an affiliate of Compagnie Financiere Richemont, A.G., a Swiss-based publicly traded luxury goods company. DIRECT COMMERCE General. The Company is a leading specialty direct marketer with a diverse portfolio of branded home fashions, men's and women's apparel and gift products marketed via direct mail-order catalogs and connected Internet Web sites. The Company's catalog titles are organized into four categories -- The Company Store Group, and the Women's Apparel, Men's Apparel and Gift categories -- each consisting of one or more catalog/online titles. All of these categories utilize central purchasing and inventory management functions and the Company's common systems platform, telemarketing, fulfillment, distribution and administrative functions. During 2002, the Company mailed approximately 191.2 million catalogs (including certain catalogs relating to businesses of the Company that were discontinued), answered more than 7.3 million customer service/order calls and processed and shipped 6.8 million packages to customers. On June 29, 2001, the Company sold certain assets and liabilities of its Improvements business to HSN, a division of USA Networks, Inc.'s Interactive Group for approximately $33.0 million. In conjunction with the sale, the Company's Keystone Internet Services, Inc. (now Keystone Internet Services, LLC) subsidiary agreed to provide telemarketing and fulfillment services for the Improvements business under a service agreement with the buyer for a period of three years. The asset purchase agreement between the Company and HSN provides for a reduction in the sale price if the performance of the Improvements business in the 2001 fiscal year fails to achieve a targeted EBITDA level as defined in the agreement. The business achieved the targeted EBITDA level so no reduction in the sale price was required. In addition, if Keystone Internet Services, Inc. fails to perform its obligations during the first two years of the services contract, the purchaser can receive a reduction in the original purchase price of up to $2.0 million. An escrow fund of $3.0 million, which was withheld from the original proceeds of the sale of approximately $33.0 million, was established for a period of two years under the terms of an escrow agreement between LWI Holdings, Inc., HSN and The Chase Manhattan Bank as a result of these contingencies. The balance in the escrow fund at December 29, 2001 was $2.6 million. During fiscal year 2002, 2 the Company recognized approximately $0.6 million of the deferred gain consistent with the terms of the escrow agreement. Proceeds of approximately $0.3 million relating to the deferred gain were received on each of July 2, 2002 and December 30, 2002. As of December 28, 2002, the balance in the escrow fund was approximately $2.0 million, and no claims had been made thereunder. The Company reviews its portfolio of catalogs as well as new opportunities to acquire or develop catalogs from time to time. In 2002, the Company did not discontinue any of its print catalogs. In 2002, the Company discontinued certain businesses, including the Encore catalog website. As the Company discontinued mailing the Encore print catalog in 2001, the Encore business is now deemed a terminated business. During 2002, the Company integrated its The Company Store and Domestications divisions, and also completed the integration of the Gump's store and Gump's By Mail catalog divisions. In 2002, the Company closed a telemarketing center and a product storage facility both located in San Diego, California, and consolidated a portion of the Company's Hanover, Pennsylvania fulfillment operations into its Roanoke, Virginia facility. The Company intends to close its Kindig Lane facility in Hanover, Pennsylvania and move its remaining operations there to the Company's facility in Roanoke, Virginia by March 31, 2003. The move has been completed with the exception that the Company is removing certain equipment. Each of the Company's specialty catalogs targets distinct market segments offering a focused assortment of merchandise designed to meet the needs and preferences of its target customers. Through market research and ongoing testing of new products and concepts, each brand group determines each catalog's own merchandise strategy, including appropriate price points, mailing plans and presentation of its products. The Company is continuing its development of exclusive or private label products for a number of its catalogs, including Domestications, The Company Store, Silhouettes, International Male and Undergear, to further enhance the brand identity of the catalogs. During 2002, the Company sought to rely on its existing long-term customer relationships to grow its existing brands and to extend the categories of merchandise sold by its existing brands. Silhouettes expanded its offerings in intimates, footwear and swimwear, Domestications expanded its offerings of home accessories, Gump's San Francisco launched a Baby Gump's boutique and plans were made to emphasize several new categories of merchandise. Gump's also implemented a strategy for unifying the merchandise offering in all categories across all channels. The Company's specialty catalogs typically range in size from approximately 24 to 96 pages with five to twenty-four new editions per year depending on the seasonality and fashion content of the products offered. Each edition may be mailed several times each season with variations in format and content. Each catalog employs the services of an outside creative agency or has its own creative staff that is responsible for the designs, layout, copy, feel and theme of the book. Generally, the initial sourcing of new merchandise for a catalog begins two to four months before the catalog is mailed. The Company has created commerce-enabled Web sites for each of its catalogs which offers all of the catalog's merchandise and, in every case, more extensive offerings than any single issue of a print catalog; takes catalog requests; and accepts orders for not only Web site merchandise but also from any print catalog already mailed. The following is a description of the Company's catalogs in each of the Company's four categories: The Company Store Group: Domestications is a leading home fashions catalog offering affordable luxury for every room in the home for today's value-oriented and style-conscious consumer. The Company Store is an upscale home fashions catalog focused on high quality down products and other private label and branded home furnishings. Scandia Down is a nationally known retailer specializing in luxury down products and home fashions. Women's Apparel: Silhouettes is a leading fashion catalog offering large size women upscale apparel and accessories. 3 Men's Apparel: International Male offers contemporary men's fashions and accessories at reasonable prices. Undergear is a leader in fashionable and functional men's underwear, workout wear and active wear. Gift: Gump's By Mail and Gump's San Francisco are luxury sources for discerning customers of jewelry, gifts and home furnishings, as well as market leaders in offering Asian inspired products. Catalog Sales. Net sales, including postage and handling, through the Company's catalogs was $343.7 million for the fiscal year ended December 28, 2002, a decrease of $51.8 million or 13.1% excluding sales from the Improvements division that was sold on June 29, 2001. Overall circulation for continuing business in fiscal year 2002 decreased by 9.0% in fiscal 2002 primarily stemming from the Company's efforts to reduce unprofitable circulation. Internet Sales. The Internet as a source of new customers continues to grow in importance. Net sales, including postage and handling, through the Internet improved to $87.3 million for the fiscal year ended December 28, 2002, an increase of $20.4 million or 30.4%, over Internet sales in the prior fiscal year, excluding sales from the Improvements division that was sold on June 29, 2001. As of December 28, 2002, Internet sales had reached 20.3% of brand sales (total revenues less third party fulfillment sales and membership programs). The Company maintains an active presence on the Internet by having a commerce-enabled Web site for each of its catalogs which offers all of the catalog's merchandise and, in every case, more extensive offerings than any single issue of a print catalog; takes catalog requests, and accepts orders for not only Web site merchandise but also from any print catalog already mailed. The Web sites for each brand are promoted within each catalog, in traditional print media advertising, in TV commercials, and on third party Web sites. During November 2002, Amazon.com began to offer Silhouettes, International Male and Undergear merchandise within Amazon.com's Apparel & Accessories store under a multi-year strategic alliance between the Company and Amazon.com. All orders resulting from this alliance are electronically transferred to and fulfilled by the Company. During the first quarter of 2003, Gump's jewelry and Company Kids apparel merchandise will join Silhouettes, International Male and Undergear within Amazon.com's Apparel & Accessories store. The Company utilizes marketing opportunities available to it by posting its catalog merchandise and accepting orders on third party Web sites, for which it is charged a commission. In addition to the arrangements with Amazon.com described above, third party Web site advertising arrangements entered into by the Company include partnerships with Yahoo, ArtSelect, CatalogCity, e-centives, Inktomi, Google, Overture, DealTime, Linkshare and GiftCertificates.com. Buyers' Clubs. In March 1999, the Company, through a newly formed subsidiary, started up and promoted a discount buyers' club to consumers known as "The Shopper's Edge." In exchange for an up-front membership fee, the Shopper's Edge program enabled members to purchase a wide assortment of merchandise at discounts that were not available through traditional retail channels. Effective December 1999, the Company sold its interest in The Shopper's Edge subsidiary to FAR Services, LLC, an unrelated third party, for a nominal fair value based upon an independent appraisal. In January 2001, the Company terminated its Agreement with FAR Services and ceased the offering of memberships in The Shopper's Edge to its customers. Members continued to have the ability to have their memberships automatically renewed and billed unless canceled by the member. The last renewals of memberships were processed in October 2001 by mutual agreement between the Company and FAR Services as a result of the terms of the then-pending settlement agreement between the Federal Trade Commission and Ira Smolev, the owner of FAR Services. For the purpose of monitoring and processing refunds for the Company's customers, the Company remained in its position as bookkeeper for the club during 2001. The Company will continue to perform the function of bookkeeper until April 2003, or the period of eighteen months beyond the time the last member was renewed, since members are due refunds for cancellations which 4 might occur at any time during an annual membership and surety bonds secured by letters of credit obtained with funds held by the bookkeeper are in place in six states, and must remain in place for six months beyond the last date of any membership. In March 2001, the Company entered into a five-year marketing services agreement with MemberWorks, Incorporated under which the Company's catalogs market and offer a variety of MemberWorks membership programs for a wide variety of goods and services to the Company's catalog customers when they call to place an order. To the extent that the Company achieves a certain acceptance rate by reading scripts to its customers, the Company is guaranteed a certain revenue stream dependent upon the actual number of offers made. To the extent that the program performs better than a pre-designated level, the Company will receive a higher level of revenue than its guaranteed minimum. MemberWorks has the exclusive rights to first up-sell position on all merchandise order calls made to the Company, after any cross-sells which the catalogs may make for their own primary (or catalog-based) products, but before any offer for one of the Company's pre-existing catalog-based membership clubs. The catalog company may choose not to read an up-sell script on all inbound order calls only due to business necessities. Initially, prospective members participate in a 30-day trial period that, unless canceled, is automatically converted into a full membership term, which is one year in duration. Memberships are automatically renewed at the end of each year unless canceled by the member. In early 2002, the Company tested the offer of membership terms that were one month in duration. Memberships are automatically renewed and billed at the end of each month unless canceled by the member. The test was short and was discontinued but there remain some Company customers who are members of a MemberWorks program on a month-to-month membership term. In December 2002, the Company entered into an agreement for Internet marketing with MemberWorks Incorporated under which the Company may conduct marketing of MemberWorks membership programs to its Web site customers. It is the intention of the Company to test the marketing of MemberWorks programs on one Company Web site at first and evaluate conversion rates before making the decision to expand the marketing to other Company Web sites or to terminate the agreement for Internet marketing. On the Internet, the Company will offer MemberWorks programs to customers immediately upon a customer reaching the order confirmation page after placing an order. MemberWorks will pay for the initial work required by the Company to design and implement the technology that will be required to conduct Internet marketing of MemberWorks programs on the first Company Web site. The Company's revenue share for offers accepted will be by a calculation similar to that under the master MemberWorks agreement for telephone promotion except that offers to customers of the Company's Web sites will not be counted for purposes of determining the guaranteed minimums under the master MemberWorks agreement. Customers may purchase memberships in a number of the Company's proprietary buyers' club programs for an annual fee. In addition to receiving commission revenue related to its solicitation of the MemberWorks membership programs, the Company also receives commission revenue from sales of Magazine Direct magazine subscription programs on inbound order calls. For the MemberWorks program, the Company is guaranteed a revenue stream dependent upon the actual number of offers made. To the extent that the program performs better than a pre-designated level, the Company will receive a higher level of revenue than its guaranteed minimum. Revenue is recognized monthly based on the number of acceptances received using a formula that has been contractually agreed upon by the Company and MemberWorks. The commission revenue recognized by the Company for the Magazine Direct magazine program is on a per-solicitation basis according to the number of solicitations made, with additional revenue recognized if the customer accepts the solicitation. In the second quarter of 2003, the Company will cease the offer of the Magazine Direct magazine program on inbound order calls for the time being. The Company is considering new opportunities to offer new and different goods and services to its customers on inbound order calls from time to time, with the Company receiving commission revenue related to its solicitations. Marketing and Database Management. The Company maintains a proprietary customer list currently containing approximately 6.3 million names of customers who have purchased from one of the Company's catalogs or Internet Web sites within the past 36 months. Approximately 2.6 million of the names on the list represent customers who have made purchases from at least one of the Company's brands within the last 12 months. The list contains name, gender, residence and historical transaction data. This database is 5 selectively enhanced with demographic, socioeconomic, lifestyle and purchase behavior overlays from other sources. The Company also maintains a proprietary list of e-mail addresses totaling approximately 1.7 million addresses. The Company utilizes modeling and segmentation analysis to devise catalog marketing and circulation strategies that are intended to maximize customer contribution by catalog. This analysis is the basis for the Company's determination of which of the Company's catalogs will be mailed and how frequently to a particular customer, as well as the promotional incentive content of the catalog(s) such customer receives. The Company utilizes name lists rented from other mailers and compilers as a primary source of new customers for the Company's catalogs. Many of the catalogs participate in a consortium database of catalog buyers whereby new customers are obtained by the periodic submission of desired customer buying behavior and interests to the consortium and the subsequent rental of non-duplicative names from the consortium. Other sources of new customers include traditional print space advertisements and promotional inserts in outbound merchandise packages. On the Internet, the main sources of the Company's new customers are through the brands' affiliate programs, through search engines, and a variety of contractual Internet partnerships. An additional source of the Company's internet business is derived from print catalog mailings to prospective customers. During 2002, the Company expanded its relationship with Experian Marketing Solutions, Inc. ("Experian"), under which Experian will act as the Company's list cleaning and processing agent for all list usage purposes, to assist the Company with its goal of reducing unprofitable circulation. Purchasing. The Company's large sales volume permits it to achieve a variety of purchasing efficiencies, including the ability to obtain prices and terms that are more favorable than those available to smaller companies or than would be available to the Company's individual catalogs were they to operate independently. Major goods and services used by the Company are purchased or leased from selected suppliers by its central buying staff. These goods and services include paper, catalog printing and printing related services such as order forms and color separations, communication systems including telephone time and switching devices, packaging materials, expedited delivery services, computers and associated network software and hardware. The Company's telephone telemarketing phone service costs (both inbound and outbound calls) are typically contracted for a two to three-year period. In the fourth quarter of 1999, the Company entered into a two-year call center service agreement with MCI Worldcom and in the fourth quarter of 2001, the Company revised its agreement with MCI WorldCom to provide for a two-and-a-half-year extension expiring during April 2004. Under the revised agreement, the Company obtained a reduction in the rate it had been paying pursuant to the agreement entered into in 1999. In connection with the revised agreement, the Company agreed to guarantee minimum billing levels in the amount of $6.1 million for the 31 month service period and the Company has met and anticipates that it will continue to meet such targets in the normal course of business. The Company has contracted for additional services, some of which are redundant, from other service providers in an effort to mitigate the possible effects of MCI WorldCom's bankruptcy filing on the Company's service. The Company generally enters into annual arrangements for paper and printing with a limited number of suppliers. These arrangements permit periodic price increases or decreases based on prevailing market conditions, changes in supplier costs and continuous productivity improvements. For 2002, paper costs approximated 5.0% of the Company's net revenues. The Company experienced a 14.4% decrease in paper prices during 2002. The Company normally experiences increased costs of sales and operating expenses as a result of the general rate of inflation and commodity price fluctuations. Operating margins are generally maintained through internal cost reductions and operating efficiencies, and then through selective price increases where market conditions permit. Inventory Management. The Company's inventory management strategy is designed to maintain inventory levels that provide optimum in-stock positions while maximizing inventory turnover rates and minimizing the amount of unsold merchandise at the end of each season. The Company manages inventory levels by monitoring sales and fashion trends, making purchasing adjustments as necessary and by promotional 6 sales. Additionally, the Company sells excess inventory through special sale catalogs, sales/liquidation postings in brand Web sites, e-auctions, its outlet stores and to jobbers. The Company acquires products for resale in its catalogs from numerous domestic and foreign vendors. No single third party source supplied more than 10% of the Company's products in 2002. The Company's vendors are selected based on their ability to reliably meet the Company's production and quality requirements, as well as their financial strength and willingness to meet the Company's needs on an ongoing basis. The Company receives approximately 68.2% of its orders through its toll-free telephone service, which offers customer access seven days per week, 24 hours per day. Telemarketing and Distribution. The management information systems used by the Company are discussed below. The Company mails its catalogs through the United States Postal Service ("USPS") utilizing pre-sort, bulk mail and other discounts. Most of the Company's packages are shipped through the USPS. Overall, catalog mailing and package shipping costs approximated 16.4% of the Company's net revenues in 2002. The USPS implemented postage rate increases ranging from 13.5% for Priority Mail to 7.3% for Standard Mail effective June 30, 2002. These increases did not have a material adverse effect on the Company's 2002 results of operations. The Company mitigates the impact of postage rate increases by utilizing lower rate structures by automatically weighing each parcel and sorting and trucking packages to a number of USPS drop points throughout the country. The Company also utilizes United Parcel Service and other delivery services. In 2002, the Company's contractual rates with United Parcel Service remained the same as in 2001. United Parcel Service increased its rates by 3.5% in January 2003 but the Company does not expect this increase to have a material adverse effect on its results of operations. The Company examines alternative shipping services with competitive rate structures from time to time. BUSINESS-TO-BUSINESS General. The Company, through Keystone Internet Services, LLC ("Keystone"), provides back-end e-commerce services to a roster of Internet players. Keystone's services range from fulfillment and e-care to platform logistics products. Keystone also services the logistical, IT and fulfillment needs of the Company's catalog operations. Keystone comprises the Company's telemarketing, fulfillment and distribution functions as well as its proprietary, fully integrated systems platform internally known as Pegasus. That system is described under "Management Information Systems" below. Other assets as of December 28, 2002 include three warehouse fulfillment centers, one leased temporary storage facility totaling approximately 1.1 million square feet, and two telemarketing/e-care centers and one satellite call center with over 670 agent positions. On February 28, 2002, the Company closed its telemarketing facility in San Diego, California, which had 100 agent positions. Telemarketing. The Company has created a telephone network to link its three primary telemarketing facilities in Hanover, Pennsylvania, York, Pennsylvania and LaCrosse, Wisconsin. On February 28, 2002, the Company closed its telemarketing facility in San Diego, California. The Company's telemarketing facilities utilize state-of-the-art telephone switching equipment, which enables the Company to route calls between telemarketing centers and thus provide prompt customer service. In the fourth quarter of 2001, the Company extended its call center services agreement with MCI WorldCom to provide that it would terminate during April 2004. The Company has contracted for additional services, some of which are redundant, from other service providers in an effort to mitigate the possible effects of MCI WorldCom's bankruptcy filing on the Company's service. See "Direct Commerce -- Purchasing." The Company trains its telemarketing service representatives to be courteous, efficient and knowledgeable about the Company's products and those of its third party customers. Telemarketing service representatives generally receive 40 hours of training in selling products, services, systems and communication skills through simulated as well as actual phone calls. A substantial portion of the evaluation of telemarketing service representatives' performance is based on how well the representative meets customer service standards. While primarily trained with product knowledge to serve customers of one or more specific catalogs, telemarketing service representatives also receive cross training that enables them to take overflow calls from other catalogs. The Company utilizes customer surveys as an important measure of customer satisfaction. 7 Distribution. The Company presently operates three distribution centers in three principal locations: one in Roanoke, Virginia, one in Hanover, Pennsylvania and one in LaCrosse, Wisconsin. The Company uses these facilities to handle merchandise distribution for its catalogs as well as its third party e-tail clients. See "Properties." Management Information Systems. All of the Company's catalogs are part of its integrated mail order and catalog system operating on its mid-range computer systems. Additionally, its fulfillment centers are part of the Company's warehouse management system. The Company's systems have been designed to meet its requirements as a high volume publisher of multiple catalogs. The Company is continuing to devote resources to improving its systems. The Company's software system is an on-line, real-time system, which is used in managing all phases of the Company's operations and includes order processing, fulfillment, inventory management, list management and reporting. The software provides the Company with a flexible system that offers data manipulation and in-depth reporting capabilities. The management information systems are designed to permit the Company to achieve efficiencies in the way its financial, merchandising, inventory, telemarketing, fulfillment and accounting functions are performed. Keystone Internet Services. Launched in 1998, Keystone initially serviced the needs of other direct marketers without back-end fulfillment resources. Keystone currently offers e-commerce solutions and services to a customer base of brand name manufacturers and retailers who lack the end-to-end systems needed to enter e-commerce quickly, easily and affordably. Keystone offers its client base of six third party clients as of December 28, 2002, including HSN with respect to its Improvements business, the resources needed on the "front-end" ranging from Web site creation and management to Internet marketing to multi-channel marketing promotions to structured financing. "Front-end" logistical services provided by Keystone include telemarketing and e-care. Keystone can take orders off the Web and answer e-mails as well as handle order processing, credit card transaction processing, customer database management and systems programming and interface support. On the "back-end," Keystone offers services including fulfillment, order management, inventory management and facility management. All of this can be done using the Company's proprietary Pegasus multi-channel, multi-title platform described above. CREDIT MANAGEMENT Several of the Company's catalogs, including Domestications, International Male, Silhouettes and Gump's By Mail, offer their own private label credit cards. In 1999, the Company entered into a new three-year account purchase and credit card marketing and services agreement with Capital One Services, Inc. and Capital One Bank under which Capital One provides for the sale and servicing of accounts receivable originating from the Company's private label credit card program. The Company and Capital One have terminated their agreement effective the second quarter of 2003. The Company continues its search for a more economical provider of private label credit card services. FINANCING Congress Credit Facility. The Company's credit facility with Congress Financial Corporation ("Congress") provides the Company with a maximum credit line, subject to certain limitations, of up to $82.5 million (the "Congress Credit Facility"). The Congress Credit Facility, as amended, expires on January 31, 2004 and comprises a revolving loan facility, a $17.5 million Tranche A Term Loan and a $8.4 million Tranche B Term Loan. Total cumulative borrowings, however, are subject to limitations based upon specified percentages of eligible receivables and eligible inventory, and the Company is required to maintain $3.0 million of excess credit availability at all times. The Congress Credit Facility, as amended, is secured by all of the assets of the Company and places restrictions on the incurrence of additional indebtedness and on the payment of common stock dividends. 8 As of December 28, 2002, the Company had $25.1 million of borrowings outstanding under the amended Congress Credit Facility comprising $8.8 million under the Revolving Loan Facility, $8.5 million under the Tranche A Term Loan, and $7.8 million under the Tranche B Term Loan. The Company may draw upon the amended Congress Credit Facility to fund working capital requirements as needed. In November 2001, the Company amended the Congress Credit Facility to waive a default that resulted from the calculation of the EBITDA covenant requirement and revised the definition of EBITDA to include the net income derived from the sale of the Kindig Lane Property and the assets of the Improvements business. In addition, the amendment required a reserve of $500,000 against the availability under the Congress Credit Facility's borrowing terms and a fee of $500,000. In March 2002, the Company amended the Congress Credit Facility to change the definition of Consolidated Net Worth such that, effective July 1, 2002, to the extent that the goodwill or intangible assets of the Company and its subsidiaries are impaired under the provisions of Statement of Financial Accounting Standards No. 142, such write-off of assets would not be considered a reduction of total assets for the purposes of computing Consolidated Net Worth. The covenants relating to consolidated net working capital, consolidated net worth and EBITDA and certain non-cash charges were also amended. In addition, the amendment required a fee of $100,000. On August 16, 2002, the Company amended the Congress Credit Facility to (i) extend the term of the Tranche B Term Loan to January 31, 2004, (ii) increase by $3,500,000 the borrowing reflected by the Tranche B Term Note to $8,410,714, and (iii) make certain related technical amendments to the Congress Credit Facility. The amendment required the payment of fees in the amount of $410,000. In December 2002, the Company amended the Congress Credit Facility to amend the definition of "Consolidated Net Income," "Consolidated Net Worth" and "Consolidated Working Capital" to make certain adjustments thereto, depending on the results of the Kaul litigation, to permit the payment to Richemont of certain United States withholding taxes payable to Richemont in connection with the Series B Preferred Stock, and to change certain borrowing sublimits. The consolidated working capital, consolidated net worth and EBITDA covenants were also established through the end of the term of the facility, and certain technical amendments relating to the reorganization of certain of the Company's subsidiaries were made. The amendment required the payment of fees in the amount of $110,000. In February 2003, the Company amended the Congress Credit Facility to amend the existing change in control Event of Default. The existing change in control Event of Default under the Congress Credit Facility is based upon NAR Group Limited, a former shareholder of the Company, ceasing to be the direct or indirect beneficial owner of a sufficient number of issued and outstanding shares of capital stock of the Company on a fully diluted basis to elect a majority of the members of the Company's Board of Directors. This was replaced during February 2003 with a new change in control Event of Default, which is patterned on the Change In Control concepts in the Company's various Key Executive Compensation Continuation Plans. The new Event of Default would be triggered by certain transfers of assets, certain liquidations or dissolutions, the acquisition by a person or group (other than a Permitted Holder, as defined) of a majority of the total outstanding voting stock of the Company, and certain changes in the composition of the Company's Board of Directors. Richemont Transaction; Series A and B Participating Preferred Stock. On August 24, 2000, the Company issued 1.4 million shares of preferred stock designated as Series A Cumulative Participating Preferred Stock (the "Series A Preferred Stock") to Richemont for $70.0 million. The Series A Preferred Stock is described below under "Additional Investments." The Company has filed a certificate in Delaware eliminating the Series A Preferred Stock from its certificate of incorporation. On December 19, 2001, the Company consummated a transaction with Richemont (the "Richemont Transaction") in which the Company repurchased from Richemont all of the outstanding shares of the Series A Preferred Stock and 74,098,769 shares of the common stock of the Company held by Richemont in return for the issuance to Richemont of 1,622,111 shares of newly created Series B Participating Preferred Stock (the "Series B Preferred Stock") and the reimbursement of expenses of $1 million to Richemont. The Richemont Transaction was made pursuant to an Agreement (the "Richemont Agreement"), dated as of December 19, 2001, between the Company and Richemont. Richemont agreed, as part of the Richemont Transaction, to 9 forego any claim it had to the accrued but unpaid dividends on the Series A Preferred Stock. As part of the Richemont Transaction, the Company (i) released Richemont, the individuals appointed by Richemont to the Board of Directors of the Company and certain of their respective affiliates and representatives (collectively, the "Richemont Group") from any claims by or in the right of the Company against any member of the Richemont Group that arise out of Richemont's acts or omissions as a stockholder of or lender to the Company or the acts or omissions of any Richemont board designee in his capacity as such and (ii) entered into an Indemnification Agreement (the "Indemnification Agreement") with Richemont pursuant to which the Company agreed to indemnify each member of the Richemont Group from any losses suffered as a result of any third party claim that is based upon Richemont's acts as a stockholder of or lender to the Company or the acts or omissions of any Richemont board designee in his capacity as such. The Indemnification Agreement is not limited as to term and does not include any limitations on maximum future payments thereunder. The terms of the Series B Preferred Stock are described below under "Additional Investments." General. At December 28, 2002, the Company had $0.8 million in cash and cash equivalents compared with $1.1 million at December 29, 2001. Working capital and current ratios at December 28, 2002 were $9.4 million and 1.12 to 1 versus $20.9 million and 1.26 to 1 at December 29, 2001. Total cumulative borrowings, including financing under capital lease obligations, as of December 28, 2002, aggregated $25.1 million, $21.3 million of which is classified as long-term. Remaining availability under the Congress Credit Facility as of December 28, 2002 was $18.2 million. There were nominal capital commitments (less than $0.1 million) at December 28, 2002. ADDITIONAL INVESTMENTS Series B Participating Preferred Stock. On December 24, 2001, as part of the Richemont Transaction, the Company issued and sold 1,622,111 shares of preferred stock designated as Series B Preferred Stock, par value $0.01 per share, in a private placement to Richemont. In the event of the liquidation, dissolution or winding up of the Company, the holders of the Series B Preferred Stock are entitled to a liquidation preference (the "Liquidation Preference"), which was initially $47.36 per share. During each period set forth in the table below, the Liquidation Preference shall equal the amount set forth opposite such period:
LIQUIDATION PREFERENCE PERIOD PER SHARE TOTAL VALUE - ------ ---------------------- --------------- March 1, 2002 - May 31, 2002...................... $49.15 $ 79,726,755.65 June 1, 2002 - August 31, 2002.................... $51.31 $ 83,230,515.41 September 1, 2002 - November 30, 2002............. $53.89 $ 87,415,561.79 December 1, 2002 - February 28, 2003.............. $56.95 $ 92,379,221.45 March 1, 2003 - May 31, 2003...................... $60.54 $ 98,202,599.94 June 1, 2003 - August 31, 2003.................... $64.74 $105,015,466.14 September 1, 2003 - November 30, 2003............. $69.64 $112,963,810.04 December 1, 2003 - February 29, 2004.............. $72.25 $117,197,519.75 March 1, 2004 - May 31, 2004...................... $74.96 $121,593,440.56 June 1, 2004 - August 31, 2004.................... $77.77 $126,151,572.47 September 1, 2004 - November 30, 2004............. $80.69 $130,888,136,59 December 1, 2004 - February 28, 2005.............. $83.72 $135,803,132.92 March 1, 2005 - May 31, 2005...................... $86.85 $140,880,340.35 June 1, 2005 - August 23, 2005.................... $90.11 $146,168,422.21
As a result, beginning November 30, 2003, the aggregate Liquidation Preference of the Series B Preferred Stock will be effectively equal to the aggregate liquidation preference of the Class A Preferred Stock previously held by Richemont. For each increase in liquidation preference, the Company will reflect the 10 change as an increase in the Series B Preferred Stock with a corresponding reduction in additional paid-in capital. Such accretion will be recorded as a reduction of net income available to common shareholders. The holders of the Series B Preferred Stock are entitled to ten votes per share on any matter on which the common stock votes. In addition, in the event that the Company defaults in its obligations under the Richemont Agreement, the Certificate of Designations of the Series B Preferred Stock or its agreements with Congress, or in the event that the Company fails to redeem at least 811,056 shares of Series B Preferred Stock by August 31, 2003, then the holders of the Series B Preferred Stock, voting as a class, shall be entitled to elect two members to the Board of Directors of the Company. Dividends on the Series B Preferred Stock are required to be paid whenever a dividend is declared on the common stock. The amount of any dividend on the Series B Preferred Stock shall be determined by multiplying (i) the amount obtained by dividing the amount of the dividend on the common stock by the then current fair market value of a share of common stock and (ii) the Liquidation Preference of the Series B Preferred Stock. The Series B Preferred Stock must be redeemed by the Company on August 23, 2005 consistent with the requirement of the Delaware General Corporation Law. The Company may redeem all or less than all of the then outstanding shares of Series B Preferred Stock at any time prior to that date. At the option of the holders thereof, the Company must redeem the Series B Preferred Stock upon a Change of Control or upon the consummation of an Asset Disposition or Equity Sale (all as defined in the Certificate of Designations of the Series B Preferred Stock). The redemption price for the Series B Preferred Stock upon a Change of Control or upon the consummation of an Asset Disposition or Equity Sale is the then applicable Liquidation Preference of the Series B Preferred Stock plus the amount of any declared but unpaid dividends on the Series B Preferred Stock. The Company's obligation to redeem the Series B Preferred Stock upon an Asset Disposition or an Equity Sale is subject to the satisfaction of certain conditions set forth in the Certificate of Designations. The Certificate of Designations of the Series B Preferred Stock provides that, for so long as Richemont is the holder of at least 25% of the then outstanding shares of Series B Preferred Stock, it shall be entitled to appoint a non-voting observer to attend all meetings of the Board of Directors and any committees thereof. Pursuant to the terms of the Certificate of Designations of the Series B Preferred Stock, the Company's obligation to pay dividends on or redeem the Series B Preferred Stock is subject to its compliance with its agreements with Congress. The Congress Credit Facility requires that the proceeds from certain asset sales by the Company be paid to Congress before any such proceeds are used to redeem the Series B Preferred Stock. During autumn 2002, Company management conducted a strategic review of the Company's business and operations. As part of such review, Company management considered the Company's obligations under the Richemont Agreement and the Company's prospects and options for redemption of the Series B Preferred Shares issued to Richemont pursuant thereto in accordance with the Richemont Agreement terms. The review took into account the results of the Company's strategic business realignment program in 2001 and 2002, the relative strengths and weaknesses of the Company's competitive position and the economic and business climate, including the depressed business environment for mergers and acquisitions. As a result of this review, Company management and the Company's Board of Directors have concluded that it is unlikely that the Company will be able to accumulate sufficient capital, surplus, or other assets under Delaware corporate law or to obtain sufficient debt financing to either: 1. Redeem at least 811,056 shares of the Series B Preferred Stock by August 31, 2003, as allowed for by the Richemont Agreement, thereby resulting in the occurrence of a "Voting Trigger" which will allow Richemont to have the option of electing two members to the Company's Board of Directors; or 2. Redeem all of the shares of Series B Preferred Stock by August 31, 2005, as required by the Richemont Agreement, thereby obligating the Company to take all measures permitted under the Delaware General Corporation Law to increase the amount of its capital and surplus legally available to 11 redeem the Series B Preferred Shares, without a material improvement in either the business environment for mergers and acquisitions or other factors, unforeseeable at the time. Management believes that the Company has sufficient liquidity and availability under its credit agreement to fund its planned operations through at least January 31, 2004. Management will be required to successfully renegotiate the renewal of the Congress Credit Facility or successfully replace the facility with another institution. The unlikelihood that the Company will be able to redeem the Series B Preferred Shares is not expected to limit the ability of the Company to use current and future net earnings or cash flow to satisfy its obligations to creditors and vendors. In addition, the redemption price of the Series B Preferred Stock does not accrete after August 31, 2005. Company management met with representatives of Richemont on October 30, 2002 and outlined the results of management's strategic review in the context of the Company's obligations to Richemont under the Richemont Agreement, and discussed an alternative to the method for the redemption of the Series B Preferred Shares. Under this alternative proposal, that the Company had previously presented to Richemont, the Company would exchange two business divisions, Silhouettes and Gump's, for all of Richemont's Series B Preferred Shares (the "Proposal"). Pursuant to the terms of the Richemont Agreement, the redemption value of the Series B Preferred Shares as of the date of the Proposal was $87 million. Management based the Proposal terms on a valuation of Silhouettes and Gump's using the valuation multiple employed in USA Network's June 2001 purchase of the Company's Improvements business division. The Proposal also included a willingness on the part of the Company to provide continued fulfillment services for Silhouettes and Gump's on terms to be negotiated. On November 18, 2002, a representative of Richemont confirmed in writing to the Company that Richemont rejected the Proposal. Representatives of Richemont have indicated that it has no interest in the proffered assets and disputes their valuation implied in the Company's Proposal. The Company will continue to explore all reasonable opportunities to redeem and retire the Series B Preferred Stock. For Federal income tax purposes, the increases in the Liquidation Preference of the Series B Preferred Stock are considered distributions, by the Company to Richemont, deemed made on the commencement dates of the quarterly increases, as discussed above. These distributions may be taxable dividends to Richemont, provided the Company has accumulated or current earnings and profits ("E&P") for each year in which the distributions are deemed to be made. Under the terms of the Richemont Transaction, the Company is obligated to reimburse Richemont for any U.S. income tax incurred pursuant to the Richemont Transaction. Based on the Company's past income tax filings and its current income tax position, the Company has an E&P deficit as of December 28, 2002. Accordingly, the Company has not incurred a tax reimbursement obligation for year 2002. The Company must have current E&P in years 2003, 2004 or 2005 to incur a tax reimbursement obligation from the scheduled increases in Liquidation Preference. If the Company does not have current E&P in one of those years, no tax reimbursement obligation would exist for that particular year. The Company does not have the ability to project the exact future tax reimbursement obligation, however, it has estimated the potential obligation to be in the range of $0 to $23.1 million. Series A Cumulative Participating Preferred Stock. On August 24, 2000, the Company issued and sold 1.4 million shares of preferred stock designated as Series A Cumulative Participating Preferred Stock in a private placement (not involving the use of underwriters or other placement agents) to Richemont, which then owned approximately 47.9% of the Company's outstanding common stock, for an aggregate purchase price of $70.0 million in cash. There were no underwriting discounts or commissions related to such sale. The rights of the holders of the Company's common stock were limited or qualified by such issuance and sale. The Series A Preferred Stock had a par value of $0.01 per share, and a liquidation preference of $50.00 per share, and was recorded net of issuance costs of $2.3 million. The issuance costs were to be accreted as a dividend over a five-year period ending on the mandatory redemption date. Dividends are cumulative and accrue at an annual rate of 15%, or $7.50 per share, and are payable quarterly either in cash or in-kind through the issuance of additional Series A Preferred Stock. Cash dividend payments were required for dividend 12 payment dates occurring after February 1, 2004. As of December 30, 2000, the Company accreted dividends of $3.8 million, and reserved 75,498 additional shares of Series A Preferred Stock for the payment of such dividend. In-kind dividends and issuance cost accretion are charged against additional paid-in capital, with a corresponding increase in the carrying amount of the Series A Preferred Stock. Cash dividends were also reflected as a charge to additional paid-in capital, however, no adjustment to the carrying amount of the Series A Preferred Stock was made. The Series A Preferred Stock was generally non-voting, except if dividends have been in arrears and unpaid for four quarterly periods, whether or not consecutive. The holder of the Series A Preferred Stock would then have the exclusive right to elect two directors of the Company until such time as all such cumulative dividends accumulated on the Series A Preferred Stock have been paid in full. Furthermore, the holder of the Series A Preferred Stock was entitled to receive additional participating dividends in the event any dividends are declared or paid on, or any other distribution is made with respect to, the common stock of the Company. The additional dividends would be equal to 6150% of the amount of the dividends or distributions payable in respect of one share of common stock. In the event of a liquidation or dissolution of the Company, the holder of the Series A Preferred Stock would be paid an amount equal to $50.00 per share of Series A Preferred Stock plus the amount of any accrued and unpaid dividends, before any payments to other stockholders. The Company could redeem the Series A Preferred Stock in whole at any time and the holder of the Series A Preferred Stock could elect to cause the Company to redeem all or any of such holder's Series A Preferred Stock under certain circumstances involving a change of control, asset disposition or equity sale. Mandatory redemption of the Series A Preferred Stock by the Company was required on August 23, 2005 (the "Final Redemption Date") at a redemption price of $50.00 per share of Series A Preferred Stock plus the amount of any accrued and unpaid dividends. If, at the Final Redemption Date, the Company did not have sufficient capital and surplus legally available to redeem all the outstanding shares of the Series A Preferred Stock, the Company would be required to take all measures permitted under the Delaware General Corporation Law to increase the amount of its capital and surplus legally available and to redeem as many shares of the Series A Preferred Stock as it may legally redeem. Thereafter, as funds become available, the Company would be required to redeem as many additional shares of the Series A Preferred Stock as it legally can, until it has redeemed all remaining outstanding shares of the Series A Preferred Stock. On December 19, 2001, as part of the Richemont Transaction, the Company repurchased from Richemont all of the outstanding shares of the Series A Preferred Stock. Richemont agreed, as part of the transaction, to forego any claim it had to the accrued but unpaid dividends on the Series A Preferred Stock. The Company has filed a certificate in Delaware eliminating the Series A Preferred Stock from its certificate of incorporation. EMPLOYEES As of December 28, 2002, the Company employed approximately 1,830 people on a full-time basis and approximately 291 people on a part-time basis. The number of part-time employees at December 28, 2002 reflects a temporary increase in headcount necessary to fill the seasonal increase in orders during the holiday season. Approximately 226 of the Company's employees at one of its subsidiaries are represented by a union. The Company entered into a new agreement with The Union of Needletrades, Industrial and Textile Employees (UNITE!) in March 2003, which expires on February 26, 2006. The Company believes its relations with its employees are good. During the fiscal year ended December 28, 2002, the Company eliminated a total of approximately 301 FTE positions, including approximately 12 positions at or above the level of director, which included open positions that were eliminated. The Company made prospective payments to separated employees either weekly or bi-weekly, based upon each person's previous payment schedule. SEASONALITY The Company does not consider its business seasonal. The revenues and business for the Company are proportionally consistent for each quarter during a fiscal year. The percentage of annual revenues for the first, 13 second, third and fourth quarters recognized by the Company were as follows: 2002 -- 23.9%, 24.9%, 23.2% and 28.0%; 2001 -- 27.1%, 25.1%, 22.1% and 25.7%; and 2000 -- 21.6%, 23.8%, 23.3% and 31.3%. COMPETITION The Company believes that the principal bases upon which it competes in its direct commerce business are quality, value, service, proprietary product offerings, catalog design, web site design, convenience, speed and efficiency. The Company's catalogs compete with other mail order catalogs, both specialty and general, and retail stores, including department stores, specialty stores and discount stores such as JC Penney, Spiegel and Pottery Barn, among catalogs, and JC Penney, Target, Bed, Bath & Beyond and Bloomingdale's, among brick and mortar stores. Competitors also exist in each of the Company's catalog specialty areas of women's apparel, home fashions, men's apparel and gifts such as J.Crew and Jockey in the men's apparel category and Linen Source, Pottery Barn and BrylaneHome in the home fashions category. The Gump's store in San Francisco competes with Neiman Marcus, Tiffany, Horchow, Williams Sonoma and Crate & Barrel. A number of the Company's competitors have substantially greater financial, distribution and marketing resources than the Company. The Company is maintaining an active e-commerce enabled Internet Web site presence for all of its catalogs. A substantial number of each of the Company's catalog competitors maintain an active e-commerce enabled Internet web site presence as well. A number of such competitors have substantially greater financial, distribution and marketing resources than the Company. Sales from the Internet for Web site merchandisers grew in 2002. In addition, the Company has entered into third party Web site advertising arrangements, including with Amazon.com, as described above under "Direct Commerce -- Internet Sales." The Company believes in the future of the Internet and online commerce, including the marketing opportunities arising from this medium, and has directed part of its marketing focus, resources and manpower to that end. The Company has recently expanded its arrangements with Amazon.com. The Company believes that the principal bases upon which it competes in its business-to-business sector are value, service, flexibility, scalability, convenience and efficiency. The Company's third party fulfillment business competes with Clientlogic and NewRoads, amongst others. A number of the Company's competitors have substantially greater financial, distribution and marketing resources than the Company. TRADEMARKS Each of the Company's catalogs has its own federally registered trademarks that are owned by The Company Store Group, LLC and its subsidiaries. The Company Store Group, LLC and its subsidiaries also own numerous trademarks, copyrights and service marks on logos, products and catalog offerings. The Company and its subsidiaries also have protected various trademarks internationally. The Company and its subsidiaries vigorously protect such marks. GOVERNMENT REGULATION The Company is subject to Federal Trade Commission regulations governing its advertising and trade practices, Consumer Product Safety Commission regulations governing the safety of the products it sells in its catalogs and other regulations relating to the sale of merchandise to its customers. The Company is also subject to the Department of Treasury -- Customs regulations with respect to any goods it directly imports. The imposition of a sales and use tax collection obligation on out-of-state catalog companies in states to which they ship products was the subject of a case decided in 1994 by the United States Supreme Court. While the Court reaffirmed an earlier decision that allowed direct marketers to make sales into states where they do not have a physical presence without collecting sales taxes with respect to such sales, the Court further noted that Congress has the power to change this law. The Company believes that it collects sales tax in all jurisdictions where it is currently required to do so. 14 LISTING INFORMATION By letter dated May 2, 2001, the American Stock Exchange (the "Exchange") notified the Company that it was below certain of the Exchange's continued listing guidelines set forth in the Exchange's Company Guide. The Exchange instituted a review of the Company's eligibility for continuing listing of the Company's common stock on the Exchange. On January 17, 2002, the Company received a letter dated January 9, 2002 from the Exchange confirming that the American Stock Exchange determined to continue the Company's listing on the Exchange pending quarterly reviews of the Company's compliance with the steps of its strategic business realignment program. This determination was made subject to the Company's favorable progress in satisfying the Exchange's guidelines for continued listing and to the Exchange's periodic review of the Company's Securities and Exchange Commission and other filings. On November 11, 2002, the Company received a letter dated November 8, 2002 from the Exchange updating its position regarding the Company's compliance with certain of the Exchange's continued listing standards as set forth in Part 10 of the Exchange's Company Guide. Although the Company had been making favorable progress in satisfying the Exchange's guidelines for continued listing based on its compliance with the steps of its strategic business realignment program shared with the Exchange in 2001 and updated in 2002, the Exchange informed the Company that it had now become strictly subject to the procedures and requirements of Part 10 of the Company Guide. Specifically, the Company must not fall below the requirements of: (i) Section 1003(a)(i) with shareholders' equity of less than $2,000,000 and losses from continuing operations and/or net losses in two out of its three most recent fiscal years; (ii) Section 1003(a)(ii) with shareholders' equity of less than $4,000,000 and losses from continuing operations and/or net losses in three out of its four most recent fiscal years; and (iii) Section 1003(a)(iii) with shareholders' equity of less than $6,000,000 and losses from continuing operations and/or net losses in its five most recent fiscal years. The Exchange requested that the Company submit a plan to the Exchange by December 11, 2002, advising the Exchange of action it has taken, or will take, that would bring it into compliance with the continued listing standards by December 28, 2003. The Company submitted a plan to the Exchange on December 11, 2002 in an effort to maintain the listing of the Company's common stock on the Exchange. On January 28, 2003, the Company received a letter from the Exchange confirming that, as of the date of the letter, the Company had evidenced compliance with the requirements necessary for continued listing on the Exchange. Such compliance resulted from a recent rule change by the Exchange approved by the Securities and Exchange Commission related to continued listing on the basis of compliance with total market capitalization or total assets and revenues standards as alternatives to shareholders' equity standards such as the requirement for each listed company to maintain $15 million in public float. The letter is subject to changes in the American Stock Exchange Rules that might supersede the letter or require the Exchange to re-evaluate its position. WEB SITE ACCESS TO INFORMATION The Company's internet address is www.hanoverdirect.com. The Company recently began to make available free of charge on or through its web site its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission. Prior thereto, the Company voluntarily provided electronic or paper copies of its filings free of charge upon request, which it will continue to do. ITEM 2. PROPERTIES The Company's subsidiaries own and operate the following properties: - A 775,000 square foot warehouse and fulfillment facility located in Roanoke, Virginia, - A 48,000 square foot administration and telemarketing facility located in LaCrosse, Wisconsin, and 15 - A 150,000 square foot home fashion manufacturing facility located in LaCrosse, Wisconsin used to produce down filled comforters for sale under "The Company Store" and "Scandia Down" brand names. Each of these properties is subject to a mortgage in favor of the Company's lender, Congress Financial Corporation. In addition, the Company or its subsidiaries lease the following properties: - An 85,000 square foot building formerly used as corporate headquarters and administrative offices located in Weehawken, New Jersey under a 15-year lease expiring in May 2005, of which approximately 37,000 square feet are occupied by the Company, approximately 18,000 square feet are subleased, and the remaining 30,000 square feet are available for sublease, - A 30,000 square foot corporate headquarters and administration offices located in Edgewater, New Jersey under a lease expiring in May 2005, of which approximately 16,000 square feet is occupied by the Company, approximately 2,600 square feet are subleased, and the remaining 11,400 square feet are available for sublease, - Seven properties currently or formerly used as outlet stores located in California, Pennsylvania and Wisconsin having approximately 68,000 square feet of space in the aggregate, with leases running through December 2005. The two retail stores in California have been closed, as to which the Company currently subleases 6,200 square feet and holds for sublease approximately 5,000 square feet, - A 64,000 square foot retail and office facility which includes the Gump's retail store in San Francisco, California under two leases that expire during April 2010, of which approximately 37,000 square feet are occupied by the Company, approximately 20,000 square feet are subleased, and the remaining 7,000 square feet, together with an additional 10,250 square feet for which the current sublease expires during July 2003, are available for sublease, - A 185,000 square foot warehouse and fulfillment facility located in LaCrosse, Wisconsin under a lease expiring in December 2003, and - A 123,000 square foot telemarketing, customer service and administrative facility located in Hanover, Pennsylvania, under a lease that was extended during 2002 and that now expires on December 31, 2004. Additionally, the Company utilizes a temporary storage facility of 72,000 square feet under a lease expiring September 30, 2004 in Roanoke, Virginia to house merchandise during the holiday selling period and leases an additional satellite telemarketing facility in York, Pennsylvania under a lease expiring July 31, 2006. The Company also leases a 34,000 square foot facility used for storage under a lease expiring August 31, 2004 in La Crosse, Wisconsin. In addition, the Company leases a 30,000 square foot satellite administration facility in San Diego, California under a lease expiring April 2005. On February 28, 2002, the Company terminated the telemarketing operations conducted at such facility. Currently, the Company occupies approximately 16,000 square feet, approximately 5,000 square feet are subleased, and the remaining 9,000 square feet are available for sublease. On May 3, 2001, the Company sold its 277,500 square foot warehouse and fulfillment facility in Hanover, Pennsylvania (the "Kindig Lane Property") and certain equipment located therein for $4.7 million to an unrelated third party. The Company has continued to use the Kindig Lane Property under a month-to-month lease agreement with the third party, and will continue to lease a portion of the Kindig Lane Property on a month-to-month basis until April 4, 2003. Effective March 1, 2003, the Company has transitioned a portion of the fulfillment operations from the leased Kindig Lane Property to its owned facility in Roanoke, Virginia. During 2002, the Company entered into an agreement with the landlord and the sublandlord to terminate its sublease of the Company's closed 497,200 square foot warehouse and telemarketing facility located in Maumelle, Arkansas. The agreement provided for the payment by the Company to the sublandlord of $1,600,000, plus taxes through April 30, 2002 in the amount of $198,000. The Company made all of the 16 payments during May 2002. Upon the satisfaction by the Company of all of its obligations under the agreement, the sublease terminated and the Company was released from all further obligations under the sublease. The Company's previously established reserves for Maumelle, Arkansas were adequate based upon the terms of the final settlement agreement. ITEM 3. LEGAL PROCEEDINGS A class action lawsuit was commenced on March 3, 2000 entitled Edwin L. Martin v. Hanover Direct, Inc. and John Does 1 through 10, bearing case no. CJ2000-177 in the State Court of Oklahoma (District Court in and for Sequoyah County). Plaintiff commenced the action on behalf of himself and a class of persons who have at any time purchased a product from the Company and paid for an "insurance charge." The complaint sets forth claims for breach of contract, unjust enrichment, recovery of money paid absent consideration, fraud and a claim under the New Jersey Consumer Fraud Act. The complaint alleges that the Company charges its customers for delivery insurance even though, among other things, the Company's common carriers already provide insurance and the insurance charge provides no benefit to the Company's customers. Plaintiff also seeks a declaratory judgment as to the validity of the delivery insurance. The damages sought are (i) an order directing the Company to return to the plaintiff and class members the "unlawful revenue" derived from the insurance charges, (ii) declaring the rights of the parties, (iii) permanently enjoining the Company from imposing the insurance charge, (iv) awarding threefold damages of less than $75,000 per plaintiff and per class member, and (v) attorneys' fees and costs. On April 12, 2001, the Court held a hearing on plaintiff's class certification motion. Subsequent to the April 12, 2001 hearing on plaintiff's class certification motion, plaintiff filed a motion to amend the definition of the class. On July 23, 2001, plaintiff's class certification motion was granted, defining the class as "All persons in the United States who are customers of any catalog or catalog company owned by Hanover Direct, Inc. and who have at any time purchased a product from such company and paid money which was designated to be an 'insurance' charge." On August 21, 2001, the Company filed an appeal of the order with the Oklahoma Supreme Court and subsequently moved to stay proceedings in the district court pending resolution of the appeal. The appeal has been fully briefed. At a subsequent status hearing, the parties agreed that issues pertaining to notice to the class would be stayed pending resolution of the appeal, that certain other issues would be subject to limited discovery, and that the issue of a stay for any remaining issues would be resolved if and when such issues arise. Oral argument on the appeal, if scheduled, is not expected until the first half of 2003. The Company believes it has defenses against the claims and plans to conduct a vigorous defense of this action. On August 15, 2001, the Company was served with a summons and four-count complaint filed in Superior Court for the City and County of San Francisco, California, entitled Teichman v. Hanover Direct, Inc., Hanover Brands, Inc., Hanover Direct Virginia, Inc., and Does 1-100. The complaint was filed by a California resident, seeking damages and other relief for herself and a class of all others similarly situated, arising out of the insurance fee charged by catalogs and internet sites operated by subsidiaries of the Company. Defendants, including the Company, have filed motions to dismiss based on a lack of personal jurisdiction over them. In January 2002, plaintiff sought leave to name six additional entities: International Male, Domestications Kitchen & Garden, Silhouettes, Hanover Company Store, Kitchen & Home, and Domestications as co- defendants. On March 12, 2002, the Company was served with the First Amended Complaint in which plaintiff named as defendants the Company, Hanover Brands, Hanover Direct Virginia, LWI Holdings, Hanover Company Store, Kitchen and Home, and Silhouettes. On April 15, 2002, the Company filed a Motion to Stay the Teichman action in favor of the previously filed Martin action and also filed a Motion to quash service of summons for lack of personal jurisdiction on behalf of defendants Hanover Direct, Inc., Hanover Brands, Inc. and Hanover Direct Virginia, Inc. On May 14, 2002, the Court (1) granted the Company's Motion to quash service on behalf of Hanover Direct, Hanover Brands, and Hanover Direct Virginia, leaving only LWI Holdings, Hanover Company Store, Kitchen & Home, and Silhouettes, as defendants, and (2) granted the Company's Motion to Stay the action in favor of the previously filed Oklahoma action, so nothing will proceed on this case against the remaining entities until the Oklahoma case is decided. The Company believes it has defenses against the claims. The Company plans to conduct a vigorous defense of this action. 17 A class action lawsuit was commenced on February 13, 2002 entitled Jacq Wilson, suing on behalf of himself, all others similarly situated, and the general public v. Brawn of California, Inc. dba International Male and Undergear, and Does 1-100 ("Brawn") in the Superior Court of the State of California, City and County of San Francisco. Does 1-100 are internet and catalog direct marketers offering a selection of men's clothing, sundries, and shoes who advertise within California and nationwide. The complaint alleges that for at least four years, members of the class have been charged an unlawful, unfair, and fraudulent insurance fee and tax on orders sent to them by Brawn; that Brawn was engaged in untrue, deceptive and misleading advertising in that it was not lawfully required or permitted to collect insurance, tax and sales tax from customers in California; and that Brawn has engaged in acts of unfair competition under the state's Business and Professions Code. Plaintiff and the class seek (i) restitution and disgorgement of all monies wrongfully collected and earned by Brawn, including interest and other gains made on account of these practices, including reimbursement in the amount of the insurance, tax and sales tax collected unlawfully, together with interest, (ii) an order enjoining Brawn from charging customers insurance and tax on its order forms and/or from charging tax on the delivery, shipping and insurance charges, (iii) an order directing Brawn to notify the California State Board of Equalization of the failure to pay the correct amount of tax to the state and to take appropriate steps to provide the state with the information needed for audit, and (iv) compensatory damages, attorneys' fees, pre-judgment interest, and costs of the suit. The claims of the individually named plaintiff and for each member of the class amount to less than $75,000. On April 15, 2002, the Company filed a Motion to Stay the Wilson action in favor of the previously filed Martin action. On May 14, 2002, the Court heard the argument in the Company's Motion to Stay the action in favor of the Oklahoma action, denying the motion. In October 2002, the Court granted the Company's motion for leave to amend the answer. Discovery is proceeding. A mandatory settlement conference has been scheduled for April 4, 2003 and trial is currently scheduled for April 14, 2003. The Company plans to conduct a vigorous defense of this action. A class action lawsuit was commenced on February 20, 2002 entitled Argonaut Consumer Rights Advocates Inc., suing on behalf of the General Public v. Gump's By Mail, Inc. ("Gump's"), and Does 1-100 in the Superior Court of the State of California, City and County of San Francisco. The plaintiff is a non-profit public benefit corporation suing under the California Business and Profession Code. Does 1-100 would include persons whose activities include the direct sale of tangible personal property to California consumers including the type of merchandise that Gump's -- the store and the catalog -- sell, by telephone, mail order, and sales through the web sites www.gumpsbymail.com and www.gumps.com. The complaint alleges that for at least four years members of the class have been charged an unlawful, unfair, and fraudulent tax and "sales tax" on their orders in violation of California law and court decisions, including the state Revenue and Taxation Code, Civil Code, and the California Board of Equalization; that Gump's engages in unfair business practices; that Gump's engaged in untrue and misleading advertising in that it was not lawfully required to collect tax and sales tax from customers in California; is not lawfully required or permitted to add tax and sales tax on separately stated shipping or delivery charges to California consumers; and that it does not add the appropriate or applicable or specific correct tax or sales tax to its orders. Plaintiff and the class seek (i) restitution of all tax and sales tax charged by Gump's on each transaction and/or restitution of tax and sales tax charged on the shipping charges; (ii) an order enjoining Gump's from charging customers for tax on orders or from charging tax on the shipping charges; and (iii) attorneys' fees, pre-judgment interest on the sums refunded, and costs of the suit. On April 15, 2002, the Company filed an Answer and Separate Affirmative Defenses to the complaint, generally denying the allegations of the complaint and each and every cause of action alleged, and denying that plaintiff has been damaged or is entitled to any relief whatsoever. On September 19, 2002, the Company filed a motion for leave to file an amended answer, containing several additional affirmative defenses based on the proposition that the proper defendant in this litigation (if any) is the California State Board of Equalization, not the Company, and that plaintiff failed to exhaust its administrative remedies prior to filing suit. That motion was granted. At the request of the plaintiff, this case was dismissed with prejudice by the court on March 17, 2003. A class action lawsuit was commenced on March 5, 2002 entitled Argonaut Consumer Rights Advocates Inc., suing on behalf of the General Public v. Domestications LLC, and Does 1-100 ("Domestications") in the Superior Court of the State of California, City and County of San Francisco. The plaintiff is a non-profit public benefit corporation suing under the California Business and Profession Code. Does 1-100 would include 18 persons responsible for the conduct alleged in the complaint, including the direct sale of tangible personal property to California consumers including the type of merchandise that Domestications sells, by telephone, mail order, and sales through the web site www.domestications.com. The plaintiff claims that for at least four years members of the class have been charged an unlawful, unfair, and fraudulent tax and sales tax for different rates and amounts on the catalog and internet orders on the total amount of goods, tax and sales tax on shipping charges, which are not subject to tax or sales tax under California law, in violation of California law and court decisions, including the state Revenue and Taxation Code, Civil Code, and the California Board of Equalization; that Domestications engages in unfair business practices; and that Domestications engaged in untrue and misleading advertising in that it was not lawfully required to collect tax and sales tax from customers in California. Plaintiff and the class seek (i) restitution of all sums, interest and other gains made on account of these practices; (ii) prejudgment interest on all sums wrongfully collected; (iii) an order enjoining Domestications from charging customers for tax on their orders and/or from charging tax on the shipping charges; and (iv) attorneys' fees and costs of the suit. The Company filed an Answer and Separate Affirmative Defenses to the Complaint, generally denying the allegations of the Complaint and each and every cause of action alleged, and denying that plaintiff has been damaged or is entitled to any relief whatsoever. Discovery is now proceeding. On September 19, 2002, the Company filed a motion for leave to file an amended answer, containing several additional affirmative defenses based on the proposition that the proper defendant in this litigation (if any) is the California State Board of Equalization, not the Company, and that plaintiff failed to exhaust its administrative remedies prior to filing suit. That motion was granted. On February 28, 2003, the Company filed a notice of motion and memorandum of points and authorities in support of its motion for summary judgment setting forth that Plaintiff's claims are without merit and incorrect as a matter of law. At the request of the plaintiff, this case was dismissed with prejudice by the court on March 17, 2003. A class action lawsuit was commenced on October 28, 2002 entitled John Morris, individually and on behalf of all other persons & entities similarly situated v. Hanover Direct, Inc., and Hanover Brands, Inc. (referred to here as "Hanover"), No. L 8830-02 in the Superior Court of New Jersey, Bergen County -- Law Division. The plaintiff brings the action individually and on behalf of a class of all persons and entities in New Jersey who purchased merchandise from Hanover within six years prior to filing of the lawsuit and continuing to the date of judgment. On the basis of a purchase made by plaintiff in August, 2002 of certain clothing from Hanover (which was from a men's division catalog, the only ones which retained the insurance line item in 2002), Plaintiff claims that for at least six years, Hanover maintained a policy and practice of adding a charge for "insurance" to the orders it received and concealed and failed to disclose its policy with respect to all class members. Plaintiff claims that Hanover's conduct was (i) in violation of the New Jersey Consumer Fraud Act, as otherwise deceptive, misleading and unconscionable; (ii) such as to constitute Unjust Enrichment of Hanover at the expense and to the detriment of plaintiff and the class; and (iii) unconscionable per se under the Uniform Commercial Code for contracts related to the sale of goods. Plaintiff and the class seek damages equal to the amount of all insurance charges, interest thereon, treble and punitive damages, injunctive relief, costs and reasonable attorneys fees, and such other relief as may be just, necessary, and appropriate. On December 13, 2002, the Company filed a Motion to Stay the Morris action in favor of the previously filed Martin action. Plaintiff then filed an Amended Complaint adding International Male as a defendant. The Company's response to the Amended Complaint was filed on February 5, 2003. Plaintiff's response brief was filed March 17, 2003, and the Company's reply brief is due on March 31, 2003. Hearing on the motion to stay is expected to take place on April 4, 2003. The Company plans to conduct a vigorous defense of this action. On June 28, 2001, Rakesh K. Kaul, the Company's former President and Chief Executive Officer, filed a five-count complaint (the "Complaint") in New York State Court against the Company, seeking damages and other relief arising out of his separation of employment from the Company, including severance payments of $2,531,352 plus the cost of employee benefits, attorneys' fees and costs incurred in connection with the enforcement of his rights under his employment agreement with the Company, payment of $298,650 for 13 weeks of accrued and unused vacation, damages in the amount of $3,583,800, or, in the alternative, a declaratory judgment from the court that he is entitled to all change of control benefits under the "Hanover Direct, Inc. Thirty-Six Month Salary Continuation Plan," and damages in the amount of $1,396,066 or 19 $850,000 due to the Company's purported breach of the terms of the "Long-Term Incentive Plan for Rakesh K. Kaul" by failing to pay him a "tandem bonus" he alleges was due and payable to him within the 30 days following his resignation. The Company removed the case to the U.S. District Court for the Southern District of New York on July 25, 2001. Mr. Kaul filed an Amended Complaint ("Amended Complaint") in the U.S. District Court for the Southern District of New York on September 18, 2001. The Amended Complaint repeats many of the claims made in the original Complaint and adds ERISA claims. On October 11, 2001, the Company filed its Answer, Defenses and Counterclaims to the Amended Complaint, denying liability under each and every of Mr. Kaul's causes of action, challenging all substantive assertions, raising several defenses and stating nine counterclaims against Mr. Kaul. The counterclaims include (1) breach of contract; (2) breach of the Non-Competition and Confidentiality Agreement with the Company; (3) breach of fiduciary duty; (4) unfair competition; and (5) unjust enrichment. The Company seeks damages, including, without limitation, the $341,803 in severance pay and car allowance Mr. Kaul received following his resignation, $412,336 for amounts paid to Mr. Kaul for car allowance and related benefits, the cost of a long-term disability policy, and certain payments made to personal attorneys and consultants retained by Mr. Kaul during his employment, $43,847 for certain services the Company provided and certain expenses the Company incurred, relating to the renovation and leasing of office space occupied by Mr. Kaul's spouse at 115 River Road, Edgewater, New Jersey, the Company's current headquarters, $211,729 on a tax loan to Mr. Kaul outstanding since 1997 and interest, compensatory and punitive damages and attorneys' fees. The case is pending. The discovery period has closed, the Company has moved to amend its counterclaims, and the parties have each moved for summary judgment. The Company seeks summary judgment: dismissing Mr. Kaul's claim for severance under his employment agreement on the ground that he failed to provide the Company with a general release of, among other things, claims for change of control benefits; dismissing Mr. Kaul's claim for attorneys' fees on the grounds that they are not authorized under his employment agreement; dismissing Mr. Kaul's claims related to change in control benefits based on an administrative decision that he is not entitled to continued participation in the plan or to future benefits thereunder; dismissing Mr. Kaul's claim for a tandem bonus payment on the ground that no payment is owing; dismissing Mr. Kaul's claim for vacation payments based on Company policy regarding carry over vacation; and seeking judgment on the Company's counterclaim for unjust enrichment based on Mr. Kaul's failure to pay under a tax note. Mr. Kaul seeks summary judgment: dismissing the Company's defenses and counterclaims relating to a release on the grounds that he tendered a release or that the Company is estopped from requiring him to do so; the Company's defenses and counterclaims relating to his alleged violations of his non-compete and confidentiality obligations on the grounds that he did not breach the obligations as defined in the agreement; and the Company's claims based on his alleged breach of fiduciary duty, including those based on his monthly car allowance payments and the leased space to his wife, on the grounds that he was entitled to the car payments and did not involve himself in or make misrepresentations in connection with the leased space. The Company has concurrently moved to amend its Answer and Counterclaims to state a claim that it had cause for terminating Mr. Kaul's employment based on, among other things, after acquired evidence that Mr. Kaul received a monthly car allowance and other benefits totaling $412,336 that had not been authorized by the Company's Board of Directors and that his wife's lease and related expense was not properly authorized by the Company's Board of Directors, and to clarify or amend the scope of the Company's counterclaims for reimbursement. The briefing on the motions is completed and the parties are awaiting the decision of the Court. No trial date has been set. It is too early to determine the potential outcome, which could have a material impact on the Company's results of operations when resolved in a future period. In June 1994, a complaint was filed in the Supreme Court of the State of New York, County of New York, by Donald Schupak, the former President, CEO and Chairman of the Board of Directors of The Horn & Hardart Company, the corporate predecessor to the Company, against the Company and Alan Grant Quasha. The complaint asserted claims for alleged breaches of an agreement dated February 25, 1992 between Mr. Schupak and the Company (the "Agreement"), and for alleged tortious interference with the Agreement by Mr. Quasha. Mr. Schupak sought compensatory damages in an amount, which is estimated to be not more than $400,000, and punitive damages in the amount of $10 million; applicable interest, incidental and consequential damages, plus costs and disbursements, the expenses of the litigation and reasonable attorneys' fees. In addition, based on the alleged breaches of the Agreement by the Company, Mr. Schupak sought a 20 "parachute" payment of approximately $3 million under an earlier agreement with the Company that he allegedly had waived in consideration of the Company's performance of its obligations under the Agreement. The Company filed an answer to the complaint on September 7, 1994. Discovery then commenced and documents were exchanged. Each of the parties filed a motion for summary judgment at the end of 1995, and both motions were denied in the spring of 1996. In April 1996, due to health problems then being experienced by Mr. Schupak, the Court ordered that the case be marked "off calendar" until plaintiff recovered and was able to proceed with the litigation. In September 2002, more than six years later, Mr. Schupak filed a motion to restore the case to the Court's calendar. The Company filed papers in opposition to the motion on October 10, 2002, asserting that the motion should be denied on the ground that plaintiff failed to timely comply with the terms of the Court's order concerning restoration and, alternatively, on the ground of laches. The plaintiff filed reply papers on November 4, 2002. On November 20, 2002, the court denied Schupak's motion to restore the case to the calendar as "unnecessary and moot" on the ground that the case had been improperly marked off calendar in the first instance, ruled that the case therefore remained "active," and fixed a trial date of March 4, 2003. On January 27, 2003, the parties reached agreement fully and finally settling all of Schupak's claims in consideration of a payment by the Company and the exchange of mutual general releases. The Company was named as one of 88 defendants in a patent infringement complaint filed on November 23, 2001 by the Lemelson Medical, Education & Research Foundation, Limited Partnership (the "Lemelson Foundation"). The complaint, filed in the U.S. District Court in Arizona, was not served on the Company until March 2002. In the complaint, the Lemelson Foundation accuses the named defendants of infringing seven U.S. patents which allegedly cover "automatic identification" technology through the defendants' use of methods for scanning production markings such as bar codes. The Company received a letter dated November 27, 2001 from attorneys for the Lemelson Foundation notifying the Company of the complaint and offering a license. The Court entered a stay of the case on March 20, 2002, requested by the Lemelson Foundation, pending the outcome of a related case in Nevada being fought by bar code manufacturers. The trial in the Nevada case began on November 18, 2002 and ended on January 17, 2003. The parties in the Nevada case are now required to submit post trial briefs on or before May 16, 2003, and a decision is expected two months or more thereafter. The Order for the stay in the Lemelson case provides that the Company need not answer the complaint, although it has the option to do so. The Company has been invited to join a common interest/joint-defense group consisting of defendants named in the complaint as well as in other actions brought by the Lemelson Foundation. The Company is currently in the process of analyzing the merits of the issues raised by the complaint, notifying vendors of its receipt of the complaint and letter, evaluating the merits of joining the joint-defense group, and having discussions with attorneys for the Lemelson Foundation regarding the license offer. A preliminary estimate of the royalties and attorneys' fees which the Company may pay if it decides to accept the license offer from the Lemelson Foundation range from about $125,000 to $400,000. The Company has decided to gather further information, but will not agree to a settlement at this time, and thus, has not established a reserve. In early March 2003, the Company learned that one of its business units had engaged in certain travel transactions that may have constituted violations under the provisions of U.S. government regulations promulgated pursuant to 50 U.S.C. App. 1-44, which proscribe certain transactions related to travel to certain countries. See Note 19 to the Company's Consolidated Financial Statements. See also Note 17 of Notes to Consolidated Financial Statements for the years ended December 28, 2002, December 29, 2001 and December 30, 2000 elsewhere herein. In addition, the Company is involved in various routine lawsuits of a nature, which are deemed customary and incidental to its businesses. In the opinion of management, the ultimate disposition of these actions will not have a material adverse effect on the Company's financial position or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 21 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's common stock trades on the American Stock Exchange under the symbol "HNV." The following table sets forth, for the periods shown, the high and low sale prices of the Company's common stock as reported on the American Stock Exchange Composite Tape. As of March 20, 2003, the Company had 138,315,800 shares of common stock outstanding (net of treasury shares). Of these, 29,446,888 shares were held directly or indirectly by Richemont, 38,778,350 shares were held by Basil P. Regan or Regan Partners L.P., and 57,174 shares were held by other directors and officers of the Company. As a result, 70,033,388 shares of common stock were held by public shareholders. There were approximately 3,650 holders of record of common stock.
HIGH LOW ----- ----- FISCAL 2002 First Quarter (Dec. 30, 2001 to March 30, 2002)........... $0.52 $0.36 Second Quarter (March 31, 2002 to June 29, 2002).......... $0.44 $0.23 Third Quarter (June 30, 2002 to Sept. 28, 2002)........... $0.34 $0.19 Fourth Quarter (Sept. 29, 2002 to Dec. 28, 2002).......... $0.28 $0.18 FISCAL 2001 First Quarter (Dec. 31, 2000 to March 31, 2001)........... $0.56 $0.28 Second Quarter (April 1, 2001 to June 30, 2001)........... $0.34 $0.12 Third Quarter (July 1, 2001 to Sept. 29, 2001)............ $0.37 $0.17 Fourth Quarter (Sept. 30, 2001 to Dec. 29, 2001).......... $0.35 $0.24
The Company is restricted from paying dividends on its common stock or from acquiring its capital stock by certain debt covenants contained in agreements to which the Company is a party. 22 ITEM 6. SELECTED FINANCIAL DATA The following table presents selected financial data for each of the fiscal years indicated:
2002 2001 2000 1999 1998 -------- -------- -------- -------- -------- (IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) INCOME STATEMENT DATA: Net Revenues............................ $457,644 $532,165 $603,014 $549,852 $546,114 Special charges (credit)................ 4,398 11,277 19,126 144 (485) Loss from operations.................... (432) (23,965) (70,552) (13,756) (16,807) Gain on sale of Improvements business... (570) (23,240) -- -- -- Gain on sale of Kindig Lane Property.... -- (1,529) -- -- -- Gain on sale of The Shopper's Edge...... -- -- -- (4,343) -- Gain on sale of Austad's................ -- -- -- (967) -- Income (loss) before interest and income taxes................................. 138 804 (70,552) (8,446) (16,807) Interest expense, net................... 5,477 6,529 10,083 7,338 7,778 Net loss................................ (9,130) (5,845) (80,800) (16,314) (25,595) Preferred stock dividends and accretion............................. 15,556 10,745 4,015 634 578 -------- -------- -------- -------- -------- Net loss applicable to common stockholders.......................... $(24,686) $(16,590) $(84,815) $(16,948) $(26,163) -------- -------- -------- -------- -------- PER SHARE: Net loss per common share -- basic and diluted............................... $ (.18) $ (.08) $ (.40) $ (.08) $ (.13) -------- -------- -------- -------- -------- WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING (IN THOUSANDS): Basic................................... 138,280 210,536 213,252 210,719 206,508 -------- -------- -------- -------- -------- Diluted................................. 138,280 210,536 213,252 210,719 206,508 -------- -------- -------- -------- -------- BALANCE SHEET DATA (END OF PERIOD): Working capital (1)..................... $ 9,439 $ 20,935 $ 16,835 $ 17,990 $ 43,929 Total assets (1)........................ 140,100 157,661 203,019 191,419 218,870 Total debt (1).......................... 25,129 29,710 39,036 42,835 58,859 Redeemable Series A Preferred Stock..... -- -- 71,628 -- -- Redeemable Series B Preferred Stock..... 92,379 76,823 -- -- -- Shareholders' (deficiency) equity....... (58,841) (35,728) (24,452) 53,865 66,470
- --------------- (1) The amount for 1998 includes both a receivable and an obligation under receivables financing of $18,998, pursuant to SFAS No. 125. There were no cash dividends declared on the Common Stock in any of the periods presented. See notes to Consolidated Financial Statements. 23 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following table sets forth, for the fiscal years indicated, the percentage relationship to revenues of certain items in the Company's Consolidated Statements of Income (Loss):
FISCAL YEAR 2002 2001 2000 ----- ----------- ----- Net revenues............................................. 100.0% 100.0% 100.0% Cost of sales and operating expenses..................... 63.5 63.8 67.2 Write-down of inventory of discontinued catalogs......... -- -- 0.3 Special charges.......................................... 0.9 2.1 3.2 Selling expenses......................................... 23.0 26.5 25.4 General and administrative expenses...................... 11.4 10.7 14.1 Depreciation and amortization............................ 1.2 1.4 1.5 Gain on sale of Improvements Catalog..................... (0.1) (4.4) -- Gain on sale of Kindig Lane Property..................... -- (0.3) -- Income (loss) before interest and income taxes........... 0.1 0.2 (11.7) Interest expense, net.................................... 1.2 1.2 1.7 Provision for deferred federal income taxes.............. 0.8 -- -- Provision for state income taxes......................... -- -- -- Net loss................................................. (2.0)% (1.1)% (13.4)%
RESULTS OF OPERATIONS 2002 COMPARED WITH 2001 Net Loss. The Company reported a net loss of $9.1 million or $.18 per share for the year ended December 28, 2002 compared with a net loss of $5.8 million or $.08 per share for the comparable period in the fiscal year 2001. The per share amounts were calculated after deducting preferred dividends and accretion of $15.6 million and $10.7 million in fiscal years 2002 and 2001, respectively. The weighted average number of shares of common stock outstanding was 138,280,196 and 210,535,959 for the fiscal years ended December 28, 2002 and December 29, 2001, respectively. This decrease in weighted average shares was pursuant to the terms of the Richemont Transaction consummated on December 19, 2001 (see Notes 7 and 8 to the Company's Consolidated Financial Statements). The increased loss of $3.3 million resulted from the recording of $24.8 million in gains during fiscal year 2001 related to the sale of the Company's Improvements business and the Kindig Lane Property and a $3.7 million reduction to the carrying value of the deferred tax asset in fiscal year 2002. This deferred tax asset adjustment was based on a reassessment of the Company's ability to utilize certain net operating losses prior to their expiration. The impact of the deferred tax asset adjustment was mitigated by cost reductions, primarily in selling expenses. Net Revenues. Net revenues decreased $74.6 million or 14.0% for the year ended December 28, 2002 to $457.6 million from $532.2 million for a comparable period in 2001. This decrease was due in part to the sale of the Improvements business on June 29, 2001, which accounted for $34.1 million of the reduction. The discontinuance of the Domestications Kitchen & Garden, Kitchen & Home, Encore and Turiya catalogs contributed an additional $6.4 million to the reduction. Revenues for continuing businesses in fiscal year 2002 decreased by $34.1 million or 6.9%. Overall circulation for the continuing businesses decreased by 9.0% from the prior year with almost all of the decrease in the continuing revenues stemming from efforts to reduce unprofitable circulation. Internet sales have now reached 20.3% of combined internet and catalog revenues for the Company's four categories and have improved by $20.4 million or 30.4% to $87.3 million from $66.9 million in 2001, excluding sales from the Improvements business that was sold during 2001. Cost of Sales and Operating Expenses. Cost of sales and operating expenses decreased to 63.5% of net revenues for the year ended December 28, 2002 as compared with 63.8% of net revenues for the comparable period in 2001. The slight decrease over the prior year was due to the reduction of fixed costs incurred 24 primarily by the Company's fulfillment operations. While substantial reductions were realized during 2001, costs as a percentage of net revenues held constant in most areas except for fulfillment, which continued to decline as the on-going implementation of the Company's strategic business realignment program continued. Total merchandise cost, as a percent of net revenues, held constant with the prior year. Special Charges. In December 2000, the Company began a strategic business realignment program that resulted in the recording of special charges for severance, facility exit costs and fixed asset write-offs. Special charges recorded in fiscal years 2002, 2001, and 2000 relating to the strategic business realignment program were $4.4 million, $11.3 million, and $19.1 million, respectively. The actions related to the strategic business realignment program were taken in an effort to direct the Company's resources primarily towards a return to profitability. In the first quarter of 2002, special charges relating to the strategic business realignment program were recorded in the amount of $0.2 million. These charges consisted primarily of severance costs related to the elimination of an additional 10 FTE positions and costs associated with the Company's decision to close a product storage facility located in San Diego, California. In September 2002, the Company continued to execute this plan through the integration of The Company Store and Domestications divisions. As a result of the continued actions needed to execute these plans, during the third quarter of 2002, an additional $1.5 million of special charges was recorded. Of this amount, $1.3 million consisted of additional facility exit costs resulting primarily from the integration of The Company Store and Domestications divisions, causing management to reassess its plan to consolidate its office space at the corporate offices in New Jersey. The additional $0.2 million consisted of further severance costs for an individual relating to the Company's strategic business realignment program. In the fourth quarter of 2002, special charges totaling $2.7 million were recorded. Of this amount, $1.5 million was related to severance costs, including $1.2 million for two of the Company's senior management members, $0.2 million associated with the consolidation of a portion of the Company's Hanover, Pennsylvania fulfillment operations into its Roanoke, Virginia facility, and $0.1 million of additional severance costs and adjustments pertaining to the Company's previous strategic business realignment initiatives. The remaining $1.2 million consisted primarily of a $0.4 million credit reflecting the reduction of the deferred rental liabilities applicable to the portions of the facilities previously included in the Company's strategic business realignment program and a $1.6 million charge in order to properly reflect the current marketability of such facilities in the rental markets. Selling Expenses. Selling expenses decreased to 23.0% of net revenues for the year ended December 28, 2002 from 26.5% for the comparable period in 2001, primarily due to a shift in focus resulting in the elimination of mailing to unprofitable circulation lists. In addition to lower circulation, favorable paper prices were obtained, which have also contributed to the decline in selling expenses over the prior year. General and Administrative Expenses. General and administrative expenses decreased by $4.5 million in 2002 over the prior year. The reductions reflect the elimination of a significant number of FTE positions across all departments, which began late in 2000 as part of the Company's strategic business realignment program and have continued through December 28, 2002. This reduction was achieved even after absorbing in excess of $3.5 million in costs associated with the Company's litigation defense against Rakesh Kaul and the Company's litigation defense and settlement against Donald Schupak during 2002. As a percentage of net revenues, general and administrative expenses rose to 11.4% in 2002 from 10.7% for the comparable period in 2001. The total increase was attributable to the expense incurred by the Company to defend and settle litigation brought by Donald Schupak, and the expense incurred by the Company to defend itself against litigation brought by Rakesh Kaul. Depreciation and Amortization. Depreciation and amortization decreased to 1.2% of net revenues for the year ended December 28, 2002 from 1.4% for the comparable period in 2001. The decrease was primarily due to capital expenditures that have become fully amortized and the elimination of goodwill amortization resulting from the implementation of SFAS 142 at the beginning of fiscal 2002. 25 Loss from Operations. The Company's loss from operations decreased $23.6 million to $0.4 million for the year ended December 28, 2002 from a loss of $24.0 million for the comparable period in 2001. Gain on Sale of the Improvements Business. During fiscal 2002, the Company recognized approximately $0.6 million of deferred gain consistent with the terms of the escrow agreement relating to the Improvements sale. The recognition of additional gain of up to approximately $2.0 million has been deferred until the contingencies described in the escrow agreement expire, which will occur no later than the middle of the 2003 fiscal year. As of December 28, 2002, no claims had been made against the escrow. Interest Expense, Net. Interest expense, net for the year ended December 28, 2002 decreased $1.1 million to $5.5 million and is attributable to lower average borrowings over the last nine months of 2002 coupled with a reduction in interest rates. This reduction is partially offset by an increase in the amortization of deferred financing costs relating to the Company's amendments to the Congress Credit Facility. Income Taxes. For year ended December 28, 2002, the Company reduced the carrying value of its deferred tax asset. This deferred tax asset adjustment was based on a reassessment of the Company's ability to utilize certain net operating losses prior to their expiration. EBITDA COMPARISON SCHEDULE The following table reflects the view utilized by Company management to monitor the business (in thousands):
FISCAL YEAR 2002 2001 2000 ------- ----------- -------- INCOME (LOSS) BEFORE INTEREST & TAXES....................... $ 138 $ 804 $(70,552) Add: Depreciation and amortization.......................... 5,650 7,430 9,090 ------- -------- -------- EARNINGS BEFORE INTEREST, TAXES, DEPRECIATION & AMORTIZATION (EBITDA).................................................. 5,788 8,234 (61,462) Add: Stock option amortization expense...................... 1,332 1,841 5,175 ------- -------- -------- EBITDA AS DEFINED FOR DEBT COVENANT......................... 7,120 10,075 (56,287) Less: Gain on sale of Improvements business................. (570) (23,240) -- Less: Gain on sale of Kindig Lane Facility.................. -- (1,529) -- Add: Special charges........................................ 4,398 11,277 19,126 Add: Write-down inventory of discontinued catalogs.......... -- -- 2,048 Add: Extraordinary litigation Kaul litigation........................................... 2,871 -- 5,212 Shupack litigation........................................ 636 -- -- ------- -------- -------- COMPARATIVE EBITDA.......................................... $14,455 $ (3,417) $(29,901) ======= ======== ========
Management believes that Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) offers a useful tool in addition to traditional GAAP tools to measure operational cash flow. Management utilizes comparative EBITDA to evaluate the Company's performance independent of other factors such as gain on sale of businesses, special charges and litigation expenses as reflected in the table above. 2001 COMPARED WITH 2000 Net Loss. The Company reported a net loss of $5.8 million or $.08 per share for the fiscal year ended December 29, 2001 compared with a net loss of $80.8 million or $.40 per share for the fiscal year ended December 30, 2000. The per share amounts were calculated after deducting preferred dividends and accretion 26 of $10.7 million in 2001 and $4.0 million in 2000. As part of a transaction consummated with Richemont in December 2001 (see Notes 7 and 8 to the Company's Consolidated Financial Statements), Richemont agreed to forego any claim that it had to accrued but unpaid dividends on the Series A Preferred Stock in exchange for the issuance of Series B Preferred Stock. This transaction resulted in a decrease in shareholders' deficiency of $5.6 million. The weighted average number of shares outstanding was 210,535,959 and 213,251,945 for 2001 and 2000, respectively. This decrease in weighted average shares was due to the conversion of 1,530,000 issued common shares into treasury shares. Compared with the comparable period in 2000, the $75.0 million decrease in net loss was primarily due to: i. gain on sale of the Improvements business; ii. gain on sale of the Kindig Lane Property; iii. decreased special charges related to the Company's strategic business realignment program; iv. decreased cost of sales and operating expenses; v. decreased general and administrative expenses; and vi. a reduction in interest expense. Net Revenues. Net revenues decreased $70.8 million (11.7%) for the year ended December 29, 2001 to $532.2 million from $603.0 million for the comparable period in 2000. This decrease was in part due to the sale of the Improvements business on June 29, 2001, which accounted for $27.6 million of the reduction in revenues in 2001. An additional portion of the drop in revenues amounting to $7.8 million is attributed to the Company's decision to scale back on its third party business by focusing only on profitable operations. The discontinuance of the Domestications Kitchen & Garden, Encore, Kitchen & Home and Turiya catalogs contributed $21.2 million to the reduction of net revenues in 2001. The balance of the net revenues decrease can be attributable to softness in demand related to both the International Male and Gump's brands. Cost of Sales and Operating Expenses. Cost of sales and operating expenses decreased to 63.8% of net revenues for the year ended December 29, 2001 as compared to 67.2% of net revenues for the comparable period in 2000. This change is partially due to an increase in the amount of direct import merchandise, which has a favorable impact on merchandise cost as a percent of net revenues and accounted for 0.8% of the percentage drop. The balance of the reduction of 3.4% of costs as a percentage of net revenues can be primarily attributed to the significant reduction in operating costs that have resulted from actions taken in connection with the Company's strategic business realignment program. The largest reductions occurred in the areas of fixed costs associated with the Company's fulfillment centers and information systems. These reductions in costs, however, were partially offset by higher postage costs as a percent of net revenues. Special Charges. In December 2000, the Company developed a plan to strategically realign the business and direct the Company's resources primarily towards growth in Hanover Brands while at the same time reducing costs in all areas of the business and eliminating investment activities that had not generated sufficient revenues to produce profitable returns. As a result of actions needed to execute this plan, the Company recorded a special charge of $19.1 million in fiscal 2000 to cover costs related to severance, facility exit costs and fixed asset write-offs. In fiscal year 2001, the Company took additional actions towards implementing the strategic business realignment program that included: - The sale of the Kindig Lane Property; - The closing of the San Diego Telemarketing Center; - Reduction of full-time equivalent positions across all business units; and - Relocation of certain operating and administrative functions from its office facility in Weehawken, New Jersey to Edgewater, New Jersey. 27 These additional actions resulted in special charges of $11.3 million to cover costs related to severance, facility exit costs and fixed asset write-offs. Selling Expenses. Selling expenses increased to 26.5% of revenues for the year ended December 29, 2001 from 25.4% for the comparable period in 2000 primarily due to the under-performance of catalog mailings during the second quarter period. General and Administrative Expenses. General and Administrative expenses decreased by $28.2 million in 2001 which accounted for a significant portion of the Company's reduction in its net loss for the year. As a percentage of net revenues, general and administrative expenses dropped to 10.7% in 2001 from a high of 14.1% experienced in 2000. The reduction in costs is primarily attributable to the elimination of a significant number of FTE positions across all departments which began late in 2000 as part of the Company's strategic business realignment program and continued throughout the year 2001. Although the reductions in general and administrative costs occurred throughout all overhead areas, the largest reduction in the amount of approximately $8.6 million can be attributed to the decision to eliminate the erizon investment activities and the related overhead established to support them. Depreciation and Amortization. Depreciation and amortization decreased to 1.4% of net revenues for the year ended December 29, 2001 from 1.5% for the comparable period in 2000. The decrease is a result of the complete amortization of a major computer system in the year 2000 as well as the write-down of fixed assets in connection with the Company's strategic business realignment program in the year 2001. Loss from Operations. The Company's loss from operations decreased by $46.6 million to $24.0 million for the year ended December 29, 2001 from a loss of $70.6 million for the year ended December 30, 2000. Gain on Sale of the Improvements Business and the Kindig Lane Property. The combined gain on sales of the Improvements business and the Kindig Lane Property represented 4.7% of net revenues for the year ended December 29, 2001 and accounted for $24.8 million of the reduction in the Company's net loss for the year. The Company recognized a $23.2 million net gain on the sale of the Improvements business in the second quarter of 2001, which represents the excess of the net proceeds from the sale over the net assets acquired by HSN, the goodwill associated with the Improvements business and expenses related to the transaction. The Company realized a net gain on the sale of the Kindig Lane Property of approximately $1.5 million, which included the sale price net of selling expenses in excess of the net book value of assets sold. Interest Expense, Net. Interest expense, net decreased $3.6 million to $6.5 million which is attributable to lower average borrowings over the last nine months of 2001 coupled with a reduction in interest rates. Income Taxes. The income tax provision for the year ended December 29, 2001 was consistent with the provision in fiscal 2000. LIQUIDITY AND CAPITAL RESOURCES Net cash provided by operating activities. For the year ended December 28, 2002, net cash provided by operating activities was $4.7 million. Decreases, primarily in accounts receivable, prepaid catalog costs, and inventory, contributed to positive cash flow from operating activities. This positive cash flow was partially offset by funds being used to reduce accounts payable and other long-term liabilities. Net losses, when adjusted for depreciation, amortization and other non-cash items, resulted in an additional $2.7 million of operating cash provided for the period. Net cash provided by investing activities. For the year ended December 28, 2002, net cash provided by investing activities was $0.1 million. This was primarily due to $0.6 million of proceeds received relating to the deferred gain associated with the sale of the Improvements business and $0.2 million of proceeds received from disposals of property and equipment resulting from the termination of the sublease at the Company's warehouse and telemarketing facility located in Maumelle, Arkansas. These proceeds were offset by $0.7 million of capital expenditures, consisting primarily of upgrades in equipment located at the Roanoke, Virginia distribution center and various computer software applications. 28 Net cash used in financing activities. For the year ended December 28, 2002, net cash used in financing activities was $5.1 million. Payments to reduce both Congress Tranche A and Tranche B Term Loan facilities were $3.3 million and payments of the Congress Revolving Loan facility were $4.7 million. In addition, the Company paid $0.7 million in fees to amend the Congress Credit Facility (see Note 6 to the Company's Consolidated Financial Statements) and $0.1 million in capital lease payments. These payments were partially offset by additional borrowings of $3.5 million made under the amended Congress Tranche B Term Loan facility. Congress Credit Facility. On March 24, 2000, the Company amended its credit facility with Congress to provide the Company with a maximum credit line, subject to certain limitations, of up to $82.5 million. The Congress Credit Facility, as amended, expires on January 31, 2004 and comprises a revolving loan facility, a $17.5 million Tranche A Term Loan and a $8.4 million Tranche B Term Loan. Total cumulative borrowings under the Congress Credit Facility, however, are subject to limitations based upon specified percentages of eligible receivables and eligible inventory, and the Company is required to maintain $3.0 million of excess credit availability at all times. The Congress Credit Facility, as amended, is secured by all the assets of the Company and places restrictions on the incurrence of additional indebtedness and on the payment of common stock dividends. Under the Congress Credit Facility, the Company is required to maintain minimum net worth, working capital, and EBITDA as defined throughout the terms of the agreement. In March 2002, the Company amended the Congress Credit Facility to amend the definition of Consolidated Net Worth such that, effective July 1, 2002, to the extent that any goodwill or intangible assets of the Company and its subsidiaries were deemed to be impaired under the provisions of SFAS 142, such write-off of assets would not be considered a reduction of total assets for the purposes of computing consolidated net worth. The Company obtained the services of an independent appraisal firm during the second quarter ended June 29, 2002 to evaluate whether there had been any goodwill transition impairment. The results of the appraisal indicated no goodwill transition impairment based upon the requirements set forth in SFAS 142. The covenants relating to consolidated net working capital, consolidated net worth and EBITDA and certain non-cash charges were also amended. The amendment required the payment of a fee of $100,000 by the Company. On August 16, 2002, the Company amended the Congress Credit Facility to (i) extend the term of the Tranche B Term Loan to January 31, 2004, (ii) increase by $3,500,000 the borrowing reflected by the Tranche B Term Note to $8,410,714, and (iii) make certain related technical amendments to the Congress Credit Facility. The amendment required the payment of fees in the amount of $410,000 by the Company. In December 2002, the Company amended the Congress Credit Facility to change the definition of "Consolidated Net Income," "Consolidated Net Worth" and "Consolidated Working Capital" to make certain adjustments thereto, depending on the results of the Kaul litigation, to permit the payment to Richemont of certain United States withholding taxes payable to Richemont in connection with the Series B Preferred Stock, and to change certain borrowing sublimits. The consolidated working capital, consolidated net worth and EBITDA covenants were also established through the end of the term of the facility, and certain technical amendments relating to the reorganization of certain of the Company's subsidiaries were made. The amendment required the payment of fees in the amount of $110,000. In February 2003, the Company amended the Congress Credit Facility to amend the existing change in control Event of Default. The existing change in control Event of Default under the Congress Credit Facility is based upon NAR Group Limited, a former shareholder of the Company, ceasing to be the direct or indirect beneficial owner of a sufficient number of issued and outstanding shares of capital stock of the Company on a fully diluted basis to elect a majority of the members of the Company's Board of Directors. This was replaced during February 2003 with a new change in control Event of Default, which is patterned on the Change In Control concepts in the Company's various Key Executive Compensation Continuation Plans. The new Event of Default would be triggered by certain transfers of assets, certain liquidations or dissolutions, the acquisition by a person or group (other than a Permitted Holder, as defined) of a majority of the total outstanding voting stock of the Company, and certain changes in the composition of the Company's Board of Directors. 29 As of December 28, 2002, the Company had $25.1 million of cumulative borrowings outstanding under the Congress Credit Facility, comprising $8.8 million under the Revolving Loan Facility, bearing an interest rate of 4.75%, $8.5 million under the Tranche A Term Loan, bearing an interest rate of 5.0%, and $7.8 million under the Tranche B Term Loan, bearing an interest rate of 13.0%. Of the aggregate borrowings, $3.8 million is classified as short-term with $21.3 million classified as long-term on the Company's Consolidated Balance Sheet. As of December 29, 2001, the Company had $29.6 million of borrowings outstanding under the Congress Credit Facility comprising $13.5 million under the revolving loan facility, bearing an interest rate of 5.25%, and $10.5 million, bearing an interest rate of 5.50%, and $5.6 million, bearing an interest rate of 13.00%, of Tranche A Term Loans and Tranche B Term Loans, respectively. Achievement of the Company's strategic business realignment program is critical to the maintenance of adequate liquidity, as is compliance with the terms and provisions of the Congress Credit Facility and the Company's ability to operate effectively during the 2003 fiscal year. In the event of a softer than expected economic climate, management has available several courses of action to maintain liquidity and help maintain compliance with financial covenants, including selective reductions in catalog circulation, additional expense reductions and sales of non-core assets. Series B Cumulative Participating Preferred Stock. During autumn 2002, Company management conducted a strategic review of the Company's business and operations. As part of such review, Company management considered the Company's obligations under the Richemont Agreement and the Company's prospects and options for redemption of the Series B Preferred Shares issued to Richemont pursuant thereto in accordance with the Richemont Agreement terms. The review took into account the results of the Company's strategic business realignment program in 2001 and 2002, the relative strengths and weaknesses of the Company's competitive position and the economic and business climate, including the depressed business environment for mergers and acquisitions. As a result of this review, Company management and the Company's Board of Directors have concluded that it is unlikely that the Company will be able to accumulate sufficient capital, surplus, or other assets under Delaware corporate law or to obtain sufficient debt financing to either: 1. Redeem at least 811,056 shares of the Series B Preferred Stock by August 31, 2003, as allowed for by the Richemont Agreement, thereby resulting in the occurrence of a "Voting Trigger" which will allow Richemont to have the option of electing two members to the Company's Board of Directors; or 2. Redeem all of the shares of Series B Preferred Stock by August 31, 2005, as required by the Richemont Agreement, thereby obligating the Company to take all measures permitted under the Delaware General Corporation Law to increase the amount of its capital and surplus legally available to redeem the Series B Preferred Shares, without a material improvement in either the business environment for mergers and acquisitions or other factors, unforeseeable at the time. Management believes that the Company has sufficient liquidity and availability under its credit agreement to fund its planned operations through at least January 31, 2004. Management will be required to successfully renegotiate the renewal of the Congress Credit Facility or successfully replace the facility with another institution. The unlikelihood that the Company will be able to redeem the Series B Preferred Shares is not expected to limit the ability of the Company to use current and future net earnings or cash flow to satisfy its obligations to creditors and vendors. In addition, the redemption price of the Series B Preferred Stock does not accrete after August 31, 2005. Sale of the Improvements Business. On June 29, 2001, the Company sold certain assets and liabilities of its Improvements business to HSN, a division of USA Networks, Inc.'s Interactive Group, for approximately $33.0 million. In conjunction with the sale, the Company's Keystone Internet Services, Inc. subsidiary (now Keystone Internet Services, LLC) agreed to provide telemarketing and fulfillment services for the Improvements business under a services agreement with the buyer for a period of three years. The asset purchase agreement between the Company and HSN provides that if Keystone Internet Services, Inc. fails to perform its obligations during the first two years of the services contract, the purchaser can receive a reduction in the original purchase price of up to $2.0 million. An escrow fund of $3.0 million, 30 which was withheld from the original proceeds of the sale, has been established for a period of two years under the terms of an escrow agreement between LWI Holdings, Inc., HSN and The Chase Manhattan Bank as a result of these contingencies. The balance in the escrow fund at December 29, 2001 was $2.6 million. As of December 28, 2002, the balance in the escrow fund was $2.0 million, and there were no claims against the escrow. The Company recognized a net gain on the sale of approximately $23.2 million in fiscal year 2001, which represents the excess of the net proceeds from the sale over the net assets assumed by HSN, the goodwill associated with the Improvements business and expenses related to the transaction. During fiscal year 2002, the Company recognized approximately $0.6 million of the deferred gain consistent with the terms of the escrow agreement. Proceeds of approximately $0.3 million relating to the deferred gain were received on each of July 2, 2002 and December 30, 2002. The recognition of an additional gain of up to approximately $2.0 million has been deferred until the contingencies described above expire, which will occur no later than the middle of the 2003 fiscal year. American Stock Exchange Notification. By letter dated May 2, 2001, the American Stock Exchange notified the Company that it was below certain of the Exchange's continued listing guidelines set forth in the Exchange's Company Guide. The Exchange instituted a review of the Company's eligibility for continuing listing of the Company's common stock on the Exchange. On January 17, 2002, the Company received a letter dated January 9, 2002 from the Exchange confirming that the American Stock Exchange determined to continue the Company's listing on the Exchange pending quarterly reviews of the Company's compliance with the steps of its strategic business realignment program. This determination was made subject to the Company's favorable progress in satisfying the Exchange's guidelines for continued listing and to the Exchange's periodic review of the Company's Securities and Exchange Commission and other filings. On November 11, 2002, the Company received a letter dated November 8, 2002 from the Exchange updating its position regarding the Company's compliance with certain of the Exchange's continued listing standards as set forth in Part 10 of the Exchange's Company Guide. Although the Company had been making favorable progress in satisfying the Exchange's guidelines for continued listing based on its compliance with the steps of its strategic business realignment program shared with the Exchange in 2001 and updated in 2002, the Exchange informed the Company that it had now become strictly subject to the procedures and requirements of Part 10 of the Company Guide. Specifically, the Company must not fall below the requirements of: (i) Section 1003(a)(i) with shareholders' equity of less than $2,000,000 and losses from continuing operations and/or net losses in two out of its three most recent fiscal years; (ii) Section 1003(a)(ii) with shareholders' equity of less than $4,000,000 and losses from continuing operations and/or net losses in three out of its four most recent fiscal years; and (iii) Section 1003(a)(iii) with shareholders' equity of less than $6,000,000 and losses from continuing operations and/or net losses in its five most recent fiscal years. The Exchange requested that the Company submit a plan to the Exchange by December 11, 2002, advising the Exchange of action it has taken, or will take, that would bring it into compliance with the continued listing standards by December 28, 2003. The Company submitted a plan to the Exchange on December 11, 2002 in an effort to maintain the listing of the Company's common stock on the Exchange. On January 28, 2003, the Company received a letter from the Exchange confirming that, as of the date of the letter, the Company had evidenced compliance with the requirements necessary for continued listing on the Exchange. Such compliance resulted from a recent rule change by the Exchange approved by the Securities and Exchange Commission related to continued listing on the basis of compliance with total market capitalization or total assets and revenues standards as alternatives to shareholders' equity standards such as the requirement for each listed company to maintain $15 million in public float. The letter is subject to changes in the American Stock Exchange Rules that might supersede the letter or require the Exchange to re-evaluate its position. General. At December 28, 2002, the Company had $0.8 million in cash and cash equivalents, compared with $1.1 million at December 29, 2001. Working capital and current ratios at December 28, 2002 were $9.4 million and 1.12 to 1 versus $20.9 million and 1.26 to 1 at December 29, 2001. Total cumulative 31 borrowings, including financing under capital lease obligations, as of December 28, 2002, aggregated $25.1 million, $21.3 million of which is classified as long-term. Remaining availability under the Congress Revolving Loan Facility as of December 28, 2002 was $18.2 million. There were nominal capital commitments (less than $0.1 million) at December 28, 2002. On March 22, 2002, the Postal Rate Commission approved a settlement that allowed postal rates to increase an average of 7.7% on June 30, 2002. The Company had anticipated this action in its 2002 planning process and has been accommodating the increased cost as part of its normal business operations. The Company has implemented cost conservation measures, such as reduced paper weights and trim size changes, as a way of mitigating such cost increases. Management believes that the Company has sufficient liquidity and availability under its credit agreement to fund its planned operations through at least January 31, 2004. Management will be required to successfully renegotiate the renewal of the Congress Credit Facility or successfully replace the facility with another institution on or prior to that date. Achievement of the cost saving and other objectives of the Company's strategic business realignment program is critical to the maintenance of adequate liquidity as is compliance with the terms and provisions of the Congress Credit Facility as mentioned in Note 6, Long-Term Debt, to the Consolidated Financial Statements. USE OF ESTIMATES AND OTHER CRITICAL ACCOUNTING POLICIES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and revenues and expenses during the period. Significant accounting policies employed by the Company, including the use of estimates, are presented in the Notes to Consolidated Financial Statements. On April 30, 2002, the Securities and Exchange Commission issued a proposed rule to improve the financial statement disclosure of accounting estimates and critical accounting policies used by companies in the presentation of their financial condition, changes in financial condition or results of operations. Critical accounting policies are those that are most important to the portrayal of the Company's financial condition and results of operations, and require management's most difficult, subjective or complex judgments, as a result of the need to make estimates about the effect of matters that are inherently uncertain. The Company's most critical accounting policies, discussed below, pertain to revenue recognition, inventory valuation, catalog costs, reserves related to the Company's strategic business realignment program and the Company's deferred tax asset. Actual results could differ from estimates used in employing the critical accounting policies, although the Company does not believe that any differences would materially affect its financial condition or results of operations. Revenue Recognition -- The Company's revenue recognition policy includes the use of estimates of the future amount of returns to be received on the current period's sales. These estimates of future returns are determined using historical measures including the amount of time between the shipment of a product and its return (return lag -- rounded up to the nearest whole week), the overall rate of return, and the average product margin associated with the returned products. Returns estimates are calculated for each catalog brand and are used to determine each individual brand's returns reserve. The Company's total returns reserve at the end of the fiscal years 2002, 2001 and 2000 was $1.9 million, $2.8 million and $3.4 million, respectively. Net Revenues and Cost of Sales and Operating Expenses on the Company's Consolidated Statements of Income (Loss), as well as Accrued Liabilities on the Consolidated Balance Sheets, are impacted by the returns reserve calculations. Inventory Valuation -- The Company's inventory valuation policy includes the use of estimates regarding the future amount of inventory that will be liquidated at a price less than the cost of the merchandise (obsolescence reserve), and the amount of freight-in expense associated with the inventory on-hand (capitalized freight). These amounts are included in total inventory recorded on the Company's Consolidated Balance Sheets. The Company's obsolescence reserve is determined using the estimated amount of overstock inventory that will need to be sold below cost and an estimate of the method of liquidating this merchandise 32 (each method generates a different level of cost recovery). The estimated amount of overstock inventory is determined using current and historical sales trends for each category of inventory as well as the content of future catalog offers that will be produced by the Company. An estimate of the percentage of freight-in expense associated with each dollar of inventory on-hand is used in calculating the amount of freight expense to include in the Company's inventory value. Different percentage estimates are developed for inventory purchased from foreign and domestic sources. The estimates used to determine the Company's inventory valuation affect the balance of Inventory on the Company's Consolidated Balance Sheets and Cost of Sales and Operating Expenses on the Company's Consolidated Statements of Income (Loss). Catalog Costs -- An estimate of the future sales dollars to be generated from each individual catalog drop is used in the Company's catalog costs policy. The estimate of future sales is calculated for each catalog drop using historical trends for similar catalog drops mailed in prior periods as well as the overall current sales trend for the catalog brand. This estimate is compared with the actual sales generated-to-date for the catalog drop to determine the percentage of total catalog costs to be classified as prepaid on the Company's Balance Sheet. Prepaid Catalog Costs on the Consolidated Balance Sheets and Selling Expenses on the Consolidated Statements of Income (Loss) are affected by these estimates. Reserves related to the Company's strategic business realignment program and other Accrued Liabilities -- The reserves established by the Company related to its strategic business realignment program include estimates primarily associated with the potential subleasing of leased properties which have been vacated by the Company. The properties which have available space for subleasing as of December 28, 2002 include the corporate headquarters and administrative offices located in Weehawken, New Jersey and Edgewater, New Jersey; the retail and office facility which includes the Gump's retail store in San Francisco, California; the telemarketing and administrative facility located in San Diego, California; and the retail store facility in Los Angeles, California. The overall reserves for leased properties that have been vacated by the Company are developed using estimates that include the potential ability to sublet leased but unoccupied properties, the length of time needed to obtain suitable tenants and the amount of rent to be received for the sublet. Real estate broker representations regarding current and future market conditions are sometimes used in estimating these items. Current Accrued Liabilities and Other Non-Current Liabilities on the Company's Consolidated Balance Sheets and Special Charges on the Company's Consolidated Statements of Income (Loss) are impacted by these estimates. The most significant estimates involved in evaluating the Company's Accrued Liabilities are used in the determination of the Rakesh Kaul litigation accrual. In calculating this accrual, the Company has used estimates including the likelihood that this case will reach the trial stage, the legal expenses associated with continuing this legal action, the ultimate outcome of the case, and the amounts to be awarded if the outcome is not in the Company's favor. These estimates have been developed and approved by the Company's Senior Management. Accrued Liabilities on the Consolidated Balance Sheets and General and Administrative Expenses on the Consolidated Statements of Income (Loss) are affected by these estimates. Reserves related to employee health and welfare claims -- The Company maintains a self-insurance program related to losses and liabilities associated with employee health and welfare claims. Stop-loss coverage is held on both an aggregate and individual claim basis; thereby, limiting the amount of losses the Company will experience. Losses are accrued based upon estimates of the aggregate liability for claims incurred using the Company's experience patterns. General and Administrative Expenses on the Consolidated Statement of Income (Loss) and Accrued liabilities on the Consolidated Balance Sheet are affected by these estimates. Deferred Tax Asset -- In determining the Company's net deferred tax asset, projections concerning the future utilization of the Company's net operating loss carryforwards are employed. These projections involve evaluations of the Company's future operating plans and ability to generate taxable income, as well as future economic conditions and the Company's future competitive environment. For the year ended December 28, 2002, the carrying value of the deferred tax asset was adjusted based on a reassessment of the Company's ability to utilize certain net operating losses prior to their expiration. The change in the Company's projections and the effect on the Company's 2002 fiscal year-end financial statements is presented in the Notes to 33 Consolidated Financial Statements (Note 13). The Deferred Tax Asset and Deferred Tax Liability on the Company's Consolidated Balance Sheets and the Provision for Deferred Federal Income Taxes on the Company's Consolidated Statements of Income (Loss) are impacted by these projections. NEW ACCOUNTING PRONOUNCEMENTS In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("FAS 146"). FAS 146 nullifies Emerging Issues Task Force Issue No. 94-3 ("EITF 94-3"). FAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred whereas, under EITF 94-3, the liability was recognized at the commitment date to an exit plan. The Company is required to adopt the provisions of FAS 146 effective for exit or disposal activities initiated after December 31, 2002. In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure -- An Amendment of SFAS No. 123" ("FAS 148"). FAS 148 provides alternative methods of transition for a voluntary change to the fair value-based method of accounting for stock-based employee compensation. Since 1996, the Company has accounted for its stock-based compensation to employees using the fair value-based methodology under SFAS No. 123, thus there has been no effect on the Company's results of operations or financial position. In addition, FAS 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The Company has concluded they are in compliance with these required prominent disclosures. In January 2003, the Securities and Exchange Commission issued a new disclosure regulation, "Conditions for Use of Non-GAAP Financial Measures" ("Regulation G"), which is effective for all public disclosures and filings made after March 28, 2003. Regulation G requires public companies that disclose or release information containing financial measures that are not in accordance with generally accepted accounting principles ("GAAP") to include in the disclosure or release a presentation of the most directly comparable GAAP financial measure and a reconciliation of the disclosed non-GAAP financial measure to the most directly comparable GAAP financial measure. The Company will be adopting Regulation G in fiscal 2003 and is currently evaluating the impact of this adoption on its financial disclosures. OFF-BALANCE SHEET ARRANGEMENTS The Company has entered into no "off-balance sheet arrangements" within the meaning of the Securities Exchange Act of 1934, as amended, and the rules thereunder other than operating leases, which are in the normal course of business. FORWARD-LOOKING STATEMENTS The following statements constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995: "Management believes that the Company has sufficient liquidity and availability under its credit agreement to fund its planned operations through at least January 31, 2004." "The unlikelihood that the Company will be able to redeem the Series B Preferred Shares is not expected to limit the ability of the Company to use current and future net earnings or cash flow to satisfy its obligations to creditors and vendors." 34 CAUTIONARY STATEMENTS The following material identifies important factors that could cause actual results to differ materially from those expressed in the forward-looking statements identified above and in any other forward-looking statements contained elsewhere herein: - The recent general deterioration in economic conditions in the United States leading to reduced consumer confidence, reduced disposable income and increased competitive activity and the business failure of companies in the retail, catalog and direct marketing industries. Such economic conditions leading to a reduction in consumer spending generally and in-home fashions specifically, and leading to a reduction in consumer spending specifically with reference to other types of merchandise the Company offers in its catalogs or over the Internet, or which are offered by the Company's third party fulfillment clients. - Customer response to the Company's merchandise offerings and circulation changes; effects of shifting patterns of e-commerce versus catalog purchases; costs associated with printing and mailing catalogs and fulfilling orders; effects of potential slowdowns or other disruptions in postal service; dependence on customers' seasonal buying patterns; and fluctuations in foreign currency exchange rates. The ability of the Company to reduce unprofitable circulation and to effectively manage its customer lists. - The ability of the Company to achieve projected levels of sales and the ability of the Company to reduce costs commensurately with sales projections. Increases in postage, printing and paper prices and/or the inability of the Company to reduce expenses generally as required for profitability and/or increase prices of the Company's merchandise to offset expense increases. - The failure of the Internet generally to achieve the projections for it with respect to growth of e-commerce or otherwise, and the failure of the Company to increase Internet sales. The success of the Amazon.com venture. The imposition of regulatory, tax or other requirements with respect to Internet sales. Actual or perceived technological difficulties or security issues with respect to conducting e-commerce over the Internet generally or through the Company's Web sites or those of its third party fulfillment clients specifically. - The ability of the Company to attract and retain management and employees generally and specifically with the requisite experience in e-commerce, Internet and direct marketing businesses. The ability of employees of the Company who have been promoted as a result of the Company's strategic business realignment program to perform the responsibilities of their new positions. - The recent general deterioration in economic conditions in the United States leading to key vendors and suppliers reducing or withdrawing trade credit to companies in the retail, catalog and direct marketing industries. The risk that key vendors or suppliers may reduce or withdraw trade credit to the Company, convert the Company to a cash basis or otherwise change credit terms, or require the Company to provide letters of credit or cash deposits to support its purchase of inventory, increasing the Company's cost of capital and impacting the Company's ability to obtain merchandise in a timely manner. The ability of the Company to find alternative vendors and suppliers on competitive terms if vendors or suppliers who exist cease doing business with the Company. - The inability of the Company to timely obtain and distribute merchandise, leading to an increase in backorders and cancellations. - Defaults under the Congress Credit Facility, or inadequacy of available borrowings thereunder, reducing or impairing the Company's ability to obtain letters of credit or other credit to support its purchase of inventory and support normal operations, impacting the Company's ability to obtain, market and sell merchandise in a timely manner. - Continued compliance by the Company with and the enforcement by Congress of financial and other covenants and limitations contained in the Congress Credit Facility, including net worth, net working capital, capital expenditure and EBITDA covenants, and limitations based upon specified percentages of eligible receivables and eligible inventory, and the requirement that the Company maintain 35 $3.0 million of excess credit availability at all times, affecting the ability of the Company to continue to make borrowings under the Congress Credit Facility. - Continuation of the Company's history of operating losses, and the incidence of costs associated with the Company's strategic business realignment program, resulting in the Company failing to comply with certain financial and other covenants contained in the Congress Credit Facility, including net worth, net working capital, capital expenditure and EBITDA covenants and the ability of the Company to obtain waivers from Congress in the event that future internal and/or external events result in performance which results in noncompliance by the Company with the terms of the Congress Credit Facility requiring remediation. - The ability of the Company to complete the Company's strategic business realignment program, including the integration of the Domestications and The Company Store divisions and the integration of the Gump's(R) store and the Gump's By Mail(R) catalog divisions, within the time periods anticipated by the Company. The ability of the Company to realize the aggregate cost savings and other objectives anticipated in connection with the strategic business realignment program, or within the time periods anticipated therefor. The aggregate costs of effecting the strategic business realignment program may be greater than the amounts anticipated by the Company. - The ability of the Company to maintain advance rates under the Congress Credit Facility that are at least as favorable as those obtained in the past due to market conditions affecting the value of the inventory which is periodically re-appraised in order to re-set such advance rates. - Inability of the Company to timely replace its existing private label credit card agreement, and to transition its existing credit card customers to a new private label credit card issuer. - The ability of the Company to dispose of assets related to its third party fulfillment business, to the extent not transferred to other facilities. - The ability of the Company to extend the term of the Congress Credit Facility beyond January 31, 2004, its scheduled expiration date, or obtain other credit facilities on the expiration of the Congress Credit Facility on terms at least as favorable as those under the Congress Credit Facility. - The initiation by the Company of additional cost cutting and restructuring initiatives, the costs associated therewith, and the ability of the Company to timely realize any savings anticipated in connection therewith. - The ability of the Company to maintain insurance coverage required in order to operate its businesses and as required by the Congress Credit Facility. The ability of the Company to obtain certain types of insurance, including directors' and officers' liability insurance, or to accept reduced policy limits or coverage, or to incur substantially increased costs to obtain the same or similar coverage, due to recently enacted and proposed changes to laws and regulations affecting public companies, including the provisions of the Sarbanes-Oxley Act of 2002 and rules of the Securities and Exchange Commission thereunder. - The inability of the Company to access the capital markets due to market conditions generally, including a lowering of the market valuation of companies in the direct marketing and retail businesses, and the Company's business situation specifically. - The inability of the Company to sell non-core assets due to market conditions or otherwise. - The Company's dependence up to August 24, 2000 on Richemont and its affiliates for financial support and the fact that they are not under any obligation ever to provide any additional support in the future. - The ability of the Company to redeem the Series B Preferred Stock currently held by Richemont on a timely basis, or at all. - The ability of the Company to maintain the listing of its Common Stock on the American Stock Exchange. 36 - The continued willingness of customers to place and receive mail orders in light of worries about bio-terrorism. - The ability of the Company to sublease, terminate or renegotiate the leases of its vacant facilities in Weehawken, New Jersey and other locations. - The ability of the Company to evaluate and implement the requirements of the Sarbanes-Oxley Act of 2002 and the rules of the Securities and Exchange Commission thereunder, as well as proposed changes to listing standards by the American Stock Exchange, in a cost effective manner. - The ability of the Company to achieve cross channel synergies, create successful affiliate programs, effect profitable brand extensions or establish popular loyalty and buyers' club programs. - Uncertainty in the U.S. economy and decreases in consumer confidence leading to a slowdown in economic growth and spending resulting from the invasion of Iraq, which may result in future acts of terror. Such activities, either domestically or internationally, may affect the economy and consumer confidence and spending within the United States and adversely affect the Company's business. - The inability of the Company to continue to source goods from foreign sources, particularly India and Pakistan, as a result of a war with Iraq or otherwise leading to increased costs of sales. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK INTEREST RATES: The Company's exposure to market risk relates to interest rate fluctuations for borrowings under the Congress revolving credit facility and its term financing facility, which bear interest at variable rates. At December 28, 2002, outstanding principal balances under these facilities subject to variable rates of interest were approximately $17.3 million. If interest rates were to increase by one percent from current levels, the resulting increase in interest expense, based upon the amount outstanding at December 28, 2002, would be approximately $0.17 million on an annual basis. 37 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders Hanover Direct, Inc.: We have audited the accompanying consolidated balance sheet of Hanover Direct, Inc. as of December 28, 2002 and the related consolidated statements of income (loss), shareholders' deficiency, and cash flows for the year then ended. In connection with our audit of the consolidated financial statements, we also have audited the financial statement schedule for the year ended December 28, 2002 as listed in the accompanying index. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audit. The 2001 and 2000 financial statements and financial statement schedule of Hanover Direct, Inc. as listed in the accompanying index were audited by other auditors who have ceased operations. Those auditors expressed an unqualified opinion on those financial statements and financial statement schedule in their report dated March 16, 2002. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Hanover Direct, Inc. as of December 28, 2002 and the results of its operations and its cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the related financial statement schedule for the year ended December 28, 2002, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. As discussed in Note 1 to the consolidated financial statements, Hanover Direct, Inc. in 2002 adopted the provisions of the Financial Accounting Standards Board's Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets." KPMG LLP New York, New York March 25, 2003 38 CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 28, 2002 AND DECEMBER 29, 2001
DECEMBER 28, DECEMBER 29, 2002 2001 ------------ ------------ (IN THOUSANDS OF DOLLARS, EXCEPT SHARE AMOUNTS) ASSETS CURRENT ASSETS: Cash and cash equivalents................................. $ 785 $ 1,121 Accounts receivable, net of allowance for doubtful accounts of $1,560 in 2002 and $2,117 in 2001........... 16,945 19,456 Inventories............................................... 53,131 59,223 Prepaid catalog costs..................................... 13,459 14,620 Deferred tax asset, net................................... -- 3,300 Other current assets...................................... 3,967 3,000 --------- --------- Total Current Assets.................................... 88,287 100,720 --------- --------- PROPERTY AND EQUIPMENT, AT COST: Land...................................................... 4,395 4,509 Buildings and building improvements....................... 18,205 18,205 Leasehold improvements.................................... 9,915 12,466 Furniture, fixtures and equipment......................... 56,094 59,287 --------- --------- 88,609 94,467 Accumulated depreciation and amortization................. (59,376) (60,235) --------- --------- Property and equipment, net............................... 29,233 34,232 --------- --------- Goodwill, net............................................. 9,278 9,278 Deferred tax asset, net................................... 12,400 11,700 Other assets.............................................. 902 1,731 --------- --------- Total Assets............................................ $ 140,100 $ 157,661 ========= ========= LIABILITIES AND SHAREHOLDERS' DEFICIENCY CURRENT LIABILITIES: Current portion of long-term debt and capital lease obligations............................................. $ 3,802 $ 3,162 Accounts payable.......................................... 42,873 46,348 Accrued liabilities....................................... 26,351 25,132 Customer prepayments and credits.......................... 4,722 5,143 Deferred tax liability.................................... 1,100 -- --------- --------- Total Current Liabilities............................... 78,848 79,785 --------- --------- NON-CURRENT LIABILITIES: Long-term debt............................................ 21,327 26,548 Other..................................................... 6,387 10,233 --------- --------- Total Non-current Liabilities........................... 27,714 36,781 --------- --------- Total Liabilities....................................... 106,562 116,566 --------- --------- SERIES B REDEEMABLE PREFERRED STOCK, authorized, issued and outstanding, 1,622,111 shares at December 28, 2002 and December 29, 2001......................................... 92,379 76,823 --------- --------- SHAREHOLDERS' DEFICIENCY: Common Stock, $.66 2/3 par value, authorized 300,000,000 shares; 140,436,729 shares issued and outstanding at December 28, 2002 and 140,336,729 shares issued and outstanding at December 29, 2001........................ 93,625 93,558 Capital in excess of par value.............................. 337,507 351,558 Accumulated deficiency...................................... (486,627) (477,497) --------- --------- (55,495) (32,381) Less: Treasury stock, at cost (2,120,929 shares at December 28, 2002 and 2,100,929 shares at December 29, 2001)........... (2,996) (2,942) Notes receivable from sale of Common Stock.................. (350) (405) --------- --------- Total Shareholders' Deficiency.......................... (58,841) (35,728) --------- --------- Total Liabilities and Shareholders' Deficiency.......... $ 140,100 $ 157,661 ========= =========
See notes to Consolidated Financial Statements. 39 CONSOLIDATED STATEMENTS OF INCOME (LOSS) FOR THE YEARS ENDED DECEMBER 28, 2002, DECEMBER 29, 2001 AND DECEMBER 30, 2000
2002 2001 2000 --------- --------- --------- (IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS) NET REVENUES................................................ $457,644 $532,165 $603,014 -------- -------- -------- OPERATING COSTS AND EXPENSES: Cost of sales and operating expenses...................... 290,531 339,556 404,959 Write-down of inventory of discontinued catalogs.......... -- -- 2,048 Special charges........................................... 4,398 11,277 19,126 Selling expenses.......................................... 105,239 141,140 153,462 General and administrative expenses....................... 52,258 56,727 84,881 Depreciation and amortization............................. 5,650 7,430 9,090 -------- -------- -------- 458,076 556,130 673,566 -------- -------- -------- LOSS FROM OPERATIONS........................................ (432) (23,965) (70,552) Gain on sale of Improvements.............................. (570) (23,240) -- Gain on sale of Kindig Lane Property...................... -- (1,529) -- -------- -------- -------- INCOME (LOSS) BEFORE INTEREST AND INCOME TAXES.............. 138 804 (70,552) Interest expense, net..................................... 5,477 6,529 10,083 -------- -------- -------- LOSS BEFORE INCOME TAXES.................................... (5,339) (5,725) (80,635) Provision for deferred federal income taxes............... 3,700 -- -- Provision for state income taxes.......................... 91 120 165 -------- -------- -------- NET LOSS AND COMPREHENSIVE LOSS............................. (9,130) (5,845) (80,800) Preferred stock dividends................................. 15,556 10,745 4,015 -------- -------- -------- NET LOSS APPLICABLE TO COMMON SHAREHOLDERS.................. $(24,686) $(16,590) $(84,815) ======== ======== ======== NET LOSS PER COMMON SHARE: Net loss per common share -- basic and diluted............ $ (.18) $ (.08) $ (.40) ======== ======== ======== Weighted average common shares outstanding -- basic and diluted (thousands).................................... 138,280 210,536 213,252 ======== ======== ========
See notes to Consolidated Financial Statements. 40 CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 28, 2002, DECEMBER 29, 2001 AND DECEMBER 30, 2000
2002 2001 2000 ------- -------- -------- (IN THOUSANDS OF DOLLARS) CASH FLOWS FROM OPERATING ACTIVITIES: Net loss.................................................. $(9,130) $ (5,845) $(80,800) Adjustments to reconcile net loss to net cash provided (used) by operating activities: Depreciation and amortization, including deferred fees.................................................. 7,203 8,112 11,271 Provision for doubtful accounts......................... 304 91 4,947 Special charges......................................... 18 3,254 19,126 Deferred tax asset...................................... 3,700 Write-down of inventory of discontinued catalogs........ -- -- 2,048 Gain on the sale of Improvements........................ (570) (23,240) -- Gain on the sale of Kindig Lane Property................ -- (1,529) -- Gain on the sale of property and equipment.............. (167) -- -- Compensation expense related to stock options........... 1,332 1,841 5,175 Changes in assets and liabilities Accounts receivable..................................... 2,207 7,398 (3,363) Inventories............................................. 6,092 7,077 (16,844) Prepaid catalog costs................................... 1,161 4,456 (2,779) Accounts payable........................................ (3,475) (12,818) 4,309 Accrued liabilities..................................... 1,219 (11,117) 2,119 Customer prepayments and credits........................ (421) (300) 1,180 Other, net.............................................. (4,814) 1,400 1,803 ------- -------- -------- Net cash provided (used) by operating activities.......... 4,659 (21,220) (51,808) ------- -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Acquisitions of property and equipment.................. (639) (1,627) (14,581) Proceeds from sale of Improvements...................... 570 30,036 -- Proceeds from sale of Kindig Lane Property.............. -- 4,671 -- Proceeds from disposal of property and equipment........ 169 -- -- Proceeds from sale Blue Ridge Associates................ -- -- 988 ------- -------- -------- Net cash provided (used) by investing activities.......... 100 33,080 (13,593) ------- -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Net (payments) borrowings under Congress revolving loan facility.............................................. (4,704) (2,189) 12,810 Borrowings under Congress Tranche A term loan facility.............................................. -- -- 5,200 Borrowings under Congress Tranche B term loan facility.............................................. 3,500 -- 7,500 Payments under Congress Tranche A term loan facility.... (1,991) (5,208) (2,074) Payments under Congress Tranche B term loan facility.... (1,314) (1,069) (806) Payments of 7.5% convertible debentures................. -- (751) -- Payments of long-term debt and capital lease obligations........................................... (104) (90) (24,130) Net proceeds from issuance of preferred stock........... -- -- 67,700 Payment of debt issuance costs.......................... (722) (3,095) (2,770) Payment of preferred stock dividends.................... -- -- (920) Proceeds from issuance of common stock.................. 25 -- 847 Series B Preferred Stock transaction cost adjustment.... 215 -- -- Other, net.............................................. -- (28) 886 ------- -------- -------- Net cash (used) provided by financing activities.......... (5,095) (12,430) 64,243 ------- -------- -------- Net decrease in cash and cash equivalents................. (336) (570) (1,158) Cash and cash equivalents at the beginning of the year.... 1,121 1,691 2,849 ------- -------- -------- Cash and cash equivalents at the end of the year.......... $ 785 $ 1,121 $ 1,691 ======= ======== ======== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Cash paid during the year for: Interest................................................ $ 3,405 $ 5,286 $ 7,723 Income taxes............................................ $ 193 $ 150 $ 414 Non-cash investing and financing activities: Series B Preferred Stock redemption price increase...... $15,556 $ -- $ -- Redemption of Series B Preferred Stock.................. $ -- $ -- $ 6,350 Stock dividend and accretion Series A Cumulative Participating Preferred Stock......................... $ -- $ 10,745 $ 3,927 Redemption of Series A Cumulative Participating Preferred Stock and Accrued Stock Dividends........... $ -- $ 82,390 $ -- Issuance of Series B Preferred Stock.................... $ -- $ 76,823 $ -- Tandem share expirations................................ $ 55 $ 719 $ 394 Capital lease obligations............................... $ 32 $ 9 $ --
See notes to Consolidated Financial Statements. 41 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' DEFICIENCY FOR THE YEARS ENDED DECEMBER 28, 2002, DECEMBER 29, 2001 AND DECEMBER 30, 2000
PREFERRED STOCK SERIES B COMMON STOCK CONVERTIBLE $.66 2/3 PER VALUE CAPITAL ---------------- ------------------ IN EXCESS OF ACCUM. SHARES AMOUNT SHARES AMOUNT PAR VALUE (DEFICIT) ------ ------- ------- -------- ------------ --------- (IN THOUSANDS OF DOLLARS AND SHARES) BALANCE AT DECEMBER 25, 1999....... 635 $ 6,318 211,520 $141,013 $301,088 $(390,763) ==== ======= ======= ======== ======== ========= Net loss applicable to common shareholders..................... (84,815) Preferred stock accretion.......... 32 (152) 152 Preferred stock dividend........... (3,775) 3,775 Stock options granted.............. 5,175 Cash received for Tandem receivable....................... Tandem note write-down............. Issuance of Common Stock for employee stock plan.............. 713 476 371 Tandem share expirations........... Conversion to Common Stock......... (635) (6,350) 2,192 1,462 4,888 ---- ------- ------- -------- -------- --------- BALANCE AT DECEMBER 30, 2000....... -- $ -- 214,425 $142,951 $307,595 $(471,651) ==== ======= ======= ======== ======== ========= Net loss applicable to common shareholders..................... (16,590) Preferred stock accretion.......... (2,129) 2,129 Preferred stock dividend........... (8,615) 8,615 Stock options granted.............. 1,841 Issuance of Common Stock for employee stock plan.............. 10 7 (5) Tandem share expirations........... Retirement of Treasury Shares...... Preferred stock issuance costs..... (2,095) Conversion to Preferred Stock...... (74,098) (49,400) 54,966 ---- ------- ------- -------- -------- --------- BALANCE AT DECEMBER 29, 2001....... -- $ -- 140,337 $ 93,558 $351,558 $(477,497) ==== ======= ======= ======== ======== ========= Net loss applicable to common shareholders..................... (24,686) Series B preferred stock liquidation preference accrual... (15,556) 15,556 Stock options granted.............. 1,332 Issuance of Common Stock for employee stock plan.............. 100 67 (42) Tandem share expirations........... Series B preferred stock issuance cost adjustment.................. 215 ---- ------- ------- -------- -------- --------- BALANCE AT DECEMBER 28, 2002....... -- $ -- 140,437 $ 93,625 $337,507 $(486,627) ==== ======= ======= ======== ======== ========= NOTES RECEIVABLE TREASURY STOCK FROM SALE ---------------- OF COMMON SHARES AMOUNT STOCK TOTAL ------ ------- ---------- -------- (IN THOUSANDS OF DOLLARS AND SHARES) BALANCE AT DECEMBER 25, 1999....... (652) $(1,829) $(1,962) $ 53,865 ====== ======= ======= ======== Net loss applicable to common shareholders..................... (84,815) Preferred stock accretion.......... 32 Preferred stock dividend........... -- Stock options granted.............. 5,175 Cash received for Tandem receivable....................... 10 10 Tandem note write-down............. 434 434 Issuance of Common Stock for employee stock plan.............. 847 Tandem share expirations........... (77) (394) 394 -- Conversion to Common Stock......... -- ------ ------- ------- -------- BALANCE AT DECEMBER 30, 2000....... (729) $(2,223) $(1,124) $(24,452) ====== ======= ======= ======== Net loss applicable to common shareholders..................... (16,590) Preferred stock accretion.......... -- Preferred stock dividend........... -- Stock options granted.............. 1,841 Issuance of Common Stock for employee stock plan.............. 2 Tandem share expirations........... (1,530) (719) 719 -- Retirement of Treasury Shares...... 158 -- -- Preferred stock issuance costs..... (2,095) Conversion to Preferred Stock...... 5,566 ------ ------- ------- -------- BALANCE AT DECEMBER 29, 2001....... (2,101) $(2,942) $ (405) $(35,728) ====== ======= ======= ======== Net loss applicable to common shareholders..................... (24,686) Series B preferred stock liquidation preference accrual... -- Stock options granted.............. 1,332 Issuance of Common Stock for employee stock plan.............. 25 Tandem share expirations........... (20) (54) 54 -- Series B preferred stock issuance cost adjustment.................. 1 216 ------ ------- ------- -------- BALANCE AT DECEMBER 28, 2002....... (2,121) $(2,996) $ (350) $(58,841) ====== ======= ======= ========
See notes to Consolidated Financial Statements. 42 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 28, 2002, DECEMBER 29, 2001 AND DECEMBER 30, 2000 1. BACKGROUND OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Nature of Operations -- Hanover Direct, Inc., a Delaware corporation (the "Company"), is a specialty direct marketer, that markets a diverse portfolio of branded home fashions, men's and women's apparel, and gift products, through mail-order catalogs and connected Internet Web sites directly to the consumer ("direct commerce"). In addition, the Company continues to service existing third party clients with business-to-business (B-to-B) e-commerce transaction services. These services include a full range of order processing, customer care, customer information, and shipping and distribution services. The Company utilizes a fully integrated system and operations support platform initially developed to manage the Company's wide variety of catalog/Internet product offerings. This infrastructure is being utilized by the aforementioned B-to-B e-commerce transaction services on behalf of third party clients. Due to the strategic business realignment effective December 30, 2000 pursuant to SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information" (Note 10), the Company began to report results for the consolidated operations of Hanover Direct, Inc. as one segment commencing with the fiscal year 2001. Basis of Presentation -- The consolidated financial statements include all subsidiaries of the Company, and all intercompany transactions and balances have been eliminated. 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, the 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. Certain prior year amounts have been reclassified to conform to the current year's presentation. Fiscal Year -- The Company operates on a 52 or 53-week fiscal year, ending on the last Saturday in December. The years ended December 28, 2002 and December 29, 2001 were reported as 52-week years. The year ended December 30, 2000 was a 53-week year. Had fiscal 2000 been a 52-week year, the total revenue would have decreased by $5.2 million, net income would have decreased by $0.2 million and net loss per common share would not have changed. Cash and Cash Equivalents -- Cash includes cash equivalents consisting of highly liquid investments with an original maturity of ninety days or less. Inventories -- Inventories consist principally of merchandise held for resale and are stated at the lower of cost or market. Cost, which is determined using the first-in, first-out (FIFO) method, includes the cost of the product as well as freight-in charges. The Company considers slow moving inventory to be surplus and calculates a loss on the impairment as the difference between an individual item's cost and the net proceeds anticipated to be received upon disposal. The Company utilizes various liquidation vehicles to dispose of aged catalog inventory including special sales catalogs, sales sections in other catalogs, sales sections on the Company's Internet Web sites, and liquidations through off-price merchants. Such inventory is written down to its net realizable value, if the expected proceeds of disposal are less than the cost of the merchandise. Prepaid Catalog Costs -- Prepaid catalog costs consist of direct response advertising costs related to catalog production and mailing. In accordance with SOP 93-7, "Reporting on Advertising Costs," these costs are deferred and amortized as selling expenses over the estimated period in which the sales related to such advertising are generated. Total catalog expense was $104.1 million, $139.2 million and $150.4 million for fiscal years 2002, 2001 and 2000, respectively. Depreciation and Amortization -- Depreciation and amortization of property and equipment is computed on the straight-line method over the following lives: buildings and building improvements, 30-40 years; furniture, fixtures and equipment, 3-10 years; and leasehold improvements, over the estimated useful lives or the terms of the related leases, whichever is shorter. Repairs and maintenance are expensed as incurred. 43 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Goodwill, Net -- In July 2001, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards No. 141, "Business Combinations" ("SFAS 141") and No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Under SFAS 142, goodwill and intangible assets with indefinite lives are no longer amortized but are reviewed annually (or more frequently if impairment indicators arise) for impairment. Separable intangible assets that are not deemed to have indefinite lives will continue to be amortized over their useful lives (but with no maximum life). Prior to the adoption of SFAS 142, the excess of cost over the net assets of acquired businesses was amortized on a straight-line basis over periods of up to forty years. Goodwill relates to the International Male and the Gump's brands and the net balance at December 28, 2002 is $9.3 million. The Company adopted SFAS 142 effective January 1, 2002 and, as a result, the quarters ended March 30, 2002, June 29, 2002, and September 28, 2002 did not include an amortization charge for goodwill. The Company obtained the services of an independent appraisal firm during the second quarter ended June 29, 2002 to evaluate whether there was any goodwill impairment upon adoption of SFAS 142. The results of the appraisal indicated no goodwill transition impairment based upon the requirements set forth in SFAS 142. If the provisions under SFAS 142 had been implemented for the years ended December 29, 2001 and December 30, 2000 and the Company had not included an amortization charge for goodwill, the Company's net loss would have decreased as follows (in thousands of dollars, except per share amounts):
DECEMBER 29, DECEMBER 30, 2001 2000 ------------ ------------ Net loss................................................ $(5,845) $(80,800) Exclusion of goodwill amortization per SFAS 142......... 430 521 ------- -------- Net loss under provisions of SFAS 142................... $(5,415) $(80,279) ======= ======== Net loss per share under provisions of SFAS 142 -- basic and diluted................................ $ (.08) $ (.40) ======= ========
Impairment of Long-lived Assets -- In accordance with Statement of Financial Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-lived Assets," the Company reviews long-lived assets, other than goodwill, for impairment whenever events indicate that the carrying amount of such assets may not be fully recoverable. The Company performs non-discounted cash flow analyses to determine if impairment exists. If impairment is determined to exist, any related impairment loss is calculated based on fair value, which is generally based on discounted future cash flows. Impairment losses on assets to be disposed, if any, are based on the estimated proceeds to be received, less costs of disposal. Reserves related to the Company's strategic business realignment program -- Reserves have been established for leased properties vacated by the Company and currently subleased or available for sublease. For leases with remaining terms of greater than one year, the Company records charges on a discounted basis to reflect the present value of such costs to be incurred. Properties for which reserves have been recorded include portions of the corporate headquarters and administrative offices located in Weehawken, New Jersey and in Edgewater, New Jersey; the Gump's retail store located in San Francisco, California; the telemarketing and administration facility in San Diego, California; and the retail store facility located in Los Angeles, California. Reserves related to employee health and welfare claims -- The Company maintains a self-insurance program related to losses and liabilities associated with employee health and welfare claims. Stop-loss coverage is held on both an aggregate and individual claim basis; thereby, limiting the amount of losses the Company will experience. Losses are accrued based upon estimates of the aggregate liability for claims incurred using the Company's experience patterns. General and Administrative Expenses on the Consolidated Statement of Income (Loss) and Accrued liabilities on the Consolidated Balance Sheet are affected by these estimates. 44 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Stock-Based Compensation -- The Company accounts for its stock-based compensation to employees using the fair value-based methodology under SFAS No. 123, "Accounting for Stock-Based Compensation." Income Taxes -- The Company accounts for income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes." SFAS No. 109 requires an asset and liability approach for financial accounting and reporting of income taxes. The provision for income taxes is based on income after adjustment for those temporary and permanent items that are not considered in the determination of taxable income. The gross deferred tax asset is the total tax benefit available from net operating loss carryovers and reversals of temporary differences. A valuation allowance is calculated, based on the Company's projections of its future taxable income, to establish the amount of deferred tax asset that the Company is expected to utilize on a "more-likely-than-not" basis. The valuation of the Company's deferred tax asset was changed in 2002 based on a reassessment of the Company's ability to utilize certain net operating losses prior to their expiration. Net Loss Per Share -- Net loss per share is computed using the weighted average number of common shares outstanding in accordance with the provisions of SFAS No. 128, "Earnings Per Share." The weighted average number of shares used in the calculation for both basic and diluted net loss per share for fiscal years 2002, 2001 and 2000 was 138,280,196, 210,535,959 and 213,251,945 shares, respectively. Diluted earnings per share equals basic earnings per share as the dilutive calculation for preferred stock and stock options would have an anti-dilutive impact as a result of the net losses incurred during fiscal years 2002, 2001 and 2000. The number of potentially dilutive securities excluded from the calculation of diluted earnings per share were 2,541,843, 978,253, and 2,678,492 common share equivalents that represent options to purchase common stock in each of the three fiscal years 2002, 2001 and 2000, respectively. Revenue Recognition -- -- Direct Commerce: The Company recognizes revenue, net of estimated returns, upon shipment of merchandise to customers. Postage and handling charges billed to customers are also recognized as revenue upon shipment of related merchandise. The Company accrues for expected future returns at the time of sale based upon a combination of historical and current trends. -- Membership Services: Customers may purchase memberships in a number of the Company's Buyers' Club programs for an annual fee. The Company defers revenue recognition for membership fees received in its Buyers' Club programs until the cancellation period ends. Thereafter, revenue is recognized on a monthly basis over the remaining membership period. The Company also receives commission revenue related to its solicitation of the MemberWorks membership programs and Magazine Direct magazine subscription programs. For the MemberWorks, the Company is guaranteed a revenue stream dependent upon the actual number of offers made. To the extent that the program performs better than a pre-designated level, the Company will receive a higher level of revenue than its guaranteed minimum. Revenue is recognized monthly based on the number of acceptances received using a formula that has been contractually agreed upon by the Company and MemberWorks. The commission revenue recognized by the Company for the Magazine Direct magazine program is on a per-solicitation basis according to the number of solicitations made, with additional revenue recognized if the customer accepts the solicitation. Collectively, the amount of revenues the Company recorded from these sources was $5.1 million or 1.1% of net revenues, $4.8 million or 0.9% of net revenues, and $0.9 million or 0.2% of net revenues for fiscal years 2002, 2001 and 2000, respectively. In the second quarter of 2003, the Company will cease the offer of the Magazine Direct magazine program for the time being. The Company is considering new opportunities to offer new and different goods and services to its customers on inbound order calls from time to time, with the Company receiving commission revenue related to its solicitations. -- B-to-B Services: Revenues from the Company's e-commerce transaction services are recognized as the related services are provided. Customers are charged on an activity unit basis, which applies a contractually specified rate according to the type of transaction service performed. Revenues recorded from the Company's 45 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) B-to-B services were $20.1 million or 4.4% of net revenues, $22.2 million or 4.2% of net revenues, and $29.8 million or 4.9% of net revenues for fiscal years 2002, 2001 and 2000, respectively. Fair Value of Financial Instruments -- The carrying amounts for cash and cash equivalents, accounts receivable, accounts payable and the current portion of long-term debt approximate fair value due to the short maturities of these instruments. Additionally, the current value of long-term debt also approximates fair value, as this debt bears interest at prevailing market rates. NEW ACCOUNTING PRONOUNCEMENTS In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("FAS 146"). FAS 146 nullifies Emerging Issues Task Force Issue No. 94-3 ("EITF 94-3"). FAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred whereas, under EITF 94-3, the liability was recognized at the commitment date to an exit plan. The Company is required to adopt the provisions of FAS 146 effective for exit or disposal activities initiated after December 31, 2002. In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure -- An Amendment of SFAS No. 123" ("FAS 148"). FAS 148 provides alternative methods of transition for a voluntary change to the fair value-based method of accounting for stock-based employee compensation. Since 1996, the Company has accounted for its stock-based compensation to employees using the fair value-based methodology under SFAS No. 123, thus there has been no effect on the Company's results of operations or financial position. In addition, FAS 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The Company has concluded it is in compliance with these required prominent disclosures. In January 2003, the Securities and Exchange Commission issued a new disclosure regulation, "Conditions for Use of Non-GAAP Financial Measures" ("Regulation G") which is effective for all public disclosures and filings made after March 28, 2003. Regulation G requires public companies that disclose or release information containing financial measures that are not in accordance with generally accepted accounting principles ("GAAP") to include in the disclosure or release, a presentation of the most directly comparable GAAP financial measure and a reconciliation of the disclosed non-GAAP financial measure to the most directly comparable GAAP financial measure. The Company will be adopting Regulation G in fiscal 2003 and is currently evaluating the impact of this adoption on its financial disclosures. 2. DIVESTITURES During 2001, the Company sold the following businesses and assets: Sale of the Improvements Business: On June 29, 2001, the Company sold certain assets and liabilities of its Improvements business to HSN, a division of USA Networks, Inc.'s Interactive Group, for approximately $33.0 million. In conjunction with the sale, the Company's Keystone Internet Services, Inc. subsidiary (now Keystone Internet Services, LLC) agreed to provide telemarketing and fulfillment services for the Improvements business under a services agreement with the buyer for a period of three years. The asset purchase agreement between the Company and HSN provides that if Keystone Internet Services, Inc. fails to perform its obligations during the first two years of the services contract, the purchaser can receive a reduction in the original purchase price of up to $2.0 million. An escrow fund of $3.0 million, which was withheld from the original proceeds of the sale, has been established for a period of two years under the terms of an escrow agreement between LWI Holdings, Inc., HSN and The Chase Manhattan Bank as a result of these contingencies. The balance in the escrow fund at December 29, 2001 was $2.6 million. As of 46 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) December 28, 2002, the balance in the escrow fund was $2.0 million, and there were no claims against the escrow. The Company recognized a net gain on the sale of approximately $23.2 million, net of a non-cash goodwill charge of $6.1 million, in the second quarter of 2001, which represents the excess of the net proceeds from the sale over the net assets acquired by HSN, the goodwill associated with the Improvements business and expenses related to the transaction. During fiscal 2002, the Company recognized approximately $0.6 million of the deferred gain consistent with the terms of the escrow agreement. Proceeds related to the deferred gain were received on July 2, 2002 and December 30, 2002 for $0.3 million and $0.3 million, respectively. The recognition of the additional gain of up to approximately $2.0 million has been deferred until the contingencies described above expire, which will occur no later than the middle of the 2003 fiscal year. Sale of Kindig Lane Property: On May 3, 2001, as part of the Company's strategic business realignment program, the Company sold its fulfillment warehouse in Hanover, Pennsylvania (the "Kindig Lane Property") and certain equipment located therein for $4.7 million to an unrelated third party. Substantially all of the net proceeds of the sale were paid to Congress, pursuant to the terms of the Congress Credit Facility, and applied to a partial repayment of the Tranche A Term Loan made to Hanover Direct Pennsylvania, Inc., an affiliate of the Company, and to a partial repayment of the indebtedness under the Congress Credit Facility. The Company realized a net gain on the sale of approximately $1.5 million, which included the sale price net of selling expenses in excess of the net book value of assets sold. The Company has continued to use the Kindig Lane Property under a lease agreement with the third party, and will lease a portion of the Kindig Lane Property until April 4, 2003. Effective March 1, 2003, the Company has transitioned a portion of the fulfillment operations from the leased Kindig Lane Property to its own facility in Roanoke, Virginia. During 1999, the Company sold the following businesses and assets. Transactions related to these sales impact the fiscal years 2002, 2001 and 2000, which are presented: The Shopper's Edge: In March 1999, the Company, through a newly formed subsidiary, established and promoted a discount buyers' club to consumers known as "The Shopper's Edge." In exchange for an up-front membership fee, the Shopper's Edge program enabled members to purchase a wide assortment of merchandise at discounts that were not available through traditional retail channels. Initially, prospective members participated in a 45-day trial period that, unless canceled, was automatically converted into a full membership term, which was one year in duration. Memberships were automatically renewed at the end of each term unless canceled by the member. Effective December 1999, the Company sold its interest in the Shopper's Edge subsidiary to an unrelated third party for a nominal fair value based upon an independent appraisal. The Company entered into a solicitation services agreement with the purchaser whereby the Company provided solicitation services for the program and received commissions for member acceptances based on a fixed fee per member basis, adjusted for cancellation rates on a prospective basis. For the fiscal years ended 2002, 2001 and 2000, the Company received approximately $0.4 million, $2.5 million and $5.0 million of fee revenue, respectively, for solicitation services provided. Blue Ridge Associates -- In January 1994, the Company purchased for $1.1 million a 50% interest in Blue Ridge Associates ("Blue Ridge"), a partnership which owns an apparel distribution center in Roanoke, Virginia. The remaining 50% interest is held by an unrelated third party. This investment is accounted for under the equity method of accounting. The Company's investment in Blue Ridge was approximately $0.8 million at December 25, 1999. In December 1996, the Company consolidated the fulfillment and telemarketing activities handled at this facility into its home fashion distribution facility in Roanoke, Virginia, and attempted to sublease the vacated space. In April 1999, the Company sublet the vacated premises to an unrelated third party for a five-year period expiring in April 2004. In February 2000, the Company sold its partnership interest in Blue Ridge to the holder of the other 50% for $0.8 million, which approximated the Company's carrying value of the investment. 47 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 3. SPECIAL CHARGES In December 2000, the Company began a strategic business realignment program that resulted in the recording of special charges for severance, facility exit costs and fixed asset write-offs. Special charges recorded in fiscal years 2002, 2001 and 2000 relating to the strategic business realignment program were $4.4 million, $11.3 million and $19.1 million, respectively. The actions related to the strategic business realignment program were taken in an effort to direct the Company's resources primarily towards a loss reduction strategy and return to profitability. For fiscal year 2000, the $19.1 million of special charges consisted of severance ($5.0 million), facility exit costs ($5.9 million) and fixed asset write-offs ($8.2 million, of which $7.2 million is non-cash) related to the Company's previously announced strategic business realignment program which included (1) the elimination of approximately 285 full-time equivalent ("FTE") positions across all its business units; (2) the closure of the Company's Always in Style business; (3) the discontinuance by Hanover Brands of the under- performing Turiya, Kitchen & Home and Domestications Kitchen & Garden catalogs while incorporating some of the product offerings within continuing catalogs; (4) the termination by Hanover Brands of its marketing agreement with Compagnie de la Chine; (5) the closure by Hanover Brands of certain retail outlets and a satellite facility in New Jersey; (6) the closure of its leased fulfillment and telemarketing facility in Maumelle, Arkansas; and (7) the immediate cessation of the operations of Desius LLC. Such actions were taken in an effort to direct the Company's resources primarily towards continued profitable growth in Hanover Brands while reducing costs in all areas of the business and eliminating investment activities that had not yet generated sufficient revenue to produce profitable returns. The Company intended to consolidate the Maumelle operations within its remaining facilities and to provide the bulk of its fulfillment services for third party clients of its Keystone Internet Services, Inc. ("Keystone") subsidiary within its existing operations. The consolidation of Keystone's activities in other facilities was intended to provide a better opportunity to focus resources, particularly customer service support, on clients to service their needs. For 2001, the $11.3 million of special charges were related to the strategic business realignment program that was initiated at the end of 2000 and consisted of severance ($4.2 million), facility exit costs ($3.8 million) and asset write-offs ($3.3 million, all of which is non-cash). In December 2001, the Company made a decision as part of the continuing implementation of the strategic business realignment program, to close its San Diego telemarketing center in the first quarter of 2002. Accordingly, severance costs include $0.3 million for associates of the telemarketing center whose jobs were eliminated as a result. In addition severance costs recorded for the year include $0.4 million for associates of the Kindig Lane Property whose jobs were eliminated as a result of the sale of the facility in May 2001. The remainder of the severance charges recorded in 2001, which amounted to $3.5 million, represents the elimination of 442 FTE positions across all divisions of the Company's business as part of the strategic business realignment program. In October 2001, the Company determined it was more cost effective to relocate certain of its operating and administrative functions from the first floor of its facility in Weehawken, New Jersey to a previously closed space in Edgewater, New Jersey and attempted to sublet the space vacated in Weehawken, New Jersey. This amendment of the original plan resulted in an additional charge of $0.8 million for facility exit costs and a charge of $0.6 million for the write-off of fixed assets related to the Weehawken location. In addition, special charges totaling $0.2 million were recorded, primarily related to loan forgiveness of certain of the severed associates. In addition, the exit of the Maumelle and Kindig Lane buildings, as well as the closing of the San Diego telemarketing center, resulted in special charges of $3.7 million in addition to the aforementioned severance costs. The charges related to the exit of the Maumelle facility included a $1.1 million addition to the estimated loss on the lease provision and a $1.9 million fixed asset write-down. The exit charges for the Kindig Lane Property building consisted of a $0.5 million write-off for the impairment in value of the fixed assets located in 48 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) that facility. Finally, the costs associated with closing the San Diego telemarketing center included a write-down for the fixed assets of $0.1 million, and a lease provision for the facility of $0.1 million. The special charges recorded in 2001 also included $1.8 million to revise estimated losses provided for sublease arrangements in connection with a retail outlet store in San Diego that was previously closed and office facilities located in San Francisco, California. The Company reduced its estimated loss on the San Diego store lease by $0.4 million reflecting the locating of a subtenant quicker than originally expected. This was more than offset by the charge required for anticipated losses on sublease arrangements for the San Francisco office space resulting from declining market values in that area of the country. In May 2002, the Company entered into an agreement with the landlord and the sublandlord to terminate its sublease of the Company's closed 497,200 square foot warehouse and telemarketing facility located in Maumelle, Arkansas. The agreement provided for the payment by the Company to the sublandlord of $1.6 million plus taxes through April 30, 2002 in the amount of $0.2 million. The Company made all of the payments in four weekly installments between May 2, 2002 and May 24, 2002. Upon the satisfaction by the Company of all of its obligations under the agreement, the sublease terminated and the Company was released from all further obligations under the sublease. The Company's previously established reserves for Maumelle, Arkansas were adequate based upon the terms of the final settlement agreement. In the first quarter of 2002, special charges relating to the strategic business realignment program were recorded in the amount of $0.2 million. These charges consisted primarily of severance costs related to the elimination of an additional 10 FTE positions and costs associated with the Company's decision to close a product storage facility located in San Diego, California. In September 2002, the Company continued to execute this program through the integration of its The Company Store and Domestications divisions. As a result of the continued actions needed to execute these plans, during the third quarter of 2002, an additional $1.5 million of special charges were recorded. Of this amount, $1.3 million consisted of additional facility exit costs resulting primarily from the integration of The Company Store and Domestications divisions, causing management to reassess its plan to consolidate its office space utilization at the corporate offices in New Jersey. The additional $0.2 million consisted of further severance costs for an individual relating to the Company's strategic business realignment program. In the fourth quarter of 2002, special charges totaling $2.7 million were recorded. Of this amount, $1.5 million was for severance costs, including $1.2 million for two of the Company's senior management members, $0.2 million was associated with the elimination of 32 FTE positions in the Company's Hanover, Pennsylvania fulfillment operation as a result of its consolidation into the Company's Roanoke, Virginia facility in March 2003, and $0.1 million was for additional severance costs and adjustments pertaining to the Company's previous strategic business realignment initiatives. The remaining $1.2 million consisted primarily of a $0.4 million credit reflecting the reduction of the deferred rental liabilities applicable to the portions of the facilities previously included in the Company's strategic business realignment program, and a $1.6 million charge in order to properly reflect the current marketability of such facilities in the rental markets. At December 28, 2002 and December 30, 2001, liabilities of $3.3 million and $7.3 million, respectively, were included within Accrued Liabilities, and liabilities of $4.7 million and $3.8 million, respectively, were 49 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) included within Other Non-Current Liabilities. These liabilities relate to future payments in connection with the Company's strategic business realignment program and consist of the following (in thousands):
SEVERANCE & REAL ESTATE INFORMATION PERSONNEL LEASE & TECHNOLOGY COSTS EXIT COSTS LEASES TOTAL ----------- ----------- ----------- ------- Balance at December 29, 1999.............. $ -- $ 2,299 $ -- $ 2,299 2000 Expenses............................. 5,073 5,862 1,043 11,978 Paid in 2000.............................. (651) (603) -- (1,254) ------- ------- ------ ------- Balance at December 30, 2000.............. 4,422 7,558 1,043 13,023 2001 Expenses............................. 4,135 3,828 -- 7,963 Paid in 2001.............................. (6,011) (3,249) (670) (9,930) ------- ------- ------ ------- Balance at December 29, 2001.............. 2,546 8,137 373 11,056 2002 Expenses............................. 1,817 2,952 -- 4,769 Paid in 2002.............................. (2,911) (4,672) (210) (7,793) ------- ------- ------ ------- Balance at December 28, 2002.............. $ 1,452 $ 6,417 $ 163 $ 8,032 ======= ======= ====== =======
A summary of the liability related to Real Estate Lease and Exit Costs, by location, as of the end of 2002 and 2001, is as follows (in thousands):
DECEMBER 28, DECEMBER 29, 2002 2001 ------------ ------------ Gumps facility, San Francisco, CA........................... $3,349 $3,014 Corporate facility, Weehawken, NJ........................... 2,325 2,248 Corporate facility, Edgewater, NJ........................... 439 -- Administrative and telemarketing facility, San Diego, CA.... 179 123 Retail store facilities, Los Angeles and San Diego, CA...... 125 451 Fulfillment facility, Maumelle, AK.......................... -- 2,301 ------ ------ Total Lease and Exit Cost Liability......................... $6,417 $8,137 ====== ======
4. WRITE-DOWN OF INVENTORY OF DISCONTINUED CATALOGS In the fourth quarter of 2000, the Company made a decision to discontinue three catalog brands, Domestications Kitchen & Garden, Turiya and Kitchen & Home. These catalog brands generated revenues of $0.0 million, $4.7 million, and $18.4 million in 2002, 2001 and 2000, respectively. In 2000, the Company recorded provisions of approximately $2.0 million related to the write-down of inventory associated with these catalogs to their net realizable value based upon the planned liquidation of such inventory, and $0.7 million related to the acceleration of the amortization of prepaid catalog costs associated with the discontinuance of these catalogs' operations based upon their estimated realizability relative to the wind-down plan in 2001. At December 28, 2002, there was no inventory remaining for these catalog brands. 50 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 5. ACCRUED LIABILITIES Accrued liabilities consist of the following (in thousands):
DECEMBER 28, DECEMBER 29, 2002 2001 ------------ ------------ Special charges............................................. $ 3,327 $ 7,291 Reserve for future sales returns............................ 1,888 2,764 Compensation and benefits................................... 11,614 8,456 Income and other taxes...................................... 1,003 1,098 Litigation and other........................................ 8,519 5,523 ------- ------- Total.................................................. $26,351 $25,132 ======= =======
6. LONG-TERM DEBT Long-term debt consists of the following (in thousands):
DECEMBER 28, DECEMBER 29, 2002 2001 ------------ ------------ Congress Credit Facility.................................... $25,090 $29,599 Obligations under capital leases............................ 39 111 ------- ------- 25,129 29,710 Less: current portion..................................... 3,802 3,162 ------- ------- Total.................................................. $21,327 $26,548 ======= =======
Revolving Credit Facility -- On December 28, 2002, the Company's credit facility (the "Congress Credit Facility") with Congress Financial Corporation ("Congress") contained a maximum credit line, subject to certain limitations, of up to $82.5 million. The Congress Credit Facility, as amended, expires on January 31, 2004 and comprises a revolving loan facility, a $17.5 million Tranche A Term Loan, and a $8.4 million Tranche B Term Loan. Total cumulative borrowings under the Congress Credit Facility are subject to limitations based upon specified percentages of eligible receivables and eligible inventory, and the Company is required to maintain $3.0 million of excess credit availability at all times. The Congress Credit Facility is secured by all of the assets of the Company and places restrictions on the incurrence of additional indebtedness and on the payment of common stock dividends. Management will be required to successfully renegotiate the renewal of the Congress Credit Facility or successfully replace the facility with another institution. Under the Congress Credit Facility, the Company is required to maintain minimum net worth, working capital and EBITDA as defined throughout the terms of the agreement. As of December 28, 2002, the Company was in compliance with these covenants. In March 2002, the Company amended the Congress Credit Facility to amend the definition of Consolidated Net Worth such that, effective July 1, 2002, to the extent that any goodwill or intangible assets of the Company and its subsidiaries were deemed to be impaired under the provisions of SFAS 142, such write-off of assets would not be considered a reduction of total assets for the purposes of computing consolidated net worth. The Company obtained the services of an independent appraisal firm during the second quarter ended June 29, 2002 to evaluate whether there had been any goodwill transition impairment. The results of the appraisal indicated no goodwill transition impairment based upon the requirements set forth in SFAS 142. The covenants relating to consolidated net working capital, consolidated net worth and EBITDA and certain non-cash charges were also amended. The amendment required the payment of a fee of $100,000 by the Company. 51 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) On August 16, 2002, the Company amended the Congress Credit Facility to (i) extend the term of the Tranche B Term Loan to January 31, 2004, (ii) increase by $3,500,000 the borrowing reflected by the Tranche B Term Note to $8,410,714, and (iii) make certain related technical amendments to the Congress Credit Facility. The amendment required the payment of fees in the amount of $410,000 by the Company. In December 2002, the Company amended the Congress Credit Facility to amend the definitions of "Consolidated Net Income," "Consolidated Net Worth" and "Consolidated Working Capital" to make certain adjustments thereto, depending on the results of the Kaul litigation, to permit the payment to Richemont of certain United States withholding taxes payable to Richemont in connection with the Series B Preferred Stock, and to change certain borrowing sublimits. The consolidated working capital, consolidated net worth and EBITDA covenants were also established through the end of the term of the facility, and certain technical amendments relating to the reorganization of certain of the Company's subsidiaries were made. The amendment required the payment of fees in the amount of $110,000 by the Company. In February 2003, the Company amended the Congress Credit Facility to amend the existing change in control Event of Default. The existing change in control Event of Default under the Congress Credit Facility is based upon NAR Group Limited, a former shareholder of the Company, ceasing to be the direct or indirect beneficial owner of a sufficient number of issued and outstanding shares of capital stock of the Company on a fully diluted basis to elect a majority of the members of the Company's Board of Directors. This was replaced during February 2003 with a new change in control Event of Default, which is patterned on the Change In Control concepts in the Company's various Key Executive Compensation Continuation Plans. The new Event of Default would be triggered by certain transfers of assets, certain liquidations or dissolutions, the acquisition by a person or group (other than a Permitted Holder, as defined) of a majority of the total outstanding voting stock of the Company, and certain changes in the composition of the Company's Board of Directors. As of December 28, 2002, the Company had $25.1 million of cumulative borrowings outstanding under the Congress Credit Facility, comprising $8.8 million under the Revolving Loan Facility, bearing an interest rate of 4.75%, $8.5 million under the Tranche A Term Loan, bearing an interest rate of 5.0%, and $7.8 million under the Tranche B Term Loan, bearing an interest rate of 13.0%. Of the aggregate borrowings, $3.8 million is classified as short-term with $21.3 million classified as long-term on the Company's Consolidated Balance Sheet. As of December 29, 2001, the Company had $29.6 million of borrowings outstanding under the Congress Credit Facility comprising $13.5 million under the revolving loan facility, bearing an interest rate of 5.25%, and $10.5 million, bearing an interest rate of 5.50%, and $5.6 million, bearing an interest rate of 13.00%, of Tranche A Term Loans and Tranche B Term Loans, respectively. The revolving loan facility bears interest at prime plus 0.5% or Eurodollar plus 2.5%, the Tranche A Term Loans bear interest at prime plus 0.75% or Eurodollar plus 3.5%, and the Tranche B Term Loans bear interest at prime plus 4.25%, but in no event less than 13.0%. Achievement of the Company's strategic business realignment program is critical to the maintenance of adequate liquidity, as is compliance with the terms and provisions of the Congress Credit Facility and the Company's ability to operate effectively during the 2003 fiscal year. In the event of a softer than expected economic climate, management has available several courses of action to maintain liquidity and help maintain compliance with financial covenants, including selective reductions in catalog circulation, additional expense reductions and sales of non-core assets. General -- At December 28, 2002, the aggregate annual principal payments required on debt instruments are as follows (in thousands): 2003 -- $3,802; 2004 -- $21,308; 2005 -- $10; 2006 -- $5; and thereafter -- $4. Management will be required to successfully renegotiate the renewal of the Congress Credit Facility or successfully replace the facility with another institution. 52 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 7. SERIES A CUMULATIVE PARTICIPATING PREFERRED STOCK On August 24, 2000, the Company issued 1.4 million shares of preferred stock designated as Series A Cumulative Participating Preferred Stock (the "Series A Preferred Stock") to Richemont, the then holder of approximately 47.9% of the Company's Common Stock, for $70 million. The Series A Preferred Stock had a par value of $0.01 per share and a liquidation preference of $50.00 per share and was recorded net of issuance costs of $2.3 million. The issuance costs were being accreted as an additional dividend over a five-year period ending on the mandatory redemption date. Dividends were cumulative and accrued at an annual rate of 15%, or $7.50 per share, and were payable quarterly either in cash or in-kind through the issuance of additional Series A Preferred Stock. Cash dividend payments were required for dividend payment dates occurring after February 1, 2004. As of September 30, 2001, the Company accrued dividends of $12,389,700, and reserved 247,794 additional shares of Series A Preferred Stock for the payment of such dividends. In-kind dividends and issuance cost accretion were charged against additional paid-in capital, with a corresponding increase in the carrying amount of the Series A Preferred Stock. Cash dividends were also reflected as a charge to additional paid-in capital, however, no adjustment to the carrying amount of the Series A Preferred Stock was made. The Series A Preferred Stock was generally non-voting, except if dividends had been in arrears and unpaid for four quarterly periods, whether or not consecutive. The holder of the Series A Preferred Stock was entitled to receive additional participating dividends in the event any dividends were declared or paid, or any other distribution was made, with respect to the Common Stock of the Company. The additional dividends would be equal to the applicable percentage of the amount of the dividends or distributions payable in respect of one share of Common Stock. In the event of a liquidation or dissolution of the Company, the holder of the Series A Preferred Stock would be paid an amount equal to $50.00 per share of Series A Preferred Stock plus the amount of any accrued and unpaid dividends, before any payments to other shareholders. The Company could redeem the Series A Preferred Stock in whole at any time and the holder of the Series A Preferred Stock could elect to cause the Company to redeem all or any of such holder's Series A Preferred Stock under certain circumstances involving a change of control, asset disposition or equity sale. Mandatory redemption of the Series A Preferred Stock by the Company was required on August 23, 2005 (the "Final Redemption Date") at a redemption price of $50.00 per share of Series A Preferred Stock plus the amount of any accrued and unpaid dividends. On December 19, 2001, the Company consummated a transaction with Richemont (the "Richemont Transaction"). In the Richemont Transaction, the Company repurchased from Richemont all of the outstanding shares of the Series A Preferred Stock and 74,098,769 shares of the Common Stock of the Company held by Richemont in return for the issuance to Richemont of 1,622,111 shares of newly-created Series B Participating Preferred Stock (the "Series B Preferred Stock") and the reimbursement of expenses of $1 million to Richemont. Richemont agreed, as part of the transaction, to forego any claim it had to the accrued but unpaid dividends on the Series A Preferred Stock. The Richemont Transaction was made pursuant to an Agreement (the "Agreement"), dated as of December 19, 2001, between the Company and Richemont. As part of the Richemont Transaction, the Company (i) released Richemont, the individuals appointed by Richemont to the Board of Directors of the Company and certain of their respective affiliates and representatives (collectively, the "Richemont Group") from any claims by or in the right of the Company against any member of the Richemont Group which arise out of Richemont's acts or omissions as a stockholder of or lender to the Company or the acts or omissions of any Richemont board designee in his capacity as such and (ii) entered into an Indemnification Agreement (the "Indemnification Agreement") with Richemont pursuant to which the Company agreed to indemnify each member of the Richemont Group from any losses suffered as a result of any third party claim which is based upon Richemont's acts as a stockholder of or lender to the Company or the acts or omissions of any Richemont board designee in his capacity as such. The Indemnification Agreement is not limited as to term and does not include any limitations on maximum future payments thereunder. The impact of the Richemont Transaction was to reflect the reduction of the Series A Preferred Stock for the then carrying amount of $82.4 million and the issuance of Series B Preferred Stock in the amount of $76.8 million which was equal to the aggregate liquidation 53 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) preference of the Series B Preferred Stock on December 19, 2001. In addition, the par value of $49.4 million of the Common Stock repurchased by the Company and subsequently retired was reflected as a reduction of Common Stock, with an offsetting increase to capital in excess of par value. The Company recorded a net decrease in shareholders' deficiency of $5.6 million as a result of the Richemont Transaction. The shares of the Series A Preferred Stock that were repurchased from Richemont represented all of the outstanding shares of such series. The Company has filed a certificate in Delaware eliminating the Series A Preferred Stock from its certificate of incorporation. 8. SERIES B CUMULATIVE PARTICIPATING PREFERRED STOCK On December 19, 2001, as part of the Richemont Transaction, the Company issued to Richemont 1,622,111 shares of Series B Participating Preferred Stock. The Series B Preferred Stock has a par value of $0.01 per share. The holders of the Series B Preferred Stock are entitled to ten votes per share on any matter on which the Common Stock votes. In addition, in the event that the Company defaults on its obligations arising in connection with the Richemont Transaction, the Certificate of Designations of the Series B Preferred Stock or its agreements with Congress, or in the event that the Company fails to redeem at least 811,056 shares of Series B Preferred Stock by August 31, 2003, then the holders of the Series B Preferred Stock, voting as a class, shall be entitled to elect two members to the Board of Directors of the Company. In the event of the liquidation, dissolution or winding up of the Company, the holders of the Series B Preferred Stock are entitled to a liquidation preference (the "Liquidation Preference"), which was initially $47.36 per share. During each period set forth in the table below, the Liquidation Preference shall equal the amount set forth opposite such period:
LIQUIDATION PREFERENCE PERIOD PER SHARE TOTAL VALUE - ------ ----------- --------------- March 1, 2002 -- May 31, 2002............................ $49.15 $ 79,726,755.65 June 1, 2002 -- August 31, 2002.......................... $51.31 $ 83,230,515.41 September 1, 2002 - November 30, 2002.................... $53.89 $ 87,415,561.79 December 1, 2002 -- February 28, 2003.................... $56.95 $ 92,379,221.45 March 1, 2003 -- May 31, 2003............................ $60.54 $ 98,202,599.94 June 1, 2003 -- August 31, 2003.......................... $64.74 $105,015,466.14 September 1, 2003 -- November 30, 2003................... $69.64 $112,963,810.04 December 1, 2003 -- February 29, 2004.................... $72.25 $117,197,519.75 March 1, 2004 -- May 31, 2004............................ $74.96 $121,593,440.56 June 1, 2004 -- August 31, 2004.......................... $77.77 $126,151,572.47 September 1, 2004 -- November 30, 2004................... $80.69 $130,888,136.59 December 1, 2004 -- February 28, 2005.................... $83.72 $135,803,132.92 March 1, 2005 -- May 31, 2005............................ $86.85 $140,880,340.35 June 1, 2005 -- August 23, 2005.......................... $90.11 $146,168,422.21
As a result, beginning November 30, 2003, the aggregate Liquidation Preference of the Series B Preferred Stock will be effectively equal to the aggregate liquidation preference of the Class A Preferred Stock previously held by Richemont (See Note 7). For each increase in liquidation preference, the Company will reflect the change as an increase in the Series B Preferred Stock with a corresponding reduction in capital in excess of par value. Such accretion will be recorded as a reduction of net income available to common shareholders. 54 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Dividends on the Series B Preferred Stock are required to be paid whenever a dividend is declared on the Common Stock. The amount of any dividend on the Series B Preferred Stock shall be determined by multiplying (i) the amount obtained by dividing the amount of the dividend on the Common Stock by the then current fair market value of a share of Common Stock and (ii) the Liquidation Preference of the Series B Preferred Stock. The Series B Preferred Stock must be redeemed by the Company on August 23, 2005 consistent with Delaware General Corporation Law. The Company may redeem all or less than all of the then outstanding shares of Series B Preferred Stock at any time prior to that date. At the option of the holders thereof, the Company must redeem the Series B Preferred Stock upon a Change of Control or upon the consummation of an Asset Disposition or Equity Sale (all as defined in the Certificate of Designations of the Series B Preferred Stock). The redemption price for the Series B Preferred Stock upon a Change of Control or upon the consummation of an Asset Disposition or Equity Sale is the then applicable Liquidation Preference of the Series B Preferred Stock plus the amount of any declared but unpaid dividends on the Series B Preferred Stock. The Company's obligation to redeem the Series B Preferred Stock upon an Asset Disposition or an Equity Sale is subject to the satisfaction of certain conditions set forth in the Certificate of Designations of the Series B Preferred Stock. The Certificate of Designations of the Series B Preferred Stock provides that, for so long as Richemont is the holder of at least 25% of the then outstanding shares of Series B Preferred Stock, it shall be entitled to appoint a non-voting observer to attend all meetings of the Board of Directors and any committees thereof. To date, Richemont has not appointed such an observer. Pursuant to the terms of the Certificate of Designations of the Series B Preferred Stock, the Company's obligation to pay dividends on or redeem the Series B Preferred Stock is subject to its compliance with its agreements with Congress. During autumn 2002, Company management conducted a strategic review of the Company's business and operations. As part of such review, Company management considered the Company's obligations under the Richemont Agreement and the Company's prospects and options for redemption of the Series B Preferred Shares issued to Richemont pursuant thereto in accordance with the Richemont Agreement terms. The review took into account the results of the Company's strategic business realignment program in 2001 and 2002, the relative strengths and weaknesses of the Company's competitive position and the economic and business climate, including the depressed business environment for mergers and acquisitions. As a result of this review, Company management and the Company's Board of Directors have concluded that it is unlikely that the Company will be able to accumulate sufficient capital, surplus, or other assets under Delaware corporate law or to obtain sufficient debt financing to either: 1. Redeem at least 811,056 shares of the Series B Preferred Stock by August 31, 2003, as allowed for by the Richemont Agreement, thereby resulting in the occurrence of a "Voting Trigger" which will allow Richemont to have the option of electing two members to the Company's Board of Directors; or 2. Redeem all of the shares of Series B Preferred Stock by August 31, 2005, as required by the Richemont Agreement, thereby obligating the Company to take all measures permitted under the Delaware General Corporation Law to increase the amount of its capital and surplus legally available to redeem the Series B Preferred Shares, without a material improvement in either the business environment for mergers and acquisitions or other factors, unforeseeable at the time. Management believes that the Company has sufficient liquidity and availability under its credit agreement to fund its planned operations through at least January 31, 2004. The unlikelihood that the Company will be able to redeem the Series B Preferred Shares is not expected to limit the ability of the Company to use current and future net earnings or cash flow to satisfy its obligations to creditors and vendors. In addition, the redemption price of the Series B Preferred Stock does not accrete after August 31, 2005. 55 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Company management met with representatives of Richemont on October 30, 2002 and outlined the results of management's strategic review in the context of the Company's obligations to Richemont under the Richemont Agreement, and discussed an alternative to the method for the redemption of the Series B Preferred Shares. Under this alternative proposal, that the Company had previously presented to Richemont, the Company would exchange two business divisions, Silhouettes and Gump's, for all of Richemont's Series B Preferred Shares (the "Proposal"). Pursuant to the terms of the Richemont Agreement, the redemption value of the Series B Preferred Shares as of the date of the Proposal was $87 million. Management based the Proposal terms on a valuation of Silhouettes and Gump's using the valuation multiple employed in USA Network's June 2001 purchase of the Company's Improvements business division. The Proposal also included a willingness on the part of the Company to provide continued fulfillment services for Silhouettes and Gump's on terms to be negotiated. On November 18, 2002, a representative of Richemont confirmed in writing to the Company that Richemont rejected the Proposal. Representatives of Richemont have indicated that it has no interest in the proffered assets and disputes their valuation implied in the Company's Proposal. The Company will continue to explore all reasonable opportunities to redeem and retire the Series B Preferred Stock. For Federal income tax purposes, the increases in the Liquidation Preference of the Series B Preferred Stock are considered distributions, by the Company to Richemont, deemed made on the commencement dates of the quarterly increases, as discussed above. These distributions may be taxable dividends to Richemont, provided the Company has accumulated or current earnings and profits ("E&P") for each year in which the distributions are deemed to be made. Under the terms of the Richemont Transaction, the Company is obligated to reimburse Richemont for any U.S. income tax incurred pursuant to the Richemont Transaction. Based on the Company's past income tax filings and its current income tax position, the Company has an E&P deficit as of December 28, 2002. Accordingly, the Company has not incurred a tax reimbursement obligation for year 2002. The Company must have current E&P in years 2003, 2004 or 2005 to incur a tax reimbursement obligation from the scheduled increases in Liquidation Preference. If the Company does not have current E&P in one of those years, no tax reimbursement obligation would exist for that particular year. The Company does not have the ability to project the exact future tax reimbursement obligation, however, it has estimated the potential obligation to be in the range of $0 to $23.1 million. 9. CAPITAL STOCK Richemont Transaction -- On December 19, 2001, as part of the Richemont Transaction, the Company repurchased from Richemont 74,098,759 shares of the Common Stock of the Company held by Richemont. As part of the transaction, Richemont revoked the proxy that it then held to vote 4,289,000 shares of Common Stock, which were owned by a third party. General -- At December 28, 2002 and December 29, 2001, there were 140,436,729 and 140,336,729 shares of Common Stock issued and outstanding (net of treasury shares), respectively. Additionally, an aggregate of 14,650,270 shares of Common Stock were reserved for issuance pursuant to the exercise of outstanding options at December 28, 2002. Treasury stock consisted of 2,120,929 and 2,100,929 shares of Common Stock at December 28, 2002 and December 29, 2001, respectively. During fiscal year 2002 and 2001, the Company retained 20,000 and 1,530,000 shares, respectively, of outstanding Common Stock held in escrow on behalf of certain participants in the Company's Executive Equity Incentive Plan whose rights, under the terms of the plan, expired during 2002 and 2001. Dividend Restrictions -- The Company is restricted from paying dividends on its Common Stock or from acquiring its capital stock by certain debt covenants contained in agreements to which the Company is a party. 56 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 10. SEGMENT REPORTING In prior years the Company reported two separate operating and reporting segments: direct commerce and business-to-business ("B-to-B") e-commerce transaction services. In conjunction with the Company's previously announced strategic business realignment program, the Company has (1) terminated an intercompany services agreement effective December 30, 2000, (2) ceased the Desius LLC business operations and (3) closed the leased fulfillment and telemarketing facility in Maumelle, Arkansas. As a result of these actions, the Company's business-to-business revenues from fiscal 2001 and beyond are expected to be reduced and for the foreseeable future will be limited to third party clients serviced by Keystone Internet Services, LLC. Taken in conjunction with the Company's announced intention to direct resources primarily towards growth in core brands, these actions have caused the Company, pursuant to SFAS 131, to report results for the consolidated operations of Hanover Direct, Inc. as one segment commencing in fiscal year 2001. 11. CHANGES IN MANAGEMENT AND EMPLOYMENT Shull Employment Agreement. Effective December 5, 2000, Thomas C. Shull, Meridian Ventures, LLC, a limited liability company controlled by Mr. Shull ("Meridian"), and the Company entered into a Services Agreement (the "December 2000 Services Agreement"). The December 2000 Services Agreement was replaced by a subsequent services agreement, dated as of August 1, 2001 (the "August 2001 Services Agreement"), among Mr. Shull, Meridian and the Company, and a Services Agreement, dated as of December 14, 2001 (the "2001 Services Agreement"), among Mr. Shull, Meridian, and the Company. The 2001 Services Agreement was replaced effective September 1, 2002 by an Employment Agreement between Mr. Shull and the Company, dated as of September 1, 2002, as amended by Amendment No. 1 thereto dated as of September 1, 2002 (as amended, the "2002 Employment Agreement"), pursuant to which Mr. Shull is employed by the Company as its President and Chief Executive Officer, as described below. The term of the 2002 Employment Agreement began on September 1, 2002 and will terminate on September 30, 2004 (the "Shull Employment Agreement Term"). Under the 2002 Employment Agreement, Mr. Shull is to receive from the Company base compensation equal to $900,000 per annum, payable at the rate of $75,000 per month ("Base Compensation"). Mr. Shull is to be provided with participation in the Company's employee benefit plans, including but not limited to the Company's Key Executive Eighteen Month Compensation Continuation Plan (the "Change of Control Plan") and its transaction bonus program. The Company is also to reimburse Mr. Shull for his reasonable out-of-pocket expenses incurred in connection with his employment by the Company. Under the 2002 Employment Agreement, the Company paid the remaining unpaid $300,000 of Mr. Shull's fiscal 2001 bonus under the Company's 2001 Management Incentive Plan in December 2002. Mr. Shull shall receive the same bonus amount for fiscal 2002 under the Company's 2002 Management Incentive Plan as all other Level 8 participants (as defined in such plan) receive under such plan for such period, subject to all of the terms and conditions applicable generally to Level 8 participants thereunder. Mr. Shull shall earn annual bonuses for fiscal 2003 and 2004 under such plans as the Company's Compensation Committee may approve in a manner consistent with bonuses awarded to other senior executives under such plans. Under the 2002 Employment Agreement, the Company made two installment payments in September and November to satisfy the obligation of $450,000 to Mr. Shull previously due to be paid to Meridian on June 30, 2002. In addition, the Company has agreed to make two equal lump sum cash payments of $225,000 each to Mr. Shull on March 31, 2003 and September 30, 2004, provided the 2002 Employment Agreement has not terminated due to Willful Misconduct (as defined in the 2002 Employment Agreement) or material breach thereof by Mr. Shull, or Mr. Shull's death or permanent disability. Such payments shall be made notwithstanding any other termination of the Employment Agreement on or prior to such date or as a result of another event constituting a Change of Control. 57 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Under the 2002 Employment Agreement, upon the closing of any transaction which constitutes a "change of control" thereunder, provided that Mr. Shull is then employed by the Company, the Company will be required to make a lump sum cash payment to Mr. Shull on the date of such closing pursuant to the Change of Control Plan, the Company's transaction bonus program and the Company's Management Incentive Plans for the applicable fiscal year. Any such lump sum payment would be in lieu of (i) any cash payment under the 2002 Employment Agreement as a result of a termination thereof upon the first day after the acquisition of the Company (whether by merger or the acquisition of all of its outstanding capital stock) or the tenth day after the sale or any series of sales since April 27, 2001 involving an aggregate of 50% or more of the market value of the Company's assets (for this purpose under the 2002 Employment Agreement, such 50% amount shall be deemed to be $107.6 million), and (ii) the aggregate amount of Base Compensation to which Mr. Shull would have otherwise been entitled through the end of the Shull Employment Agreement Term. Under the 2002 Employment Agreement, additional amounts are payable to Mr. Shull by the Company under certain circumstances upon the termination of the 2002 Employment Agreement. If the termination is on account of the expiration of the 2002 Employment Agreement Term, Mr. Shull shall be entitled to receive such amount of bonus as may be payable pursuant to the Company's applicable bonus plan as well as employee benefits such as accrued vacation and insurance in accordance with the Company's customary practice. If the termination is on account of the Company's material breach of the 2002 Employment Agreement or the Company's termination of the 2002 Employment Agreement where there has been no Willful Misconduct (as defined in the 2002 Employment Agreement) or material breach thereof by Mr. Shull, Mr. Shull shall be entitled to receive (i) a lump sum payment equal to the aggregate amount of Base Compensation to which he would have otherwise been entitled through the end of the 2002 Employment Agreement Term (not to exceed 18 months of such Base Compensation), plus (ii) such additional amount, if any, in severance pay which, when combined with the amount payable pursuant to clause (i) equals 18 months of Base Compensation and such amount of bonus as may be payable pursuant to the Company's 2002 Management Incentive Plan or other bonus plan, as applicable (based upon the termination date and the terms and conditions of the applicable bonus plan), as described in paragraph 4(b), as well as such amounts as may be unpaid under the second preceding paragraph and employee benefits such as accrued vacation and insurance in accordance with the Company's customary practice. If the termination is on account of the acquisition of the Company (whether by merger or the acquisition of all of its outstanding capital stock) or the sale or any series of sales since April 27, 2001 involving an aggregate of 50% or more of the market value of the Company's assets (for this purpose under the 2002 Employment Agreement, such 50% amount shall be deemed to be $107.6 million) and the amount realized in the transaction is less than $0.50 per common share (or the equivalent of $0.50 per common share), and if and only if the Change of Control Plan shall not then be in effect, Mr. Shull shall be entitled to receive a lump sum payment equal to the aggregate amount of Base Compensation to which he would have otherwise been entitled through the end of the Shull Employment Agreement Term. If the termination is on account of the acquisition of the Company (whether by merger or the acquisition of all of its outstanding capital stock) or the sale or any series of sales since April 27, 2001 involving an aggregate of 50% or more of the market value of the Company's assets (for this purpose under the 2002 Employment Agreement, such 50% amount shall be deemed to be $107.6 million) and the amount realized in the transaction equals or exceeds $0.50 per common share (or the equivalent of $0.50 per common share), and if and only if the Change of Control Plan shall not then be in effect, Mr. Shull shall be entitled to receive a lump sum payment equal to the greater of the Base Compensation to which he would have otherwise been entitled through the end of the Shull Employment Agreement Term or $1,000,000. If the termination is on account of an acquisition or sale of the Company (whether by merger or the acquisition of all of its outstanding capital stock) or the sale or any series of sales since April 27, 2001 involving an aggregate of 50% or more of the market value of the Company's assets (for this purpose under the 2002 Employment Agreement, such 50% amount shall be deemed to be $107.6 million) and the Change of Control Plan shall then be in effect, Mr. Shull shall only be entitled to receive his benefit under the Change of Control Plan. 58 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Under the 2002 Employment Agreement, the Company is required to maintain directors' and officers' liability insurance for Mr. Shull during the 2002 Employment Agreement Term. The Company is also required to indemnify Mr. Shull in certain circumstances. Amended Thomas C. Shull Stock Option Award Agreements. During December 2000, the Company entered into a stock option agreement with Thomas C. Shull to evidence the grant to Mr. Shull of an option to purchase 2.7 million shares of the Company's common stock (the "Shull 2000 Stock Option Agreement"). Effective as of September 1, 2002, the Company has amended the Shull 2000 Stock Option Agreement to (i) extend the final expiration date for the stock option under the Shull 2000 Stock Option Agreement to June 30, 2005, and (ii) replace all references therein to the December 2000 Services Agreement with references to the 2002 Employment Agreement. During December 2001, the Company entered into a stock option agreement with Mr. Shull to evidence the grant to Mr. Shull of an option to purchase 500,000 shares of the Company's common stock under the Company's 2000 Management Stock Option Plan (the "Shull 2001 Stock Option Agreement"). Effective as of September 1, 2002, the Company has amended the Shull 2001 Stock Option Agreement to (i) provide that any shares purchased by Mr. Shull under the Shull 2001 Stock Option Agreement would not be saleable until September 30, 2004, and (ii) replace all references therein to the 2001 Services Agreement with references to the 2002 Employment Agreement. Amended Thomas C. Shull Transaction Bonus Letter. During May 2001, Thomas C. Shull entered into a letter agreement with the Company (the "Shull Transaction Bonus Letter") under which he would be paid a bonus on the occurrence of certain transactions involving the sale of certain of the Company's businesses. Effective as of September 1, 2002, the Company has amended the Shull Transaction Bonus Letter to (i) increase the amount of Shull's agreed to base salary for purposes of the transaction bonus payable thereunder from $600,000 to $900,000, and (ii) replace all references therein to the December 2000 Services Agreement with references to the 2002 Employment Agreement. Issuance of Stock Options. On August 8, 2002, the Company issued options to purchase 3,750,000 shares of the Company's Common Stock to certain Management Incentive Plan ("MIP") Level 7 and 8 employees, including various executive officers, at a price of $0.24 per share under the Company's 2000 Management Stock Option Plan. In addition, on August 8, 2002, the Company authorized the President to grant options to purchase up to an aggregate of 1,045,000 and 1,366,000 shares of the Company's Common Stock to certain MIP Level 4 and MIP Level 5 and 6 employees, respectively, at a price of $0.24 per share under the Company's 2000 Management Stock Option Plan. On October 2, 2002, the Company issued options to purchase 600,000 shares of the Company's Common Stock to an Executive Vice President at a price of $0.27 per share under the Company's 2000 Management Stock Option Plan. Charles F. Messina. During September 2002, Charles F. Messina resigned as Executive Vice President, Chief Administrative Officer and Secretary of the Company. In connection with such resignation, the Company and Mr. Messina entered into a severance agreement dated September 30, 2002 providing for cash payments of $884,500 and other benefits that were accrued in the fourth quarter of 2002. Brian C. Harriss. Brian C. Harriss was appointed Executive Vice President -- Human Resources and Legal and Secretary of the Company effective December 2, 2002. Prior to January 2002, Mr. Harriss had served the Company as Executive Vice President and Chief Financial Officer. In connection with such appointment, Mr. Harriss and the Company have terminated a severance agreement entered into during January 2002 at the time of Mr. Harriss's resignation from the Company, and Mr. Harriss has waived his rights to certain payments under such severance agreement. Other Executives. In October 2002, the Company entered into arrangements with Edward M. Lambert, Brian C. Harriss and Michael D. Contino (the "Compensation Continuation Agreements") pursuant to which it agreed to provide eighteen months of severance pay, COBRA reimbursement and Exec-U-Care plan 59 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) coverage in the event their employment with the Company is terminated either by the Company "For Cause" or by them "For Good Reason" (as such terms are defined). On November 6, 2002, the Company entered into an arrangement with Frank Lengers pursuant to which it agreed to provide twelve months of severance pay, COBRA reimbursement and Exec-U-Care plan coverage in the event his employment with the Company is terminated either by the Company "For Cause" or by Mr. Lengers "For Good Reason" (as such terms are defined). Hanover Direct, Inc. Key Executive Eighteen-Month Compensation Continuation Plan. Effective April 27, 2001, the Company terminated the Hanover Direct, Inc. Key Executive Thirty-Six Month Compensation Continuation Plan and the Hanover Direct, Inc. Key Executive Twenty-Four Month Compensation Plan. Effective April 27, 2001, the Company established the Hanover Direct, Inc. Key Executive Eighteen Month Compensation Continuation Plan (the "Executive Plan") for its Chief Executive Officer, corporate executive vice presidents, corporate senior vice presidents, strategic unit presidents, and other employees selected by its Chief Executive Officer. The purpose of the Executive Plan is to attract and retain key management personnel by reducing uncertainty and providing greater personal security in the event of a Change of Control. For purposes of the Executive Plan, a "Change of Control" will occur: (i) when any person becomes, through an acquisition, the beneficial owner of shares of the Company having at least 50% of the total number of votes that may be cast for the election of directors of the Company (the "Voting Shares"); provided, however, that the following acquisitions shall not constitute a Change of Control: (a) if a person owns less than 50% of the voting power of the Company and that person's ownership increases above 50% solely by virtue of an acquisition of stock by the Company, then no Change of Control will have occurred, unless and until that person subsequently acquires one or more additional shares representing voting power of the Company; or (b) any acquisition by a person who as of the date of the establishment of the Executive Plan owned at least 33% of the Voting Shares; (ii)(a) notwithstanding the foregoing, a Change of Control will occur when the shareholders of the Company approve any of the following (each, a "Transaction"): (I) any reorganization, merger, consolidation or other business combination of the Company; (II) any sale of 50% or more of the market value of the Company's assets (for this purpose, 50% is deemed to be $107.6 million; or (III) a complete liquidation or dissolution of the Company; (b) notwithstanding (ii)(a), shareholder approval of either of the following types of Transactions will not give rise to a Change of Control: (I) a Transaction involving only the Company and one or more of its subsidiaries; or (II) a Transaction immediately following which the shareholders of the Company immediately prior to the Transaction continue to have a majority of the voting power in the resulting entity; (iii) when, within any 24 month period, persons who were directors of the Company (each, a "Director") immediately before the beginning of such period (the "Incumbent Directors") cease (for any reason other than death or disability) to constitute at least a majority of the Board of Directors or the board of directors of any successor to the Company (For purposes of (iii), any Director who was not a Director as of the effective date of the Executive Plan will be deemed to be an Incumbent Director if such Director was elected to the Board of Directors by, or on the recommendation of, or with the approval of, at least a majority of the members of the Board of Directors or the nominating committee who, at the time of the vote, qualified as Incumbent Directors either actually or by prior operation of (iii), and any persons (and their successors from time to time) who are designated by a holder of 33% or more of the Voting Shares to stand for election and serve as Directors in lieu of other such designees serving as Directors on the effective date of the Executive Plan shall be considered Incumbent Directors. Notwithstanding the foregoing, any director elected to the Board of Directors to avoid or settle a threatened or actual proxy contest shall not, under any circumstances, be deemed to be an Incumbent Director); or (iv) when the Company sells, assigns or transfers more than 50% of its interest in, or the assets of, one or more of its subsidiaries (each, a "Sold Subsidiary" and, collectively, the "Sold Subsidiaries"); provided, however, that such a sale, assignment or transfer will constitute a Change of Control only for: (a) the Executive Plan participants who are employees of that Sold Subsidiary; and (b) the Executive Plan participants who are employees of a direct or indirect parent company of one or more Sold Subsidiaries, and then only if: (I) the gross assets of such parent company's Sold Subsidiaries constitute more than 50% of the gross assets of such parent company (calculated on a consolidated basis with the direct and indirect subsidiaries of such parent 60 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) company and with reference to the most recent balance sheets of the Sold Subsidiaries and the parent company); (II) the property, plant and equipment of such parent company's Sold Subsidiaries constitute more than 50% of the property, plant and equipment of such parent company (calculated on a consolidated basis with the direct and indirect subsidiaries of such parent company and with reference to the most recent balance sheets of the Sold Subsidiaries and the parent company); or (III) in the case of a publicly-traded parent company, the ratio (as of the date a binding agreement for the sale is entered) of (x) the capitalization (based on the sale price) of such parent company's Sold Subsidiaries, to (y) the market capitalization of such parent company, is greater than 0.50. (For purposes of (iv), a Transaction shall be deemed to involve the sale of more than 50% of a company's assets if: (a) the gross assets being sold constitute more than 50% of the gross assets of the Company as stated on the most recent balance sheet of the Company; (b) the property, plant and equipment being sold constitute more than 50% of the property, plant and equipment of the Company as stated on the most recent balance sheet of the Company; or (c) in the case of a publicly-traded company, the ratio (as of the date a binding agreement for the sale is entered) of (x) the capitalization (based on the sale price) of the division, subsidiary or business unit being sold, to (y) the market capitalization of the Company, is greater than 0.50. For purposes of this (iv), no Change of Control will be deemed to have occurred if, immediately following a sale, assignment or transfer by the Company of more than 50% of its interest in, or the assets of, a Sold Subsidiary, any shareholder of the Company owning 33% or more of the voting power of the Company immediately prior to such transactions, owns no less than the equivalent percentage of the voting power of the Sold Subsidiary.) Under the Executive Plan, an Executive Plan participant shall be entitled to Change of Control Benefits under the Executive Plan solely if there occurs a Change of Control and thereafter the Company terminates his/her employment other than For Cause (as defined in the Executive Plan) or the participant voluntarily terminates his/her employment with the Company For Good Reason (as defined in the Executive Plan), in either case, solely during the 2-year period immediately following the Change of Control. A participant will not be entitled to Change of Control Benefits under the Executive Plan if: (i) he/she voluntarily terminates his/her employment with the Company or has his/her employment with the Company terminated by the Company, in either case, prior to a Change of Control, (ii) he/she voluntarily terminates employment with the Company following a Change of Control but other than For Good Reason, (iii) he/she is terminated by the Company following a Change of Control For Cause, (iv) has his/her employment with the Company terminated solely on account of his/her death, (v) he/she voluntarily or involuntarily terminates his/her employment with the Company following a Change of Control as a result of his/her Disability (as defined in the Executive Plan), or (vi) his/her employment with the Company is terminated by the Company upon or following a Change of Control but where he/she receives an offer of comparable employment, regardless of whether the participant accepts the offer of comparable employment. The Change of Control Benefits under the Executive Plan are as follows: (i) an amount equal to 18 months of the participant's annualized base salary; (ii) an amount equal to the product of 18 multiplied by the applicable monthly premium that would be charged by the Company for COBRA continuation coverage for the participant, the participant's spouse and the dependents of the participant under the Company's group health plan in which the participant was participating and with the coverage elected by the participant, in each case immediately prior to the time of the participant's termination of employment with the Company; (iii) an amount equal to 18 months of the participant's car allowance then in effect as of the date of the termination of the participant's employment with the Company; and (iv) an amount equal to the cost of 12 months of executive-level outplacement services at a major outplacement services firm. Transaction Bonus Letters. During May 2001, each of Charles F. Messina, Thomas C. Shull, Jeffrey Potts, Brian C. Harriss and Michael D. Contino, and during November 2002, each of Edward M. Lambert and Brian C. Harriss (each, a "Participant") entered into a letter agreement with the Company (a "Transaction Bonus Letter") under which the Participant would be paid a bonus on the occurrence of certain transactions involving the sale of certain of the Company's businesses. In addition, Mr. Shull is a party to a "Letter Agreement" with the Company, dated April 30, 2001, pursuant to which, following the termination of the 61 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) December 2000 Services Agreement, in the event he is terminated without cause during any period of his continued employment as the Chief Executive Officer of the Company, he shall be paid one year of his annual base salary (the "Shull Termination Payment"). Effective June 1, 2001, the Company amended the Executive Plan to provide that, notwithstanding anything to the contrary contained in the Executive Plan, Section 10.2 of the Executive Plan shall not be effective with respect to the payment of (i) a Participant's "Transaction Bonuses," and/or (ii) the Shull Termination Payment. The payment of any such "Transaction Bonus" to any of the Participants, and/or the payment of the Shull Termination Payment, shall be paid in addition to, and not in lieu of, any Change of Control Benefit payable to any Participant or Mr. Shull pursuant to the terms of the Executive Plan. In conjunction with his resignation as Executive Vice President and Chief Financial Officer, Mr. Harris has released any claims that he may have against the Company under his Transaction Bonus Letter. The remaining Transaction Bonus Letters, other than the Transaction Bonus Letter with Mr. Potts and Mr. Messina, remain in effect. Letter Agreement with Mr. Shull and Meridian. -- On April 30, 2001, Mr. Shull, Meridian and the Company entered into a letter agreement (the "Letter Agreement") specifying Mr. Shull's rights under the Executive Plan, which are discussed above. Under the Letter Agreement, Mr. Shull and Meridian agreed that, so long as the Executive Plan is in effect and Mr. Shull is a Participant thereunder, Meridian and Mr. Shull will accept the Change in Control Benefits provided for in the Executive Plan in lieu of the compensation contemplated by the December 2000 Services Agreement between them (which benefits amounts will not be offset against the December 2000 flat fee provided for in the December 2000 Services Agreement and shall be payable at such times and in such amounts as provided in the Executive Plan rather than in a lump sum payable within five business days after the termination date of the December 2000 Services Agreement as contemplated by the December 2000 Services Agreement). For purposes of the change in control benefits under the Executive Plan and the Letter Agreement, Mr. Shull's annualized base salary is $600,000. In addition to the benefits provided by the December 2000 Services Agreement, Mr. Shull and those persons named in the December 2000 Services Agreement shall also be entitled to the optional cash out of stock options as provided in the Executive Plan. Under the Letter Agreement, Mr. Shull is also entitled to payment of one year annual base salary in the event he is terminated without cause during any period of his continued employment as the Chief Executive Officer of the Company following the termination of the December 2000 Services Agreement. The participation and benefits to which Mr. Shull is entitled under the Executive Plan shall also survive the termination of the December 2000 Services Agreement pursuant to the terms thereof in the event that Mr. Shull is still employed as the Chief Executive Officer of the Company and is a Participant under the Executive Plan. Should the Executive Plan no longer be in effect or Mr. Shull no longer be a Participant thereunder, Meridian and Mr. Shull shall continue to be entitled to the compensation contemplated by the December 2000 Services Agreement. The Letter Agreement was superseded by the 2002 Employment Agreement. Hanover Direct, Inc. Directors Change of Control Plan. -- Effective May 3, 2001, the Company's Board of Directors established the Hanover Direct, Inc. Directors Change of Control Plan (the "Directors Plan") for all Directors of the Company except for (i) any Director who is also an employee of the Company for purposes of the Federal Insurance Contributions Act; or (ii) any persons (and their successors from time to time) who are designated by a holder of thirty-three percent (33%) or more of the Voting Shares to stand for election and serve as a Director. For purposes of the Directors Plan, a "Change of Control" will occur upon the occurrence of any of the events specified in item (i), (ii) or (iii) of the definition of "Change in Control" under the Executive Plan, as discussed above. A participant in the Directors Plan shall be entitled to receive a Change of Control Payment under the Directors Plan if there occurs a Change of Control and he/she is a Director on the effective date of such Change of Control. A Change of Control Payment under the Directors Plan shall be an amount equal to the greater of (i) $40,000 or (ii) 150% of the sum of the annual retainer fee, meeting fees and per diem fees paid to a Director for his/her service on the Board of Directors of the Company during the 12-month period immediately preceding the effective date of the Change of Control. 62 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2002 Directors' Option Plan. Effective January 1, 2002, the 2002 Stock Option Plan for Directors was amended to increase the annual service award for Directors who are not employees of the Company from 25,000 to 35,000 options to purchase shares of Common Stock. 12. EMPLOYEE BENEFIT PLANS The Company maintains several defined contribution (401-k) plans that are available to all employees of the Company and provide employees with the option of investing in the Company's Common Stock. The Company matches a percentage of employee contributions to the plans up to $10,000. Matching contributions for all plans were $0.5 million, $0.6 million and $0.8 million for fiscal years 2002, 2001 and 2000, respectively. 13. INCOME TAXES At December 28, 2002, the Company had net operating loss carry forwards ("NOLs") totaling $368.6 million, which expire as follows: 2003 -- $14.6 million, 2004 -- $14.3 million, 2005 -- $20.6 million, 2006 -- $46.9 million, 2007 -- $27.7 million, 2010 -- $24.6 million, 2011 -- $64.9 million, 2012 -- $30.0 million, 2018 -- $24.8 million, 2019 -- $19.6 million, 2020 -- $60.0 million, 2021 -- $8.6 million and 2022 -- $12.0 million. The Company's available NOL for tax purposes consists of $74.1 million of NOL subject to a $4.0 million annual limitation under Section 382 of the Internal Revenue Code of 1986 and $294.5 million of NOL not subject to a limitation. The unused portion of the $4.0 million annual limitation for any year may be carried forward to succeeding years to increase the annual limitation for those succeeding years. SFAS No. 109, "Accounting for Income Taxes," requires that the future tax benefit of such NOLs be recorded as an asset to the extent that management assesses the utilization of such NOLs to be "more-likely-than-not." Based upon the Company's assessment of numerous factors, including its future operating plans, management has reduced its estimate of the NOL that it believes the Company will be able to utilize. For the year ended December 28, 2002, the carrying value of the deferred tax asset was adjusted based on a reassessment of the Company's ability to utilize certain net operating losses prior to their expiration. Accordingly, management has reduced the net deferred tax asset to $11.3 million (net of a valuation allowance of $128.0 million and the $1.1 million deferred tax liability), as of December 28, 2002, from $15.0 million (net of a valuation allowance of $121.6 million), as of December 29, 2001 via a $3.7 million deferred Federal income tax provision. Management believes that the $12.4 million deferred tax asset (excluding the $1.1 million deferred tax liability) represents a "more-likely-than-not" estimate of the future utilization of the NOL and the reversal of temporary differences. Management will continue to routinely evaluate the likelihood of future profits and the necessity of future adjustments to the deferred tax asset valuation allowance. Realization of the future tax benefits is dependent on the Company's ability to generate taxable income within the carry forward period and the periods in which net temporary differences reverse. Future levels of operating income and taxable income are dependent upon general economic conditions, competitive pressures on sales and margins, postal and other delivery rates, and other factors beyond the Company's control. Accordingly, no assurance can be given that sufficient taxable income will be generated for utilization of NOLs and reversals of temporary differences. The Company's Federal income tax provision was $3.7 million of deferred income tax for 2002, and zero for fiscal 2001 and 2000. The Company's provision for state income taxes was $0.1 million in 2002, $0.1 million in 2001, and $0.2 million in 2000. 63 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) A reconciliation of the Company's net loss for financial statement purposes to taxable loss for the years ended December 28, 2002, December 29, 2001 and December 30, 2000 is as follows (in thousands):
YEAR ENDING ----------------------------- 2002 2001 2000 -------- ------- -------- Loss before income taxes.................................... $ (5,339) $(5,725) $(80,635) Differences between income before taxes for financial statement purposes and taxable income: State income taxes.......................................... (91) (120) (165) Permanent differences....................................... 4,248 1,986 7,484 Net change in temporary differences......................... (10,844) (4,737) 13,360 -------- ------- -------- Taxable loss................................................ $(12,026) $(8,596) $(59,956) ======== ======= ========
The components of the net deferred tax asset at December 28, 2002 are as follows (in millions):
NON- CURRENT CURRENT TOTAL ------- ------- ------ DEFERRED TAX ASSETS Federal tax NOL and business tax credit carry forwards...... $ 1.7 $127.5 $129.2 Allowance for doubtful accounts............................. 0.5 -- 0.5 Inventories................................................. 0.2 -- 0.2 Property and equipment...................................... -- 4.1 4.1 Mailing lists and trademarks................................ -- 0.3 0.3 Accrued liabilities......................................... 4.3 0.7 5.0 Customer prepayments and credits............................ 1.6 -- 1.6 Deferred gain on sale of Improvements catalog............... 0.7 -- 0.7 Deferred credits............................................ -- 1.5 1.5 Other....................................................... 0.4 -- 0.4 ----- ------ ------ Total....................................................... 9.4 134.1 143.5 Valuation allowance......................................... 7.6 120.4 128.0 ----- ------ ------ Deferred tax asset, net of valuation allowance.............. 1.8 13.7 15.5 DEFERRED TAX LIABILITIES Prepaid catalog costs....................................... (2.9) -- (2.9) Excess of net assets of acquired business................... -- (1.3) (1.3) ----- ------ ------ Total....................................................... (2.9) (1.3) (4.2) ----- ------ ------ Net deferred tax (liability) asset.......................... $(1.1) $ 12.4 $ 11.3 ===== ====== ======
The Company has established a valuation allowance for a portion of the deferred tax asset due to the limitation on the utilization of the NOL and the Company's estimate of the future utilization of the NOL. 64 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Tax expense for each of the three fiscal years presented differs from the amount computed by applying the Federal statutory tax rate due to the following:
2002 2001 2000 PERCENT PERCENT PERCENT OF PRE-TAX OF PRE-TAX OF PRE-TAX LOSS LOSS LOSS ---------- ---------- ---------- Tax benefit at Federal statutory rate....................... (35.0)% (35.0)% (35.0)% State and local taxes, net of Federal benefit............... 1.1 0.5 0.1 Permanent differences: $1 million salary limit and stock option compensation..... 23.9 3.4 1.8 Other permanent differences............................... 4.0 0.8 1.4 Change in valuation allowance............................... 77.0 31.1 31.9 ----- ----- ----- Tax benefit at effective tax rate........................... 71.0% 0.8% 0.2% ===== ===== =====
14. LEASES Certain leases to which the Company is a party provide for payment of real estate taxes and common area maintenance by the Company. Most leases are accounted for as operating leases and include various renewal options with specified minimum rentals. Rental expense for operating leases related to continuing operations, net of sublease income, was as follows (in thousands):
YEAR ENDED -------------------------- 2002 2001 2000 ------ ------- ------- Minimum rentals by lease type: Land and building......................................... $4,682 $ 6,030 $ 8,363 Computer equipment........................................ 3,516 4,510 4,987 Plant, office and other................................... 446 500 460 ------ ------- ------- Minimum rentals............................................. $8,644 $11,040 $13,810 Sublease income............................................. (53) (22) (13) ------ ------- ------- Net minimum rentals......................................... $8,591 $11,018 $13,797 ====== ======= =======
65 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Future minimum lease payments under non-cancelable operating and capital leases relating to continuing operations that have initial or remaining terms in excess of one year and which extend to 2010, together with the present value of the net minimum lease payments as of December 28, 2002, are as follows (in thousands):
OPERATING CAPITAL TOTAL YEAR ENDING LEASES LEASES LEASES - ----------- --------- ------- ------- 2003...................................................... $ 6,709 $13 $ 6,722 2004...................................................... 4,682 12 4,694 2005...................................................... 2,513 8 2,521 2006...................................................... 1,756 8 1,764 2007...................................................... 1,668 5 1,673 Thereafter (extending to 2010)............................ 3,614 0 3,614 ------- --- ------- Total minimum lease payments...................... $20,942 $46 $20,988 ======= ======= Less amount representing interest(a)...................... 7 --- Present value of minimum lease payments................... $39 ===
- --------------- (a) Amount necessary to reduce net minimum lease payments to present value calculated at the Company's incremental borrowing rate at the inception of the leases. Future minimum lease payments under non-cancelable operating leases by lease type as of December 28, 2002, are as follows (in thousands):
LAND PLANT, AND COMPUTER OFFICE AND YEAR ENDING BUILDINGS EQUIPMENT OTHER TOTAL - ----------- --------- --------- ---------- ------- 2003............................................... $ 4,622 $1,787 $300 $ 6,709 2004............................................... 3,900 590 192 4,682 2005............................................... 2,393 43 77 2,513 2006............................................... 1,748 -- 8 1,756 2007............................................... 1,668 -- -- 1,668 Thereafter......................................... 3,614 -- -- 3,614 ------- ------ ---- ------- Total minimum lease payments............... $17,945 $2,420 $577 $20,942 ======= ====== ==== =======
The Company has established reserves for certain future minimum lease payments under noncancelable operating leases due to restructuring of business operations related to such leases. The future commitments under such leases, net of related sublease income under noncancelable subleases, are as follows (in thousands):
MINIMUM LEASE SUBLEASE NET LEASE YEAR ENDING COMMITMENTS INCOME COMMITMENTS - ----------- ----------- -------- ----------- 2003.................................................... $ 3,260 $(1,232) $2,028 2004.................................................... 2,971 (984) 1,987 2005.................................................... 1,612 (431) 1,181 2006.................................................... 1,002 (196) 806 2007.................................................... 1,002 (120) 882 Thereafter.............................................. 2,172 (259) 1,913 ------- ------- ------ Total minimum lease payments.................... $12,019 $(3,222) $8,797 ======= ======= ======
66 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The future minimum lease payments under non-cancelable leases that remain from the Company's discontinued restaurant operations as of December 28, 2002 are as follows (in thousands):
MINIMUM LEASE SUBLEASE YEAR ENDING PAYMENTS INCOME - ----------- -------- -------- 2003...................................................... $ 476 $ (419) 2004...................................................... 476 (416) 2005...................................................... 381 (341) 2006...................................................... 72 (87) ------ ------- Total minimum lease payments...................... $1,405 $(1,263) ====== =======
15. STOCK-BASED COMPENSATION PLANS The Company has established several stock-based compensation plans for the benefit of its officers and employees. As discussed in the Summary of Significant Accounting Policies (Note 1), the Company applies the fair-value-based methodology of SFAS No. 123 and, accordingly, has recorded stock compensation expense of $1.3 million, $1.8 million and $5.2 million for fiscal 2002, 2001 and 2000, respectively. The effects of applying SFAS No. 123 for recognizing compensation costs are not indicative of future amounts. The information below details each of the Company's stock compensation plans, including any changes during the years presented. 1999 Stock Option Plan for Directors -- During August 1999, the Board of Directors adopted the 1999 Stock Option Plan for Directors providing stock options to purchase shares of Common Stock of the Company to certain eligible directors who were neither employees of the Company nor non-resident aliens (the "Directors' Option Plan"). The Directors' Option Plan was ratified by the Company's shareholders at the 2000 Annual Meeting of Shareholders. The Company may issue stock options to purchase up to 700,000 shares of Common Stock to eligible directors at an exercise price equal to the fair market value as of the date of grant. An eligible director shall receive a stock option grant to purchase 50,000 shares of Common Stock as of the effective date of his/her initial appointment or election to the Board of Directors. Furthermore, on each Award Date, defined as August 4, 2000 or August 3, 2001, eligible directors were granted stock options to purchase an additional 10,000 shares of Common Stock. Stock options granted have terms of 10 years and shall vest and become exercisable over three (3) years from the date of grant; however, in the event of a change in control, options shall vest and become exercisable immediately. Payment for shares purchased upon exercise of options shall be in cash or stock of the Company. 67 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Options outstanding, granted and the weighted average exercise prices under the Directors' Option Plan are as follows: 1999 STOCK OPTION PLAN FOR DIRECTORS
2002 2001 2000 ------------------- -------------------- -------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE -------- -------- --------- -------- --------- -------- Options outstanding, beginning of period.................... 370,000 $1.78 420,000 $2.13 -- $ -- Granted................... 50,000 .38 80,000 .30 540,000 2.15 Exercised................. -- -- -- -- -- -- Forfeited................. -- -- (130,000) 1.98 (120,000) 2.25 -------- --------- --------- Options outstanding, end of period....................... 420,000 $1.62 370,000 $1.78 420,000 $2.13 ======== ===== ========= ===== ========= ===== Options exercisable, end of period....................... 316,667 $2.02 253,332 $2.15 116,667 $2.35 ======== ===== ========= ===== ========= ===== Weighted average fair value of options granted.............. $ .29 $ .22 $ 1.07 ======== ========= =========
The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model. The weighted average assumptions for grants in fiscal 2002 and 2001 under the Directors' Option Plan were as follows: risk-free interest rate of 4.70% and 4.88%, expected volatility of 89.28% and 83.93%, expected life of six years, and no expected dividends. The following table summarizes information about stock options outstanding at December 28, 2002 under the Directors' Option Plan: 1999 STOCK OPTION PLAN FOR DIRECTORS
OPTIONS OUTSTANDING OPTIONS EXERCISABLE -------------------------------------- ----------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE EXERCISE PRICES OUTSTANDING LIFE PRICE EXERCISABLE PRICE - --------------- ----------- ----------- -------- ----------- -------- $0.20.......................... 20,000 8.6 $0.20 6,667 $0.20 $0.36.......................... 50,000 8.6 $0.36 16,667 $0.36 $0.38.......................... 50,000 9.0 $0.38 -- $0.38 $1.00.......................... 50,000 3.9 $1.00 43,333 $1.00 $2.35.......................... 250,000 3.5 $2.35 250,000 $2.35 ------- ------- 420,000 5.0 $1.62 316,667 $2.02 ======= === ===== ======= =====
2002 Stock Option Plan for Directors -- During 2002, the Board of Directors adopted the 2002 Stock Option Plan for Directors providing stock options to purchase shares of Common Stock of the Company to certain non-employee directors (the "2002 Directors' Option Plan"). The 2002 Directors' Option Plan was ratified by the Company's shareholders at the 2002 Annual Meeting of Shareholders and was amended during November 2002. The Company may issue stock options to purchase up to 500,000 shares of Common Stock to eligible directors at an exercise price equal to the fair market value as of the date of grant. An eligible director shall receive a stock option grant to purchase 50,000 shares of Common Stock as of the effective date of his/her initial appointment or election to the Board of Directors. On each Award Date, defined as August 2, 68 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2002, August 1, 2003, or August 3, 2004, eligible directors are to be granted stock options to purchase additional shares of Common Stock. On August 2, 2002, each eligible director was granted stock options to purchase an additional 25,000 shares of Common Stock. For the August 1, 2003 and August 3, 2004 Award Dates, each eligible director is to be granted stock options to purchase an additional 35,000 shares of Common Stock. Stock options granted have terms of 10 years and shall vest and become exercisable over three (3) years from the date of grant; however, in the event of a change in control, options shall vest and become exercisable immediately. Payment for shares purchased upon exercise of options shall be in cash or stock of the Company. Options outstanding, granted and the weighted average exercise prices under the 2002 Directors' Option Plan are as follows: 2002 STOCK OPTION PLAN FOR DIRECTORS
2002 ------------------- WEIGHTED AVERAGE EXERCISE SHARES PRICE -------- -------- Options outstanding, beginning of period.................... -- $ -- Granted................................................ 100,000 .23 Exercised.............................................. -- -- Forfeited.............................................. -- -- -------- Options outstanding, end of period.......................... 100,000 $.23 ======== ==== Options exercisable, end of period.......................... -- $ -- ======== ==== Weighted average fair value of options granted.............. $ .16 ========
The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model. The weighted average assumptions for grants in fiscal 2002 under the 2002 Directors' Option Plan were as follows: risk-free interest rate of 3.76%, expected volatility of 89.36%, expected life of six years, and no expected dividends. The following table summarizes information about stock options outstanding at December 28, 2002 under the 2002 Directors' Option Plan: 2002 STOCK OPTION PLAN FOR DIRECTORS
OPTIONS OUTSTANDING -------------------------------------- OPTIONS EXERCISABLE WEIGHTED ----------------------- AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE EXERCISE PRICE OUTSTANDING LIFE PRICE EXERCISABLE PRICE - -------------- ----------- ----------- -------- ----------- -------- $.23........................... 100,000 9.6 $.23 -- $.23 ------- ---- 100,000 9.6 $.23 -- $.23 ======= === ==== ==== ====
1993 Executive Equity Incentive Plan -- In December 1992, the Board of Directors adopted the 1993 Executive Equity Incentive Plan (the "Incentive Plan"). The Incentive Plan was approved by the Company's shareholders at the 1993 Annual Meeting of Shareholders. The Incentive Plan encouraged executives to acquire and retain a significant ownership stake in the Company. Under the Incentive Plan, executives were given an opportunity to purchase shares of Common Stock with up to 80% of the purchase price financed with a six-year full recourse Company loan, which bore interest at the mid-term applicable federal rate as determined by the Internal Revenue Service. The Incentive Plan participants purchased shares of Common Stock at prices ranging from $0.69 to $4.94, with the Company accepting notes bearing interest at rates 69 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) ranging from 5.00% to 7.75%. For each share of stock an employee purchased, he/she received stock options to acquire two additional shares of Common Stock, up to a maximum of 250,000 shares in the aggregate. The stock options, which were granted by the Compensation Committee of the Board of Directors, vested after three years and expired after six years. On December 31, 1996, the Incentive Plan was terminated in accordance with its terms, and no additional Common Stock was purchased or stock options granted. As of December 29, 2001, no stock options remained outstanding or exercisable related to the Incentive Plan. Changes in options outstanding, expressed in numbers of shares, for the Incentive Plan for 2000 and 2001 are as follows: 1993 EXECUTIVE EQUITY INCENTIVE PLAN
2001 2000 ------------------- -------------------- WEIGHTED WEIGHTED AVERAGE AVERAGE EXERCISE EXERCISE OPTIONS PRICE OPTIONS PRICE ------- -------- -------- -------- Options outstanding, beginning of period........... 80,000 $1.72 454,000 $1.13 Exercised.......................................... -- -- (274,000) 1.00 Forfeited.......................................... (80,000) 1.72 (100,000) 1.00 ------- -------- Options outstanding, end of period................. -- -- 80,000 $1.72 ======= ===== ======== ===== Options exercisable, end of period................. -- -- 80,000 $1.72 ======= ===== ======== =====
Changes to the notes receivable principal balances related to the Incentive Plan are as follows:
2002 2001 2000 -------- -------- --------- Notes Receivable balance, beginning of period............... $313,400 $324,400 $ 655,500 Payments.................................................... -- -- (9,600) Forfeitures................................................. (44,000) (11,000) (321,500) -------- -------- --------- Notes Receivable balance, end of period..................... $269,400 $313,400 $ 324,400 ======== ======== =========
Collateral was held in escrow on behalf of each participant, encompassing 20,000 shares, 20,000 shares, and 80,000 shares of the Company's Common Stock in fiscal years 2002, 2001, and 2000, respectively. This collateral was transferred to and retained by the Company in satisfaction of the aforementioned promissory notes, which were no longer required to be settled. The Company recorded these shares as treasury stock. Furthermore, the related participants forfeited their initial 20% cash down payment, which was required for entry into the Incentive Plan. Management Stock Option Plans -- The Company approved for issuance to employees 20,000,000 shares of the Company's Common Stock pursuant to the Company's 2000 Management Stock Option Plan and 7,000,000 shares of the Company's Common Stock pursuant the Company's 1996 Stock Option Plan. Under both plans, the option exercise price is equal to the fair market value as of the date of grant. However, for stock options granted to an employee owning more than 10% of the total combined voting power of all classes of Company stock, the exercise price is equal to 110% of the fair market value of the Company's Common Stock as of the grant date. Stock options granted to an individual employee under the 2000 Management Stock Option Plan may not exceed 1,000,000 shares of the Company's Common Stock. Stock options granted to an individual employee under the 1996 Stock Option Plan may not exceed 500,000 shares of the Company's Common Stock and may be performance-based. All options granted must be specifically identified as incentive stock options or non-qualified stock options, as defined in the Internal Revenue Code. Furthermore, the aggregate fair market value of Common Stock for which an employee is granted incentive stock options that first became exercisable during any given calendar year shall be limited to $100,000. To the extent such 70 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) limitation is exceeded, the option shall be treated as a non-qualified stock option. Stock options may be granted for terms not to exceed 10 years and shall be exercisable in accordance with the terms and conditions specified in each option agreement. In the case of an employee who owns stock possessing more than 10% of the total combined voting power of all classes of stock, the options must become exercisable within 5 years. Payment for shares purchased upon exercise of options shall be in cash or stock of the Company. For both the 1996 and 2000 management Stock Option Plans, options outstanding, granted and the weighted average exercise prices are as follows: 1996 AND 2000 MANAGEMENT STOCK OPTION PLANS
2002 2001 2000 ----------------------- ----------------------- ----------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE ----------- -------- ----------- -------- ----------- -------- Options outstanding, beginning of period............. 3,962,778 $2.46 9,240,947 $2.41 5,927,984 $1.99 Granted......... 6,761,000 .24 30,000 .20 5,459,000 2.71 Exercised....... -- -- (10,000) .20 (414,537) 1.10 Forfeited....... (1,493,508) 2.60 (5,298,169) 2.36 (1,731,500) 2.26 ----------- ----------- ----------- Options outstanding, end of period...... 9,230,270 $ .81 3,962,778 $2.46 9,240,947 $2.41 =========== ===== =========== ===== =========== ===== Options exercisable, end of period...... 1,913,270 $2.18 2,406,362 $2.12 3,235,167 $1.82 =========== ===== =========== ===== =========== ===== Weighted average fair value of options granted............ $ .18 $ .15 $ 1.60 =========== =========== ===========
The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model. The weighted average assumptions for grants in fiscal 2002, 2001 and 2000 are as follows: risk-free interest rate of 3.81%, 4.96% and 5.60%, respectively, expected volatility of 89.58%, 83.93% and 56.85%, respectively, expected lives of six years for fiscal years 2002, 2001 and 2000, and no expected dividends. The following table summarizes information about stock options outstanding at December 28, 2002 under both the 1996 and 2000 management Stock Option Plans: 1996 AND 2000 MANAGEMENT STOCK OPTION PLANS
OPTIONS OUTSTANDING OPTIONS EXERCISABLE -------------------------------------- ----------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE RANGE OF EXERCISE PRICES OUTSTANDING LIFE PRICE EXERCISABLE PRICE - ------------------------ ----------- ----------- -------- ----------- -------- $ .20 to $1.01.............. 7,379,107 9.0 $ .30 598,107 $ .92 $1.43 to $1.75.............. 243,332 2.2 $1.49 230,832 $1.48 $2.37 to $2.94.............. 219,000 4.2 $2.47 199,500 $2.45 $3.00 to $3.50.............. 1,388,831 5.8 $3.17 884,831 $3.16 --------- ----- --------- 9,230,270 8.2 $ .81 1,913,270 $2.18 ========= === ===== ========= =====
71 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The Chief Executive Officer Stock Option Plans -- Stock-based plans were granted in 1996 for the benefit of Rakesh K. Kaul, the former Chief Executive Officer of the Company (the "CEO"). In each of the plans, the option price represents the average of the low and high fair market values of the Common Stock on August 23, 1996, the date of the closing of the Company's 1996 Rights Offering. On December 5, 2000, the CEO resigned, resulting in the right to exercise the outstanding options for 12 months thereafter. No options were exercised by the CEO on or before December 5, 2001. There were no options outstanding and exercisable under these plans as of December 28, 2002. The details of the plans are as follows: The CEO Tandem Plan -- Pursuant to the Company's Tandem Plan (the "Tandem Plan"), the right to purchase an aggregate of 1,000,000 shares of Common Stock and an option to purchase 2,000,000 shares of Common Stock was approved for issuance to the CEO. The option was subject to anti-dilution provisions and due to the Company's 1996 Rights Offering was adjusted to 1,510,000 shares of Common Stock and 3,020,000 options. Due to the resignation of the CEO in December 2000, 1,510,000 Tandem Plan shares of Common Stock were transferred and, to date, the Company has treated the transfers as satisfying a promissory note of approximately $0.7 million owed by the CEO to the Company. The Company recorded these shares as treasury stock. There were no options outstanding and exercisable under the Tandem Plan at December 28, 2002. The CEO Performance Year Plan -- Pursuant to the Company's Performance Year Plan (the "Performance Plan"), an option to purchase an aggregate of 1,000,000 shares of Common Stock was approved for issuance to the CEO in 1996. The options were based upon performance as defined by the Compensation Committee of the Board of Directors. Should a performance target not be attained, the option is carried over to the succeeding year in conjunction with that year's option until the expiration date. The options expire 10 years from the date of grant and vest over four years. Payment for shares purchased upon the exercise of the options shall be in cash or stock of the Company. Due to the resignation of the CEO on December 5, 2000 and the absence of an exercise of the outstanding options for 12 months thereafter, the options were forfeited on December 5, 2001. No options were outstanding and exercisable under the Performance Plan at December 28, 2002. The CEO Closing Price Option Plan -- Pursuant to the Company's Closing Price Option Plan (the "Closing Price Plan"), an option to purchase an aggregate of 2,000,000 shares of Common Stock was approved for issuance to the CEO in 1996. The options expire 10 years from the date of grant and will become vested upon the Company's stock price reaching a specific target over a consecutive 91-calendar day period as defined by the Compensation Committee of the Board of Directors. In May 1998, the Compensation Committee of the Board of Directors reduced the target per share market price at which the Company's Common Stock had to trade in consideration of the dilutive effect of the increase in outstanding shares from the date of the grant. The performance period has a range of six years beginning August 23, 1996, the date of the closing of the 1996 Rights Offering. Due to the resignation of the CEO on December 5, 2000 and the absence of an exercise of the outstanding options for 12 months thereafter, the options were forfeited on December 5, 2001. No options were outstanding and exercisable under the Closing Price Plan at December 28, 2002. The CEO Six Year Stock Option Plan -- Pursuant to NAR's Six Year Stock Option Plan (the "Six Year Plan"), an option to purchase an aggregate of 250,000 shares of Common Stock was granted to the CEO by NAR Group Limited ("NAR") in 1996. The option is subject to anti-dilution provisions and due to the Company's 1996 Rights Offering was adjusted to 377,500 option shares. The options expire six years from the date of grant and vest after one year. Due to the resignation of the CEO on December 5, 2000 and the absence of an exercise of the outstanding options for 12 months thereafter, the options were forfeited on December 5, 2001. No options were outstanding and exercisable under the Six Year Plan at December 28, 2002. 72 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The CEO Seven Year Stock Option Plan -- Pursuant to NAR's Seven Year Stock Option Plan (the "Seven Year Plan"), an option to purchase an aggregate of 250,000 shares of Common Stock was granted to the CEO by NAR in 1996. The option is subject to anti-dilution provisions and due to the Company's 1996 Rights Offering was adjusted to 377,500 option shares. The options expire seven years from the date of grant and vest after two years. Due to the resignation of the CEO on December 5, 2000 and the absence of an exercise of the outstanding options for 12 months thereafter, the options were forfeited on December 5, 2001. No options were outstanding and exercisable under the Seven Year Plan at December 28, 2002. The CEO Eight Year Stock Option Plan -- Pursuant to NAR's Eight Year Stock Option Plan (the "Eight Year Plan"), an option to purchase an aggregate of 250,000 shares of Common Stock was granted to the CEO by NAR in 1996. The option is subject to anti-dilution provisions and due to the Company's 1996 Rights Offering was adjusted to 377,500 option shares. The options expire eight years from the date of grant and vest after three years. Due to the resignation of the CEO on December 5, 2000 and the absence of an exercise of the outstanding options for 12 months thereafter, the options were forfeited on December 5, 2001. No options were outstanding and exercisable under the Eight Year Plan at December 28, 2002. The CEO Nine Year Stock Option Plan -- Pursuant to NAR's Nine Year Stock Option Plan (the "Nine Year Plan"), an option to purchase an aggregate of 250,000 shares of Common Stock was granted to the CEO by NAR in 1996. The option was subject to anti-dilution provisions and due to the Company's 1996 Rights Offering was adjusted to 377,500 option shares. The options expire nine years from the date of grant and vest after four years. Due to the resignation of the CEO on December 5, 2000 and the absence of an exercise of the outstanding options for 12 months thereafter, the options were forfeited on December 5, 2001. No options were outstanding and exercisable under the Nine Year Plan at December 28, 2002. For the combined CEO Stock Option Plans, options outstanding, granted and the weighted average exercise prices are as follows: CEO STOCK OPTION PLANS
2002 2001 2000 ----------------- --------------------- -------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE ------ -------- ---------- -------- --------- -------- Options outstanding, beginning of period..... -- -- 7,530,000 $1.16 7,530,000 $1.16 Forfeited................. -- -- (7,530,000) -- -- -- ---- ---------- --------- Options outstanding, end of period........... -- -- -- -- 7,530,000 $1.16 ==== ==== ========== ===== ========= ===== Options exercisable, end of period........... -- -- -- -- 7,040,000 $1.16 ==== ==== ========== ===== ========= =====
An Executive Employment Agreement entered into by the Company and the CEO on March 6, 2000 provided the CEO with the option to purchase 6% of the common stock of erizon, Inc. at the estimated fair market value on the date of the grant, which option was to vest in equal parts over a four-year period and to expire ten years from the date of grant. The Company recorded no compensation expense for the years ended December 28, 2002 and December 29, 2001, and $.8 million during the year ended December 30, 2000, related to this option grant. The fair value of options at the date of grant was estimated to be $62,000 per share based on the following assumptions: risk-free interest rate of 6.0%, expected life of 4 years, expected volatility of 54.8%, and no expected dividends. As described more fully in Note 17, the Company is currently involved in litigation with the CEO, regarding, among other issues, the amount of cash and benefits to which the CEO may have been entitled, if 73 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) any, as a result of his resignation on December 5, 2000. The litigation is in the summary judgement phase; however, it is not certain at this time what the impact of his resignation will have on all of the option plans described above. OTHER STOCK AWARDS During 1997, the Company granted, and the Compensation Committee of the Board of Directors approved, non-qualified options to certain employees for the purchase of an aggregate of 1,000,000 shares of the Company's Common Stock. The options vested over three years and are due to expire in 2003. The options have an exercise price of $0.75 and a remaining contractual life as of December 28, 2002 of 0.2 years. The fair value of the options at the date of grant was estimated to be $0.52 based on the following weighted average assumptions: risk-free interest rate of 6.48%, expected life of four years, expected volatility of 59.40%, and no expected dividends. In June 2001, 809,000 options that had not been exercised were forfeited by certain employees. As of December 28, 2002, there were no options outstanding and exercisable. Meridian Options -- During December 2000, the Company granted, and the Company's Board of Directors approved, options ("2000 Meridian Options") for the purchase of an aggregate of 4,000,000 shares of Common Stock with an exercise price of $0.25 per share. These options have been allocated as follows: Thomas C. Shull, 2,700,000 shares; Paul Jen, 500,000 shares; John F. Shull, 500,000 shares; Evan M. Dudik, 200,000 shares; and Peter Schweinfurth, 100,000 shares. In December 2001, an additional Services Agreement (the "2001 Services Agreement") was entered into by the Company by and among Meridian, Mr. Shull, and the Company. Under the 2001 Services Agreement, the 2000 Meridian Options terminate in the event that the Services Agreement is terminated (i) the tenth day after written notice by the Company to Meridian and Mr. Shull of material breach of the Services Agreement by Meridian or Mr. Shull or willful misconduct by Meridian or Mr. Shull, or (ii) upon the death or permanent disability of Mr. Shull. The 2000 Meridian Options vested and became exercisable on December 4, 2001 for all 2000 Meridian Options, except one-half of Mr. Shull's 2000 Meridian Options, which vested and became exercisable on June 30, 2002. Effective as of September 1, 2002, the Company amended the stock option agreement with Mr. Shull for his 2,700,000 2000 Meridian Stock Options to (i) extend the final expiration date for such stock options to June 30, 2005, and (ii) replace all references therein to the December 2000 Services Agreement with references to the employment agreement between Mr. Shull and the Company, which became effective on September 1, 2002. The fair value of the 2000 Meridian Options was estimated to be $0.07 cents per share at the date of grant based on the following assumptions: risk-free interest rate of 6.0%, expected life of 1.5 years, expected volatility of 54.0%, and no expected dividends. During December 2001, the Company granted to Meridian, and the Company's Board of Directors approved, options to Meridian ("2001 Meridian Options") for the purchase of an additional 1,000,000 shares of Common Stock with an exercise price of $0.30. These options have been allocated as follows: Thomas C. Shull, 500,000 shares; Edward M. Lambert, 300,000 shares; Paul Jen, 100,000 shares; and John F. Shull, 100,000 shares. Under the 2001 Services Agreement, the 2001 Meridian Options granted terminate in the event that the 2001 Services Agreement is terminated (i) the tenth day after written notice by the Company to Meridian and Mr. Shull of material breach of the 2001 Services Agreement by Meridian or Mr. Shull or willful misconduct by Meridian or Mr. Shull, or (ii) upon the death or permanent disability of Mr. Shull. The 2001 Meridian Options will vest and become exercisable on March 31, 2003. Effective as of September 1, 2002, the Company amended the stock option agreement with Mr. Shull for his 500,000 2001 Meridian Options to (i) extend the final expiration date for such stock options to June 30, 2005, and (ii) replace all references therein to the 2001 Services Agreement with references to the 2002 Employment Agreement. The fair value of the 2001 Meridian Options was estimated to be $0.16 cents per share at the date of grant based on the following assumptions: risk-free interest rate of 2.82%, expected life of 1.25 years, expected volatility of 129.73%, and no expected dividends. 74 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Options outstanding, granted and the weighted average exercise price under the combined 2000 Meridian Options and the 2001 Meridian Options are as follows: MERIDIAN OPTION PLANS
2002 2001 2000 -------------------- --------------------- --------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE --------- -------- ---------- -------- ---------- -------- Options outstanding, beginning of period........ 5,000,000 $.26 4,000,000 $.25 -- -- Granted................. -- -- 1,000,000 .30 4,000,000 $.25 Exercised............... (100,000) .25 -- -- -- -- Forfeited............... -- -- -- -- -- -- --------- ---------- ---------- Options outstanding, end of period..................... 4,900,000 $.26 5,000,000 $.26 4,000,000 $.25 ========= ==== ========== ==== ========== ==== Options exercisable, end of period..................... 3,900,000 $.25 2,650,000 $.25 -- -- ========= ==== ========== ==== ========== ==== Weighted average fair value of options granted......... -- $ .16 $ .07 ========= ========== ==========
The following table summarizes information about stock options outstanding and exercisable at December 28, 2002 under the combined 2000 Meridian Options and the 2001 Meridian Options: MERIDIAN OPTION PLANS
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------ ---------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE RANGE OF EXERCISE PRICES OUTSTANDING LIFE PRICE EXERCISABLE PRICE - ------------------------ ----------- ----------- -------- ----------- -------- $0.25.............................. 3,900,000 2.0 $.25 3,900,000 $.25 $0.30.............................. 1,000,000 3.3 $.30 -- -- --------- --------- 4,900,000 2.3 $.26 -- $.25 ========= === ==== ========= ====
16. RELATED PARTY TRANSACTIONS At December 28, 2002, Richemont Finance S.A. ("Richemont"), a Luxembourg company, owned approximately 21.3% of the Company's Common Stock outstanding and 100% of the Company's Series B Preferred Stock through direct and indirect ownership. At December 28, 2002, current and former officers and executives of the Company owed the Company approximately $0.3 million, excluding accrued interest, under the 1993 Executive Equity Incentive Plan. These amounts due to the Company bear interest at rates ranging from 5.54% to 7.75% and are due or will be due during 2003. On November 6, 2002, the Company entered into a Compensation Continuation Agreement with Mr. Lengers. See Note 11. During October 2002, the Company entered into the Compensation Continuation Agreements with Mr. Lambert, Mr. Harriss and Mr. Contino. See Note 11. 75 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) During September 2002, the Company entered into a severance agreement with Mr. Messina. See Note 11. As of September 1, 2002, Mr. Shull and the Company entered into the 2002 Employment Agreement. See Note 11. During January 2002, at the time of Mr. Harriss's resignation from the Company as Executive Vice President and Chief Financial Officer, the Company and Mr. Harriss entered into a severance agreement. In connection with Mr. Harriss's appointment as Executive Vice President -- Human Resources and Legal and Secretary of the Company effective December 2, 2002, Mr. Harriss waived his rights to certain payments under such severance agreement. 17. COMMITMENTS AND CONTINGENCIES A class action lawsuit was commenced on March 3, 2000 entitled Edwin L. Martin v. Hanover Direct, Inc. and John Does 1 through 10, bearing case no. CJ2000-177 in the State Court of Oklahoma (District Court in and for Sequoyah County). Plaintiff commenced the action on behalf of himself and a class of persons who have at any time purchased a product from the Company and paid for an "insurance charge." The complaint sets forth claims for breach of contract, unjust enrichment, recovery of money paid absent consideration, fraud and a claim under the New Jersey Consumer Fraud Act. The complaint alleges that the Company charges its customers for delivery insurance even though, among other things, the Company's common carriers already provide insurance and the insurance charge provides no benefit to the Company's customers. Plaintiff also seeks a declaratory judgment as to the validity of the delivery insurance. The damages sought are (i) an order directing the Company to return to the plaintiff and class members the "unlawful revenue" derived from the insurance charges, (ii) declaring the rights of the parties, (iii) permanently enjoining the Company from imposing the insurance charge, (iv) awarding threefold damages of less than $75,000 per plaintiff and per class member, and (v) attorneys' fees and costs. On April 12, 2001, the Court held a hearing on plaintiff's class certification motion. Subsequent to the April 12, 2001 hearing on plaintiff's class certification motion, plaintiff filed a motion to amend the definition of the class. On July 23, 2001, plaintiff's class certification motion was granted, defining the class as "All persons in the United States who are customers of any catalog or catalog company owned by Hanover Direct, Inc. and who have at any time purchased a product from such company and paid money that was designated to be an "insurance' charge." On August 21, 2001, the Company filed an appeal of the order with the Oklahoma Supreme Court and subsequently moved to stay proceedings in the district court pending resolution of the appeal. The appeal has been fully briefed. At a subsequent status hearing, the parties agreed that issues pertaining to notice to the class would be stayed pending resolution of the appeal, that certain other issues would be subject to limited discovery, and that the issue of a stay for any remaining issues would be resolved if and when such issues arise. Oral argument on the appeal, if scheduled, is not expected until the first half of 2003. The Company believes it has defenses against the claims and plans to conduct a vigorous defense of this action. On August 15, 2001, the Company was served with a summons and four-count complaint filed in Superior Court for the City and County of San Francisco, California, entitled Teichman v. Hanover Direct, Inc., Hanover Brands, Inc., Hanover Direct Virginia, Inc., and Does 1-100. The complaint was filed by a California resident, seeking damages and other relief for herself and a class of all others similarly situated, arising out of the insurance fee charged by catalogs and internet sites operated by subsidiaries of the Company. Defendants, including the Company, have filed motions to dismiss based on a lack of personal jurisdiction over them. In January 2002, plaintiff sought leave to name six additional entities: International Male, Domestications Kitchen & Garden, Silhouettes, Hanover Company Store, Kitchen & Home, and Domestications as co- defendants. On March 12, 2002, the Company was served with the First Amended Complaint in which plaintiff named as defendants the Company, Hanover Brands, Hanover Direct Virginia, LWI Holdings, Hanover Company Store, Kitchen and Home, and Silhouettes. On April 15, 2002, the Company filed a Motion to Stay the Teichman action in favor of the previously filed Martin action and also filed a Motion to quash service of summons for lack of personal jurisdiction on behalf of defendants Hanover Direct, Inc., 76 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Hanover Brands, Inc. and Hanover Direct Virginia, Inc. On May 14, 2002, the Court (1) granted the Company's Motion to quash service on behalf of Hanover Direct, Hanover Brands, and Hanover Direct Virginia, leaving only LWI Holdings, Hanover Company Store, Kitchen & Home, and Silhouettes, as defendants, and (2) granted the Company's Motion to Stay the action in favor of the previously filed Oklahoma action, so nothing will proceed on this case against the remaining entities until the Oklahoma case is decided. The Company believes it has defenses against the claims. The Company plans to conduct a vigorous defense of this action. A class action lawsuit was commenced on February 13, 2002 entitled Jacq Wilson, suing on behalf of himself, all others similarly situated, and the general public v. Brawn of California, Inc. dba International Male and Undergear, and Does 1-100 ("Brawn") in the Superior Court of the State of California, City and County of San Francisco. Does 1-100 are internet and catalog direct marketers offering a selection of men's clothing, sundries, and shoes who advertise within California and nationwide. The complaint alleges that for at least four years, members of the class have been charged an unlawful, unfair, and fraudulent insurance fee and tax on orders sent to them by Brawn; that Brawn was engaged in untrue, deceptive and misleading advertising in that it was not lawfully required or permitted to collect insurance, tax and sales tax from customers in California; and that Brawn has engaged in acts of unfair competition under the state's Business and Professions Code. Plaintiff and the class seek (i) restitution and disgorgement of all monies wrongfully collected and earned by Brawn, including interest and other gains made on account of these practices, including reimbursement in the amount of the insurance, tax and sales tax collected unlawfully, together with interest, (ii) an order enjoining Brawn from charging customers insurance and tax on its order forms and/or from charging tax on the delivery, shipping and insurance charges, (iii) an order directing Brawn to notify the California State Board of Equalization of the failure to pay the correct amount of tax to the state and to take appropriate steps to provide the state with the information needed for audit, and (iv) compensatory damages, attorneys' fees, pre-judgment interest, and costs of the suit. The claims of the individually named plaintiff and for each member of the class amount to less than $75,000. On April 15, 2002, the Company filed a Motion to Stay the Wilson action in favor of the previously filed Martin action. On May 14, 2002, the Court heard the argument in the Company's Motion to Stay the action in favor of the Oklahoma action, denying the motion. In October 2002, the Court granted the Company's motion for leave to amend the answer. Discovery is proceeding. A mandatory settlement conference has been scheduled for April 4, 2003 and trial is currently scheduled for April 14, 2003. The Company plans to conduct a vigorous defense of this action. A class action lawsuit was commenced on February 20, 2002 entitled Argonaut Consumer Rights Advocates Inc., suing on behalf of the General Public v. Gump's By Mail, Inc. ("Gump's"), and Does 1-100 in the Superior Court of the State of California, City and County of San Francisco. The plaintiff is a non-profit public benefit corporation suing under the California Business and Profession Code. Does 1-100 would include persons whose activities include the direct sale of tangible personal property to California consumers including the type of merchandise that Gump's -- the store and the catalog -- sell, by telephone, mail order, and sales through the web sites www.gumpsbymail.com and www.gumps.com. The complaint alleges that for at least four years members of the class have been charged an unlawful, unfair, and fraudulent tax and "sales tax" on their orders in violation of California law and court decisions, including the state Revenue and Taxation Code, Civil Code, and the California Board of Equalization; that Gump's engages in unfair business practices; that Gump's engaged in untrue and misleading advertising in that it was not lawfully required to collect tax and sales tax from customers in California; is not lawfully required or permitted to add tax and sales tax on separately stated shipping or delivery charges to California consumers; and that it does not add the appropriate or applicable or specific correct tax or sales tax to its orders. Plaintiff and the class seek (i) restitution of all tax and sales tax charged by Gump's on each transaction and/or restitution of tax and sales tax charged on the shipping charges; (ii) an order enjoining Gump's from charging customers for tax on orders or from charging tax on the shipping charges; and (iii) attorneys' fees, pre-judgment interest on the sums refunded, and costs of the suit. On April 15, 2002, the Company filed an Answer and Separate Affirmative Defenses to the complaint, generally denying the allegations of the complaint and each and every cause of action alleged, and denying that plaintiff has been damaged or is entitled to any relief whatsoever. On September 19, 2002, the 77 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Company filed a motion for leave to file an amended answer, containing several additional affirmative defenses based on the proposition that the proper defendant in this litigation (if any) is the California State Board of Equalization, not the Company, and that plaintiff failed to exhaust its administrative remedies prior to filing suit. That motion was granted. At the request of the plaintiff, this case was dismissed with prejudice by the court on March 17, 2003. A class action lawsuit was commenced on March 5, 2002 entitled Argonaut Consumer Rights Advocates Inc., suing on behalf of the General Public v. Domestications LLC, and Does 1-100 ("Domestications") in the Superior Court of the State of California, City and County of San Francisco. The plaintiff is a non-profit public benefit corporation suing under the California Business and Profession Code. Does 1-100 would include persons responsible for the conduct alleged in the complaint, including the direct sale of tangible personal property to California consumers including the type of merchandise that Domestications sells, by telephone, mail order, and sales through the web site www.domestications.com. The plaintiff claims that for at least four years members of the class have been charged an unlawful, unfair, and fraudulent tax and sales tax for different rates and amounts on the catalog and internet orders on the total amount of goods, tax and sales tax on shipping charges, which are not subject to tax or sales tax under California law, in violation of California law and court decisions, including the state Revenue and Taxation Code, Civil Code, and the California Board of Equalization; that Domestications engages in unfair business practices; and that Domestications engaged in untrue and misleading advertising in that it was not lawfully required to collect tax and sales tax from customers in California. Plaintiff and the class seek (i) restitution of all sums, interest and other gains made on account of these practices; (ii) prejudgment interest on all sums wrongfully collected; (iii) an order enjoining Domestications from charging customers for tax on their orders and/or from charging tax on the shipping charges; and (iv) attorneys' fees and costs of the suit. The Company filed an Answer and Separate Affirmative Defenses to the Complaint, generally denying the allegations of the Complaint and each and every cause of action alleged, and denying that plaintiff has been damaged or is entitled to any relief whatsoever. Discovery is now proceeding. On September 19, 2002, the Company filed a motion for leave to file an amended answer, containing several additional affirmative defenses based on the proposition that the proper defendant in this litigation (if any) is the California State Board of Equalization, not the Company, and that plaintiff failed to exhaust its administrative remedies prior to filing suit. That motion was granted. On February 28, 2003, the Company filed a notice of motion and memorandum of points and authorities in support of its motion for summary judgment setting forth that Plaintiff's claims are without merit and incorrect as a matter of law. At the request of the plaintiff, this case was dismissed with prejudice by the court on March 17, 2003. A class action lawsuit was commenced on October 28, 2002 entitled John Morris, individually and on behalf of all other persons & entities similarly situated v. Hanover Direct, Inc., and Hanover Brands, Inc. (referred to here as "Hanover"), No. L 8830-02 in the Superior Court of New Jersey, Bergen County -- Law Division. The plaintiff brings the action individually and on behalf of a class of all persons and entities in New Jersey who purchased merchandise from Hanover within six years prior to filing of the lawsuit and continuing to the date of judgment. On the basis of a purchase made by plaintiff in August, 2002 of certain clothing from Hanover (which was from a men's division catalog, the only ones which retained the insurance line item in 2002), Plaintiff claims that for at least six years, Hanover maintained a policy and practice of adding a charge for "insurance" to the orders it received and concealed and failed to disclose its policy with respect to all class members. Plaintiff claims that Hanover's conduct was (i) in violation of the New Jersey Consumer Fraud Act, as otherwise deceptive, misleading and unconscionable; (ii) such as to constitute Unjust Enrichment of Hanover at the expense and to the detriment of plaintiff and the class; and (iii) unconscionable per se under the Uniform Commercial Code for contracts related to the sale of goods. Plaintiff and the class seek damages equal to the amount of all insurance charges, interest thereon, treble and punitive damages, injunctive relief, costs and reasonable attorneys' fees, and such other relief as may be just, necessary, and appropriate. On December 13, 2002, the Company filed a Motion to Stay the Morris action in favor of the previously filed Martin action. Plaintiff then filed an Amended Complaint adding International Male as a defendant. The 78 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Company's response to the Amended Complaint was filed on February 5, 2003. Plaintiff's response brief was filed March 17, 2003, and the Company's reply brief is due on March 31, 2003. Hearing on the motion to stay is expected to take place on April 4, 2003. The Company plans to conduct a vigorous defense of this action. On June 28, 2001, Rakesh K. Kaul, the Company's former President and Chief Executive Officer, filed a five-count complaint (the "Complaint") in New York State Court against the Company, seeking damages and other relief arising out of his separation of employment from the Company, including severance payments of $2,531,352 plus the cost of employee benefits, attorneys' fees and costs incurred in connection with the enforcement of his rights under his employment agreement with the Company, payment of $298,650 for 13 weeks of accrued and unused vacation, damages in the amount of $3,583,800, or, in the alternative, a declaratory judgment from the court that he is entitled to all change of control benefits under the "Hanover Direct, Inc. Thirty-Six Month Salary Continuation Plan," and damages in the amount of $1,396,066 or $850,000 due to the Company's purported breach of the terms of the "Long-Term Incentive Plan for Rakesh K. Kaul" by failing to pay him a "tandem bonus" he alleges was due and payable to him within the 30 days following his resignation. The Company removed the case to the U.S. District Court for the Southern District of New York on July 25, 2001. Mr. Kaul filed an Amended Complaint ("Amended Complaint") in the U.S. District Court for the Southern District of New York on September 18, 2001. The Amended Complaint repeats many of the claims made in the original Complaint and adds ERISA claims. On October 11, 2001, the Company filed its Answer, Defenses and Counterclaims to the Amended Complaint, denying liability under each and every of Mr. Kaul's causes of action, challenging all substantive assertions, raising several defenses and stating nine counterclaims against Mr. Kaul. The counterclaims include (1) breach of contract; (2) breach of the Non-Competition and Confidentiality Agreement with the Company; (3) breach of fiduciary duty; (4) unfair competition; and (5) unjust enrichment. The Company seeks damages, including, without limitation, the $341,803 in severance pay and car allowance Mr. Kaul received following his resignation, $412,336 for amounts paid to Mr. Kaul for car allowance and related benefits, the cost of a long-term disability policy, and certain payments made to personal attorneys and consultants retained by Mr. Kaul during his employment, $43,847 for certain services the Company provided and certain expenses the Company incurred, relating to the renovation and leasing of office space occupied by Mr. Kaul's spouse at 115 River Road, Edgewater, New Jersey, the Company's current headquarters, $211,729 on a tax loan to Mr. Kaul outstanding since 1997 and interest, compensatory and punitive damages and attorneys' fees. The case is pending. The discovery period has closed, the Company has moved to amend its counterclaims, and the parties have each moved for summary judgment. The Company seeks summary judgment: dismissing Mr. Kaul's claim for severance under his employment agreement on the ground that he failed to provide the Company with a general release of, among other things, claims for change of control benefits; dismissing Mr. Kaul's claim for attorneys' fees on the grounds that they are not authorized under his employment agreement; dismissing Mr. Kaul's claims related to change in control benefits based on an administrative decision that he is not entitled to continued participation in the plan or to future benefits thereunder; dismissing Mr. Kaul's claim for a tandem bonus payment on the ground that no payment is owing; dismissing Mr. Kaul's claim for vacation payments based on Company policy regarding carry over vacation; and seeking judgment on the Company's counterclaim for unjust enrichment based on Mr. Kaul's failure to pay under a tax note. Mr. Kaul seeks summary judgment: dismissing the Company's defenses and counterclaims relating to a release on the grounds that he tendered a release or that the Company is estopped from requiring him to do so; the Company's defenses and counterclaims relating to his alleged violations of his non-compete and confidentiality obligations on the grounds that he did not breach the obligations as defined in the agreement; and the Company's claims based on his alleged breach of fiduciary duty, including those based on his monthly car allowance payments and the leased space to his wife, on the grounds that he was entitled to the car payments and did not involve himself in or make misrepresentations in connection with the leased space. The Company has concurrently moved to amend its Answer and Counterclaims to state a claim that it had cause for terminating Mr. Kaul's employment based on, among other things, after acquired evidence that Mr. Kaul received a monthly car allowance and other benefits totaling $412,336 that had not been authorized by the Company's Board of Directors and that his wife's lease and related expense was not properly authorized 79 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) by the Company's Board of Directors, and to clarify or amend the scope of the Company's counterclaims for reimbursement. The briefing on the motions is completed and the parties are awaiting the decision of the Court. No trial date has been set. It is too early to determine the potential outcome, which could have a material impact on the Company's results of operations when resolved in a future period. In June 1994, a complaint was filed in the Supreme Court of the State of New York, County of New York, by Donald Schupak, the former President, CEO and Chairman of the Board of Directors of The Horn & Hardart Company, the corporate predecessor to the Company, against the Company and Alan Grant Quasha. The complaint asserted claims for alleged breaches of an agreement dated February 25, 1992 between Mr. Schupak and the Company (the "Agreement"), and for alleged tortious interference with the Agreement by Mr. Quasha. Mr. Schupak sought compensatory damages in an amount, which was estimated to be not more than $400,000, and punitive damages in the amount of $10 million; applicable interest, incidental and consequential damages, plus costs and disbursements, the expenses of the litigation and reasonable attorneys' fees. In addition, based on the alleged breaches of the Agreement by the Company, Mr. Schupak sought a "parachute" payment of approximately $3 million under an earlier agreement with the Company that he allegedly had waived in consideration of the Company's performance of its obligations under the Agreement. The Company filed an answer to the complaint on September 7, 1994. Discovery then commenced and documents were exchanged. Each of the parties filed a motion for summary judgment at the end of 1995, and both motions were denied in the spring of 1996. In April 1996, due to health problems then being experienced by Mr. Schupak, the Court ordered that the case be marked "off calendar" until plaintiff recovered and was able to proceed with the litigation. In September 2002, more than six years later, Mr. Schupak filed a motion to restore the case to the Court's calendar. The Company filed papers in opposition to the motion on October 10, 2002, asserting that the motion should be denied on the ground that plaintiff failed to timely comply with the terms of the Court's order concerning restoration and, alternatively, on the ground of laches. The plaintiff filed reply papers on November 4, 2002. On November 20, 2002, the court denied Schupak's motion to restore the case to the calendar as "unnecessary and moot" on the ground that the case had been improperly marked off calendar in the first instance, ruled that the case therefore remained "active," and fixed a trial date of March 4, 2003. On January 27, 2003, the parties reached agreement fully and finally settling all of Schupak's claims in consideration of a payment by the Company and the exchange of mutual general releases. The Company was named as one of 88 defendants in a patent infringement complaint filed on November 23, 2001 by the Lemelson Medical, Education & Research Foundation, Limited Partnership (the "Lemelson Foundation"). The complaint, filed in the U.S. District Court in Arizona, was not served on the Company until March 2002. In the complaint, the Lemelson Foundation accuses the named defendants of infringing seven U.S. patents, which allegedly cover "automatic identification" technology through the defendants' use of methods for scanning production markings such as bar codes. The Company received a letter dated November 27, 2001 from attorneys for the Lemelson Foundation notifying the Company of the complaint and offering a license. The Court entered a stay of the case on March 20, 2002, requested by the Lemelson Foundation, pending the outcome of a related case in Nevada being fought by bar code manufacturers. The trial in the Nevada case began on November 18, 2002 and ended on January 17, 2003. The parties in the Nevada case are now required to submit post trial briefs on or before May 16, 2003, and a decision is expected two months or more thereafter. The Order for the stay in the Lemelson case provides that the Company need not answer the complaint, although it has the option to do so. The Company has been invited to join a common interest/joint-defense group consisting of defendants named in the complaint as well as in other actions brought by the Lemelson Foundation. The Company is currently in the process of analyzing the merits of the issues raised by the complaint, notifying vendors of its receipt of the complaint and letter, evaluating the merits of joining the joint-defense group, and having discussions with attorneys for the Lemelson Foundation regarding the license offer. A preliminary estimate of the royalties and attorneys' fees which the Company may pay if it decides to accept the license offer from the Lemelson Foundation range from about $125,000 to $400,000. The Company has decided to gather further information, but will not agree to a settlement at this time, and thus, has not established a reserve. 80 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) In early March 2003, the Company learned that one of its business units had engaged in certain travel transactions that may have constituted violations under the provisions of U.S. government regulations promulgated pursuant to 50 U.S.C. App. 1-44, which proscribe certain transactions related to travel to certain countries. See Note 19. In addition, the Company is involved in various routine lawsuits of a nature, which are deemed customary and incidental to its businesses. In the opinion of management, the ultimate disposition of these actions will not have a material adverse effect on the Company's financial position or results of operations. 18. AMERICAN STOCK EXCHANGE NOTIFICATION By letter dated May 2, 2001, the American Stock Exchange (the "Exchange") notified the Company that it was below certain of the Exchange's continued listing guidelines set forth in the Exchange's Company Guide. The Exchange instituted a review of the Company's eligibility for continuing listing of the Company's common stock on the Exchange. On January 17, 2002, the Company received a letter dated January 9, 2002 from the Exchange confirming that the American Stock Exchange determined to continue the Company's listing on the Exchange pending quarterly reviews of the Company's compliance with the steps of its strategic business realignment program. This determination was made subject to the Company's favorable progress in satisfying the Exchange's guidelines for continued listing and to the Exchange's periodic review of the Company's Securities and Exchange Commission and other filings. On November 11, 2002, the Company received a letter dated November 8, 2002 from the Exchange updating its position regarding the Company's compliance with certain of the Exchange's continued listing standards as set forth in Part 10 of the Exchange's Company Guide. Although the Company had been making favorable progress in satisfying the Exchange's guidelines for continued listing based on its compliance with the steps of its strategic business realignment program shared with the Exchange in 2001 and updated in 2002, the Exchange informed the Company that it had now become strictly subject to the procedures and requirements of Part 10 of the Company Guide. Specifically, the Company must not fall below the requirements of: (i) Section 1003(a)(i) with shareholders' equity of less than $2,000,000 and losses from continuing operations and/or net losses in two out of its three most recent fiscal years; (ii) Section 1003(a)(ii) with shareholders' equity of less than $4,000,000 and losses from continuing operations and/or net losses in three out of its four most recent fiscal years; and (iii) Section 1003(a)(iii) with shareholders' equity of less than $6,000,000 and losses from continuing operations and/or net losses in its five most recent fiscal years. The Exchange requested that the Company submit a plan to the Exchange by December 11, 2002, advising the Exchange of action it has taken, or will take, that would bring it into compliance with the continued listing standards by December 28, 2003. The Company submitted a plan to the Exchange on December 11, 2002, in an effort to maintain the listing of the Company's common stock on the Exchange. On January 28, 2003, the Company received a letter from the Exchange confirming that, as of the date of the letter, the Company had evidenced compliance with the requirements necessary for continued listing on the Exchange. Such compliance resulted from a recent rule change by the Exchange approved by the Securities and Exchange Commission related to continued listing on the basis of compliance with total market capitalization or total assets and revenues standards as alternatives to shareholders' equity standards including the requirement that each listed company maintain $ 15 million of public float. The letter is subject to changes in the American Stock Exchange Rules that might supersede the letter or require the Exchange to re-evaluate its position. 19. REGULATION 50 U.S.C. APP. 1-44 ISSUE In early March 2003, the Company learned that one of its business units had engaged in certain travel transactions that may have constituted violations under the provisions of U.S. government regulations promulgated pursuant to 50 U.S.C. App. 1-44, which proscribe certain transactions related to travel to certain 81 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) countries. The Company immediately commenced an inquiry into the matter, incurred resulting charges, made an initial voluntary disclosure to the appropriate U.S. government agency under its program for such disclosures and will submit to that agency a detailed report on the results of the inquiry. In addition, the Company has taken steps to ensure that all of its business units are acting in compliance with the travel and transaction restrictions and other requirements of all applicable U.S. government programs. Although the Company is uncertain of the extent of the penalties, if any, that may be imposed on it by virtue of the transactions voluntarily disclosed, it does not currently believe that any such penalties will have a material effect on its business or financial condition. 20. SELECTED QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) 2002 Net revenues....................................... $109,511 $113,852 $106,030 $128,251 (Loss) income before interest and income taxes..... (427) 3,232 (2,905) 238 Net (loss) income and comprehensive (loss) income........................................... (1,810) 1,816 (4,212) (4,924) Preferred stock dividends and accretion............ 2,904 3,503 4,185 4,964 Net loss applicable to common shareholders......... $ (4,714) $ (1,687) $ (8,397) $ (9,888) ======== ======== ======== ======== Net loss per share -- basic and diluted............ $ (0.04) $ (0.01) $ (0.06) $ (0.07) ======== ======== ======== ======== 2001 Net revenues....................................... $144,294 $133,507 $117,431 $136,933 (Loss) income before interest and income taxes..... (5,806) 14,607 (5,325) (2,672) Net (loss) income and comprehensive (loss) income........................................... (7,642) 12,732 (6,806) (4,129) Preferred stock dividends and accretion............ 2,880 2,984 3,092 1,789 Net (loss) income applicable to common shareholders..................................... $(10,522) $ 9,748 $ (9,898) $ (5,918) ======== ======== ======== ======== Net (loss) income per share -- basic and diluted... $ (0.05) $ 0.05 $ (0.05) $ (0.03) ======== ======== ======== ========
82 SCHEDULE II HANOVER DIRECT, INC. VALUATION AND QUALIFYING ACCOUNTS YEARS ENDED DECEMBER 28, 2002, DECEMBER 29, 2001 AND DECEMBER 30, 2000 (IN THOUSANDS OF DOLLARS)
COLUMN C -------- COLUMN A COLUMN B ADDITIONS COLUMN D COLUMN E - --------------------------------- ---------- ---------------------------- ---------- ---------- BALANCE AT CHARGED TO CHARGED TO BALANCE AT BEGINNING COSTS AND OTHER ACCOUNTS DEDUCTIONS END OF DESCRIPTION OF PERIOD EXPENSES (DESCRIBE) (DESCRIBE) PERIOD - ----------- ---------- ---------- -------------- ---------- ---------- 2002: Allowance for Doubtful Accounts Receivable, Current............ $ 2,117 $ 304 $ 861(1) $ 1,560 Reserves for Discontinued Operations..................... 737 40 455(2) 322 Special Charges Reserve.......... 11,056 4,769 7,793(3) 8,032 Reserves for Sales Returns....... 2,764 306 1,182(3) 1,888 Deferred Tax Asset Valuation Allowance...................... 121,600 $ 6,400(4) 128,000 2001: Allowance for Doubtful Accounts Receivable, Current............ 5,668 91 3,642(1) 2,117 Reserves for Discontinued Operations..................... 588 275 126(3) 737 Special Charges Reserve.......... 13,023 7,963 9,930(3) 11,056 Reserves for Sales Returns....... 3,371 2,692 3,299(3) 2,764 Deferred Tax Asset Valuation Allowance...................... 123,900 (2,300)(5) 121,600 2000: Allowance for Doubtful Accounts Receivable, Current............ 3,912 4,947 3,191(1) 5,668 Reserves for Discontinued Operations..................... 849 261(3) 588 Special Charges Reserve.......... 2,299 11,978 1,254(3) 13,023 Reserves for Sales Returns....... 4,680 6,101 7,410(3) 3,371 Deferred Tax Asset Valuation Allowance...................... 97,500 26,400(5) 123,900
- --------------- (1) Written-off. (2) Utilization of reserves $(130) and reversal of reserves $(325). (3) Utilization of reserves. (4) $3,700 represents an increase in the valuation allowance charged to the deferred income tax provision and the balance represents the net change in the valuation allowance offset by the change in the gross deferred tax asset. (5) Represents the change in the valuation allowance offset by the change in the gross deferred tax asset. 83 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE There were no disagreements with accountants on accounting and financial disclosure. The Board of Directors of the Company, upon recommendation of its Audit Committee, ended the engagement of Arthur Andersen LLP ("Arthur Andersen") as the Company's independent public accountants, effective after Arthur Andersen's review of the Company's financial results for the fiscal quarter ended March 30, 2002 and the filing of this Quarterly Report on Form 10-Q for such quarter, and authorized the engagement of KPMG LLP ("KPMG") to serve as the Company's independent public accountants for the fiscal year ending December 28, 2002. Arthur Andersen's report on the Company's 2001 financial statements was issued on March 16, 2002, in conjunction with the filing of the Company's Annual Report on Form 10-K for the fiscal year ended December 29, 2001. 84 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT (a) Identification of Directors Directors hold office until the next annual meeting or until their successors have been elected or until their earlier death, resignation, retirement, disqualification or removal as provided in the Company's Certificate of Incorporation and Bylaws. On January 10, 2002, the Board of Directors announced the reduction of the number of Directors of the Company from six to five. On January 10, 2002, the Board of Directors announced the appointment of Thomas C. Shull as Chairman of the Company's Board of Directors and the election of E. Pendleton James as a member of the Company's Board of Directors, each filling the vacancies created by the resignation of Eloy Michotte and Alan Grieve and each to serve until the Company's next Annual Shareholders Meeting. On December 20, 2002, the Board of Directors announced the election of Robert H. Masson as a member of the Company's Board of Directors effective January 1, 2003, filling the vacancy created by the resignation of J. David Hakman, effective December 31, 2002.
DIRECTOR NAME AGE TITLE AND OTHER INFORMATION SINCE - ---- --- --------------------------- -------- Thomas C. Shull 51 Thomas C. Shull has been Chairman of the Company's 2000 Board of Directors since January 10, 2002 and a member of the Board of Directors of the Company and President and Chief Executive Officer of the Company since December 5, 2000. In 1990, Mr. Shull co-founded Meridian Ventures, a venture management and turnaround firm presently based in Connecticut, and has served as chief executive officer since its inception. From 1997 to 1999, he served as President and CEO of Barneys New York, a leading luxury retailer, where he led them out of bankruptcy. From 1992 to 1994, Mr. Shull was Executive Vice President of the R.H. Macy Company, Inc., where he was responsible for human resources, information technology, business development, strategic planning and merchandise distribution and led the merger negotiations with Federated Department Stores. Prior to that, he served as a consultant with McKinsey & Company and in the early 1980s as a member of the National Security Council Staff in the Reagan White House. E. Pendleton James 73 E. Pendleton James has been a director of the Company 2002 since January 2002. Mr. James has over thirty years experience in executive search and recently merged his firm, Pendleton James Associates, with Whitehead Mann. He currently serves on the Board of the Citizens for Democracy Corps and is a Trustee for the Center for the Study of the Presidency. Mr. James served as an assistant to Presidents Nixon and Reagan. He is a former member of the Board of Directors of Comsat Corporation, the Metropolitan Life Series Fund, the White House Fellows Commission, the Ronald Reagan Foundation and the USO World Board of Governors.
85
DIRECTOR NAME AGE TITLE AND OTHER INFORMATION SINCE - ---- --- --------------------------- -------- Kenneth J. Krushel 50 Kenneth J. Krushel has been the Executive Vice 1999 President of Strategic and Business Development of Blackboard Inc., a provider of e-education software and commerce and access systems, since December 2000. From October 1999 to December 2000, Mr. Krushel was the Chairman and Chief Executive Officer of College Enterprises, Inc. From 1996 to 1999, Mr. Krushel was the Senior Vice President of Strategic Development for NBC Corp. and from 1994 to 1996 was Senior Vice President, Business Development, for King World Productions. Formerly, Mr. Krushel was President and Chief Operating Officer of Think Entertainment and Vice-President of Programming and Marketing for American Cablesystems. Mr. Krushel was elected a director of the Company in May 1999. Robert H. Masson 67 Robert H. Masson served as Senior Vice President, 2003 Finance and Administration and Vice President and Chief Financial Officer of Parsons & Whittemore, Inc., a global pulp and paper manufacturer, from May 1990 until his retirement June 30, 2002. Prior thereto, Mr. Masson held various executive, financial and treasury roles with The Ford Motor Company, Knutson Construction Company, Ellerbe, PepsiCo, Inc. and Combustion Engineering (now part of the ABB Group). Mr. Masson was elected a director of the Company effective January 1, 2003. Basil P. Regan 62 Basil P. Regan has been the General Partner of Regan 2001 Partners, L.P., a limited partnership that invests primarily in turnaround companies and special situations, since December 1989. He has been President of Regan Fund Management Ltd. since October 1995, which manages Regan Partners, L.P., Regan Fund International, L.P. and Super Hedge Fund, L.P. From 1986 to 1989, Mr. Regan was Vice President and Director of Equity Research of Reliance Group Holdings. Mr. Regan was elected a director of the Company in August 2001.
(b) Identification of Executive Officers Pursuant to the Company's Bylaws, its officers are chosen annually by the Board of Directors and hold office until their respective successors are chosen and qualified. Effective January 28, 2002, Edward M. Lambert was appointed to succeed Brian C. Harriss as Executive Vice President and Chief Financial Officer of the Company and Mr. Harriss was appointed as Executive Advisor to the Chairman of the Company coincident with his resignation as Executive Vice President and Chief Financial Officer of the Company. During September 2002, Charles F. Messina resigned as Executive Vice President, Chief Administrative Officer and Secretary of the Company. Effective December 2, 2002, Brian C. Harriss was appointed Executive Vice President -- Human Resources and Legal and Secretary of the Company. 86
OFFICE HELD NAME AGE TITLE AND OTHER INFORMATION SINCE - ---- --- --------------------------- ----------- Thomas C. Shull 51 President and Chief Executive Officer and a member 2000 of the Board of Directors since December 5, 2000. Chairman of the Board since January 10, 2002. In 1990, Mr. Shull co-founded Meridian Ventures, a venture management and turnaround firm presently based in Connecticut, and has served as chief executive officer since its inception. From 1997 to 1999, he served as President and Chief Executive Officer of Barneys New York, a leading luxury retailer, where he led them out of bankruptcy. From 1992 to 1994, Mr. Shull was Executive Vice President of the R.H. Macy Company, Inc., where he was responsible for human resources, information technology, business development, strategic planning and merchandise distribution and led the merger negotiations with Federated Department Stores. Prior to that, he served as a consultant with McKinsey & Company and in the early 1980s as a member of the National Security Council Staff in the Reagan White House. Edward M. Lambert 42 Executive Vice President and Chief Financial 2002 Officer since January 28, 2002. From July 2001 until January 28, 2002, Mr. Lambert served as an advisor to the Company. In 1990, Mr. Lambert co-founded Meridian Ventures, a venture management and turnaround firm presently based in Connecticut, and served as a Managing Director until December 2000. From 1998 to 1999, he served as Chief Financial Officer of Barneys New York, a leading luxury retailer, and from 1993 to 1994, he served as Executive Vice President of Applied Solar Energy Corporation, a space systems manufacturer. Michael D. Contino 42 Executive Vice President and Chief Operating 2001 Officer since April 25, 2001. Senior Vice President and Chief Information Officer from December 1996 to April 25, 2001 and President of Keystone Internet Services, Inc. (now Keystone Internet Services, LLC) since November 2000. Mr. Contino joined the Company in 1995 as Director of Computer Operations and Telecommunications. Prior to 1995, Mr. Contino was the Senior Manager of IS Operations at New Hampton, Inc., a subsidiary of Spiegel, Inc.
87
OFFICE HELD NAME AGE TITLE AND OTHER INFORMATION SINCE - ---- --- --------------------------- ----------- Brian C. Harriss 54 Executive Vice President -- Human Resources and 2002 Legal and Secretary since December 2002. Executive Advisor to the Chairman of the Company from January 28, 2002 to December 2002, and Executive Vice President and Chief Financial Officer from June 1999 to January 28, 2002. From 1998 to 1999, Mr. Harriss was a Managing Director of Dailey Capital Management, LP, a venture capital fund, and Chief Operating Officer of E-Bidding Inc., an Internet e-commerce freight Web site. From 1997 to 1998, Mr. Harriss served as the Vice President of Corporate Development at the Reader's Digest Association, Inc. From 1994 to 1996, Mr. Harriss was the Chief Financial Officer of the Thompson Minwax Company. Prior thereto, Mr. Harriss held various financial positions with Cadbury Schweppes PLC, Tambrands, Inc. and PepsiCo, Inc. William C. Kingsford 56 Vice President and Corporate Controller since May 1997 1997. Prior to May 1997, Mr. Kingsford was Vice President and Chief Internal Auditor at Melville Corporation. Frank J. Lengers 46 Vice President, Treasurer since October 2000. Mr. 2000 Lengers joined the Company in November 1988 as an Internal Audit Manager. From 1990 to 1994, Mr. Lengers served as Manager of Corporate Treasury Operations. In 1994, he was promoted to Director of Treasury Operations and in 1997 to Assistant Treasurer, a position he held until October 2000. Prior to joining the Company, Mr. Lengers held various audit positions with R.H. Macy & Co. and The Metropolitan Museum of Art. Steven Lipner 54 Vice President, Taxation since October 2000. Mr. 2000 Lipner served as Director of Taxes from February 1984 to October 2000. Prior thereto, he served as Director of Taxes at Avnet, Inc. and held various positions in public accounting. He holds a license as a Certified Public Accountant in New York.
(c) Audit Committee Financial Expert The Company's Board of Directors has determined that the Company has at least one "audit committee financial expert" serving on the Audit Committee of the Board of Directors who is "independent" of management within the definition of such term in the Securities Exchange Act of 1934, as amended, and the listing requirements of the American Stock Exchange. Robert H. Masson, a member of the Board of Directors and the Chairman of its Audit Committee, is the "audit committee financial expert" serving on the Company's Audit Committee. (d) Code of Ethics The Company has adopted a code of ethics that applies to the Company's principal executive officer, principal financial officer and principal accounting officer and other persons performing similar functions. A copy of the code of ethics has been filed as an Exhibit to this Annual Report on Form 10-K. (e) Section 16(a) Beneficial Ownership Reporting Compliance Section 16(a) of the Securities Exchange Act of 1934 requires officers, directors and beneficial owners of more than 10% of the Company's shares to file reports with the Securities and Exchange Commission and the American Stock Exchange. Based solely on a review of the reports and representations furnished to the 88 Company during the last fiscal year by such persons, the Company believes that each of these persons is in compliance with all applicable filing requirements except for Messrs. Kingsford, Lengers and Lipner, who each failed to file one report in a timely fashion. ITEM 11. EXECUTIVE COMPENSATION The information required by this item is incorporated by reference from the Company's definitive proxy statement to be filed by the Company pursuant to Regulation 14A. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS The information required by this item is incorporated by reference from the Company's definitive proxy statement to be filed by the Company pursuant to Regulation 14A. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this item is incorporated by reference from the Company's definitive proxy statement to be filed by the Company pursuant to Regulation 14A. ITEM 14. CONTROLS AND PROCEDURES Within 90 days prior to the filing of this report, an evaluation was carried out under the supervision and with the participation of the Company's management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as such term is defined in Rules 13a-14c and 15d-14(c) under the Securities Exchange Act of 1934, as amended). Based upon that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the design and operation of the Company's disclosure controls and procedures were effective. No significant changes were made in the Company's internal controls or in other factors that could significantly affect these controls subsequent to the date of the evaluation. 89 PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this report:
PAGE NO. ---- 1. Index to Financial Statements Report of Independent Public Accountants -- Hanover Direct, Inc. and Subsidiaries Financial Statements........................... 38 Consolidated Balance Sheets as of December 28, 2002 and December 29, 2001........................................... 39 Consolidated Statements of Income (Loss) for the years ended December 28, 2002, December 29, 2001 and December 30, 2000........................................................ 40 Consolidated Statements of Cash Flows for the years ended December 28, 2002, December 29, 2001 and December 30, 2000........................................................ 41 Consolidated Statements of Shareholders' Deficiency for the years ended December 28, 2002, December 29, 2001 and December 30, 2000........................................... 42 Notes to Consolidated Financial Statements for the years ended December 28, 2002, December 29, 2001 and December 30, 2000........................................................ 43 Supplementary Data: Selected quarterly financial information (unaudited) for the two fiscal years ended December 28, 2002 and December 29, 2001........................................................ 82 2. Index to Financial Statement Schedule Schedule II -- Valuation and Qualifying Accounts for the years ended December 28, 2002, December 29, 2001 and December 30, 2000........................................... 83 Schedules other than that listed above are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto. 3. Exhibits The exhibits required by Item 601 of Regulation S-K filed as part of, or incorporated by reference in, this report are listed in the accompanying Exhibit Index found after the Signature page.
(b) Reports on Form 8-K: 1.1 Form 8-K, filed October 2, 2002 -- reporting pursuant to Item 5 of such Form the appointment of Mr. Brian C. Harriss as Executive Vice President -- Human Resources and Legal and Secretary of the Company, effective December 2, 2002, and the resignation of Charles F. Messina as Executive Vice President, Chief Administrative Officer and Secretary of the Company, effective September 30, 2002. 1.2 Form 8-K, filed October 2, 2002 -- reporting pursuant to Item 5 of such Form the integration of the Company's Domestications and The Company Store divisions. 1.3 Form 8-K, filed October 30, 2002 -- reporting pursuant to Item 5 of such Form that pursuant to a previously signed, ordinary course, multi-year strategic alliance with Amazon.com, Amazon.com had begun to offer Hanover Direct merchandise to some customers through a preview site on Amazon.com. 1.4 Form 8-K, filed November 6, 2002 -- reporting pursuant to Item 5 of such Form scheduling information regarding its conference call with management to review the fiscal year 2002 third quarter and nine months operating results. 1.5 Form 8-K, filed November 7, 2002 -- reporting pursuant to Item 5 of such Form the issuance of two press releases announcing that, pursuant to a previously signed, ordinary course, multi- 90 year strategic alliance with Amazon.com, Amazon.com had begun to offer the Company's merchandise to all its customers through the formal launch of its Apparel & Accessories Store. 1.6 Form 8-K, filed November 7, 2002 -- reporting pursuant to Item 5 of such Form scheduling information regarding its conference call with management to review the fiscal year 2002 third quarter and year-to-date operating results. 1.7 Form 8-K, filed November 8, 2002 -- reporting pursuant to Item 9 of such Form a change to previous guidance given by the Company regarding the anticipated level of its EBITDA and sales for its 2002 fiscal year to $7 million in EBITDA and $450 million in sales. 1.8 Form 8-K, filed November 8, 2002 -- reporting pursuant to Item 9 of such Form the issuance of a press release announcing operating results for the thirteen and thirty-nine weeks ended September 28, 2002. 1.9 Form 8-K, filed November 12, 2002 -- reporting pursuant to Item 9 of such Form an unofficial transcript of its conference call with management to review the fiscal year 2002 first half operating results and a press release announcing operating results for the thirteen and twenty-six weeks ended June 29, 2002. 1.10 Form 8-K, filed November 21, 2002 -- reporting pursuant to Item 5 of such Form the receipt by the Company of a letter from the American Stock Exchange (the "Exchange") updating its position regarding the Company's compliance with certain of the Exchange's continued listing standards as set forth in Part 10 of the Amex Company Guide. 1.11 Form 8-K, filed November 21, 2002 -- reporting pursuant to Item 5 of such Form the conclusion by the Company's management and Board of Directors that it is unlikely that the Company will be able to accumulate sufficient capital, surplus, or other assets under Delaware corporate law or to obtain sufficient debt financing to either redeem at least 811,056 shares of the Series B Preferred Stock by August 31, 2003, or redeem all of the shares of Series B Preferred Stock by August 31, 2005. 1.12 Form 8-K, filed December 30, 2002 -- reporting pursuant to Item 5 of such Form the election of Mr. Robert H. Masson as a member of the Board of Directors of the Company effective January 1, 2003, and the resignation of Mr. J. David Hakman as a member of the Board of Directors of the Company effective December 31, 2002. 1.13 Form 8-K, filed January 29, 2003 -- reporting pursuant to Item 5 of such Form the issuance of a press release announcing unaudited revenue results for the fiscal year ended December 28, 2002 and the expansion of the Company's brand offerings with Amazon.com during the first quarter of 2003. 1.14 Form 8-K, filed January 30, 2003 -- reporting pursuant to Item 5 of such Form the receipt of a letter from the American Stock Exchange (the "Exchange") confirming that, as of the date of the letter, the Company had evidenced compliance with the requirements necessary for continued listing on the Exchange. 1.15 Form 8-K, filed March 20, 2003 -- reporting pursuant to Item 5 of such Form scheduling information regarding its conference call with management to review the fiscal year 2002 operating results. 91 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. Date: March 25, 2003 HANOVER DIRECT, INC. (Registrant) By: /s/ THOMAS C. SHULL ------------------------------------ Thomas C. Shull, Chairman of the Board, President and Chief Executive Officer (On behalf of the registrant and as principal executive officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated and on the date indicated below. Principal Officers: /s/ EDWARD M. LAMBERT - ----------------------------------------------------- Edward M. Lambert, Executive Vice President and Chief Financial Officer (principal financial officer) /s/ WILLIAM C. KINGSFORD - ----------------------------------------------------- William C. Kingsford, Vice President and Corporate Controller (principal accounting officer)
Board of Directors: /s/ THOMAS C. SHULL - ----------------------------------------------------- Thomas C. Shull, Director /s/ ROBERT H. MASSON - ----------------------------------------------------- Robert H. Masson, Director /s/ BASIL P. REGAN - ----------------------------------------------------- Basil P. Regan, Director /s/ E. PENDLETON JAMES - ----------------------------------------------------- E. Pendleton James, Director /s/ KENNETH J. KRUSHEL - ----------------------------------------------------- Kenneth J. Krushel, Director
Date: March 25, 2003 92 CERTIFICATIONS I, Edward M. Lambert, certify that: 1. I have reviewed this annual report on Form 10-K of Hanover Direct, Inc.; 2. Based on my knowledge, this annual 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 annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual 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 annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of the registrant's board of directors: a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; 6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. /s/ EDWARD M. LAMBERT -------------------------------------- Edward M. Lambert Executive Vice President and Chief Financial Officer Date: March 25, 2003 93 CERTIFICATIONS I, Thomas C. Shull, certify that: 1. I have reviewed this annual report on Form 10-K of Hanover Direct, Inc.; 2. Based on my knowledge, this annual 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 annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual 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 annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of the registrant's board of directors: a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; 6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. /s/ THOMAS C. SHULL -------------------------------------- Thomas C. Shull President and Chief Executive Officer Date: March 25, 2003 94 EXHIBIT INDEX
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 2.1 Letter agreement, dated December 21, 1999, between the Company and FAR Services, LLC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 2.2 The Shopper's Edge, LLC Purchase Agreement, dated as of December 25, 1999, between Hanover Brands, Inc. and Far Services, LLC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 2.3 Asset Purchase Agreement, dated as of June 13, 2001, among the Company, LWI Holdings, Inc., HSN LP, HSN Improvements, LLC and HSN Catalog Services, Inc. Incorporated by reference to the Company's Current Report on Form 8-K filed August 9, 2001. 2.4 Amendment No. 1, dated as of June 20, 2001, to the Asset Purchase Agreement, dated as of June 13, 2001, among the Company, LWI Holdings, Inc., HSN LP, HSN Improvements, LLC and HSN Catalog Services, Inc. Incorporated by reference to the Company's Current Report on Form 8-K filed August 9, 2001. 2.5 Agreement, dated as of December 19, 2001, between the Company and Richemont. Incorporated by reference to the Company's Current Report on Form 8-K filed December 20, 2001. 3.1 Restated Certificate of Incorporation. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 3.2 Certificate of Correction filed to correct a certain error in the Restated Certificate of Incorporation. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 26, 1998. 3.3 Certificate of Amendment to Certificate of Incorporation dated May 28, 1999. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 3.4 Certificate of Correction Filed to Correct a Certain Error in the Restated Certificate of Incorporation dated August 26, 1999. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 3.5 Certificate of Designations, Powers, Preferences and Rights of Series A Cumulative Participating Preferred Stock. Incorporated by reference to the Company's Current Report on Form 8-K filed August 30, 2000. 3.6 Certificate of Designations, Powers, Preferences and Rights of Series A Cumulative Participating Preferred Stock. Incorporated by reference to the Company's Current Report on Form 8-K filed August 30, 2000. 3.7 Certificate of the Designations, Powers, Preferences and Rights of Series B Participating Preferred Stock. Incorporated by reference to the Company's Current Report on Form 8-K filed December 20, 2001. 3.8 Certificate of Elimination of the Series A Cumulative Participating Preferred Stock. Incorporated by reference to the Company's Current Report on Form 8-K filed December 20, 2001. 3.9 By-laws. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 27, 1997. 4.1 Registration Rights Agreement between the Company and Richemont dated as of August 23, 2000. Incorporated by reference to the Company's Current Report on Form 8-K filed August 30, 2000.
95
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.1 Registration Rights Agreement between the Company and Rakesh K. Kaul, dated as of August 23, 1996. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.2 Form of Indemnification Agreement among the Company* and each of the Company's directors and executive officers. Incorporated by reference to the Company's* Current Report on Form 8-K dated October 25, 1991. 10.3 Hanover Direct, Inc. Savings Plan as amended. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended January 1, 1994. 10.4 Restricted Stock Award Plan. Incorporated by reference to the Company's* Registration Statement on Form S-8 filed on February 24, 1993, Registration No. 33-58760. 10.5 All Employee Equity Investment Plan. Incorporated by reference to the Company's* Registration Statement on Form S-8 filed on February 24, 1993, Registration No. 33-58756. 10.6 Executive Equity Incentive Plan, as amended. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.7 Form of Supplemental Retirement Plan. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended January 1, 1994. 10.8 1996 Stock Option Plan, as amended. Incorporated by reference to the Company's 1997 Proxy Statement. 10.9 1999 Stock Option Plan for Directors. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 10.10 2000 Management Stock Option Plan. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 10.11 2002 Stock Option Plan for Directors. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 29, 2001. 10.12 Amendment No. 1 to 2002 Stock Option Plan for Directors. FILED HEREWITH. 10.13 Form of Stock Option Agreement under 2002 Stock Option Plan for Directors. FILED HEREWITH. 10.14 Hanover Direct, Inc. Key Executive Eighteen Month Compensation Continuation Plan. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2001. 10.15 Amendment No. 1 to the Hanover Direct, Inc. Key Executive Eighteen Month Compensation Continuation Plan, dated as of June 1, 2001. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2001. 10.16 Amendment No. 2 to the Hanover Direct, Inc. Key Executive Eighteen Month Compensation Continuation Plan, effective as of August 1, 2001. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 30, 2002. 10.17 Hanover Direct, Inc. Key Executive Twelve Month Compensation Continuation Plan. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2001.
96
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.18 Amendment No. 1 to the Hanover Direct, Inc. Key Executive Twelve Month Compensation Continuation Plan, effective as of August 1, 2001. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 30, 2002. 10.19 Hanover Direct, Inc. Key Executive Six Month Compensation Continuation Plan. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2001. 10.20 Amendment No. 1 to the Hanover Direct, Inc. Key Executive Six Month Compensation Continuation Plan, effective as of August 1, 2001. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 30, 2002. 10.21 Hanover Direct, Inc. Directors Change of Control Plan. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2001. 10.22 Amendment No. 1 to the Hanover Direct, Inc. Directors Change of Control Plan, effective as of August 1, 2001. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 30, 2002. 10.23 Loan and Security Agreement dated as of November 14, 1995 by and among Congress Financial Corporation ("Congress"), HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Inc. ("The Company Store") , Tweeds, Inc. ("Tweeds"), LWI Holdings, Inc. ("LWI"), Aegis Catalog Corporation ("Aegis"), Hanover Direct Virginia, Inc. ("HDVA") and Hanover Realty Inc. ("Hanover Realty"). Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 30, 1995. 10.24 First Amendment to Loan and Security Agreement dated as of February 22, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.25 Second Amendment to Loan and Security Agreement dated as of April 16, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.26 Third Amendment to Loan and Security Agreement dated as of May 24, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.27 Fourth Amendment to Loan and Security Agreement dated as of May 31, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.28 Fifth Amendment to Loan and Security Agreement dated as of September 11, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996.
97
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.29 Sixth Amendment to Loan and Security Agreement dated as of December 5, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.30 Seventh Amendment to Loan and Security Agreement dated as of December 18, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.31 Eighth Amendment to Loan and Security Agreement dated as of March 26, 1997 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 26, 1998. 10.32 Ninth Amendment to Loan and Security Agreement dated as of April 18, 1997 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 26, 1998. 10.33 Tenth Amendment to Loan and Security Agreement dated as of October 31, 1997 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 26, 1998. 10.34 Eleventh Amendment to Loan and Security Agreement dated as of March 25, 1998 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 26, 1998. 10.35 Twelfth Amendment to Loan and Security Agreement dated as of September 30, 1998 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 10.36 Thirteenth Amendment to Loan and Security Agreement dated as of September 30, 1998 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 10.37 Fourteenth Amendment to Loan and Security Agreement dated as of February 28, 2000 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 10.38 Fifteenth Amendment to Loan and Security Agreement dated as of March 24, 2000 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, LWI, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Keystone Internet Services, Inc., Tweeds, LLC, Silhouettes, LLC, Hanover Company Store, LLC and Domestications, LLC. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000.
98
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.39 Sixteenth Amendment to Loan and Security Agreement dated as of August 8, 2000 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, LWI, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Keystone Internet Services, Inc., Tweeds, LLC, Silhouettes, LLC, Hanover Company Store, LLC and Domestications, LLC. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 24, 2000. 10.40 Seventeenth Amendment to Loan and Security Agreement dated as of January 5, 2001 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, LWI, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Keystone Internet Services, Inc., Tweeds, LLC, Silhouettes, LLC, Hanover Company Store, LLC and Domestications, LLC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 30, 2000. 10.41 Eighteenth Amendment to Loan and Security Agreement, dated as of November 12, 2001, among Congress, HDPA, Brawn, Gump's by Mail, Gump's, LWI, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Keystone Internet Services, Inc., Tweeds, LLC, Silhouettes, LLC, Hanover Company Store, LLC and Domestications, LLC. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 29, 2001. 10.42 Nineteenth Amendment to Loan and Security Agreement, dated as of December 18, 2001, by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, LWI, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Keystone Internet Services, Inc., Tweeds, LLC, Silhouettes, LLC, Hanover Company Store, LLC and Domestications, LLC. Incorporated by reference to the Company's Current Report on Form 8-K filed December 20, 2001. 10.43 Twentieth Amendment to Loan and Security Agreement, dated as of March 5, 2002, by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Keystone Internet Services, Inc., Silhouettes, LLC, Hanover Company Store, LLC and Domestications, LLC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 29, 2001. 10.44 Twenty-first Amendment to Loan and Security Agreement, dated as of March , 2002, among Congress, HDPA, Brawn, Gump's by Mail, Gump's, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Keystone Internet Services, Inc., Silhouettes, LLC, Hanover Company Store, LLC and Domestications, LLC. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 29, 2001. 10.45 Twenty-second Amendment to Loan and Security Agreement, dated as of August 16, 2002, among Congress, HDPA, Brawn, Gump's by Mail, Gump's, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Silhouettes, LLC, Hanover Company Store, LLC, Domestications, LLC and Keystone Internet Services, Inc. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 29, 2002.
99
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.46 Twenty-third Amendment to Loan and Security Agreement, dated as of December 27, 2002, among Congress, HDPA, Brawn, Gump's by Mail, Gump's, HDVA, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Silhouettes, LLC, Hanover Company Store, LLC, Domestications, LLC, Keystone Internet Services, Inc., Keystone Internet Services, LLC and The Company Store Group, LLC. FILED HEREWITH. 10.47 Twenty-fourth Amendment to Loan and Security Agreement, dated as of February 28, 2003, among Congress, Brawn, Gump's by Mail, Gump's, Hanover Realty, The Company Store Factory, Inc., The Company Office, Inc., Silhouettes, LLC, Hanover Company Store, LLC, Domestications, LLC, Keystone internet Services, LLC and The Company Store Group, LLC. FILED HEREWITH. 10.48 Long-Term Incentive Plan for Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.49 Short-Term Incentive Plan for Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.50 Tandem Option Plan dated as of August 23, 1996 between the Company and Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.51 Closing Price Option dated as of August 23, 1996 between the Company and Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.52 Performance Price Option dated as of August 23, 1996 between the Company and Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.53 Six-Year Stock Option dated as of August 23, 1996 between NAR and Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.54 Seven-Year Stock Option dated as of August 23, 1996 between NAR and Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.55 Eight-Year Stock Option dated as of August 23, 1996 between NAR and Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.56 Nine-Year Stock Option dated as of August 23, 1996 between NAR and Rakesh K. Kaul. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 28, 1996. 10.57 Account Purchase and Credit Card Marketing and Services Agreement, dated as of March 9, 1999, between the Company and Capital One Services, Inc. and Capital One Bank. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 25, 1999. 10.58 Addendum to Account Purchase and Credit Card Marketing and Services Agreement, dated as of July 7, 1999, between the Company and Capital One Services, Inc. and Capital One Bank. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 29, 2001. 10.59 Employment Agreement dated as of March 6, 2000 between the Company and Rakesh K. Kaul. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000.
100
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.60 Credit Agreement, dated as of March 24, 2000, by and among the Company, HDPA, Brawn, Gump's By Mail, Gump's, LWI, HDVA, Keystone Internet Services, Inc., Tweeds, LLC, Silhouettes, LLC, Hanover Company Store, LLC, Domestications, LLC and Richemont. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000. 10.61 Subordination Agreement dated as of March 24, 2000, between Congress and Richemont. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000. 10.62 Letter Agreement, dated as of March 24, 2000, between Richemont and Congress. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000. 10.63 Amended and Restated Stock Option Agreement dated as of April 14, 2000 between the Company and Rakesh K. Kaul. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000. 10.64 Stock Option Agreement dated as of April 14, 2000 between erizon, Inc. and Rakesh K. Kaul. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000. 10.65 Hanover Direct, Inc. Key Executive Thirty-Six Month Compensation Continuation Plan. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000. 10.66 Hanover Direct, Inc. Key Executive Twenty-Four Month Compensation Continuation Plan. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 25, 2000. 10.67 Intercompany Services Agreement by and between erizon, Inc. and Hanover Brands, Inc. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 24, 2000. 10.68 Amendment to Intercompany Services Agreement by and between Hanover Brands, Inc. and erizon, Inc. effective as of December 27, 2000. Incorporated by reference to the Company's Current Report on Form 8-K filed January 22, 2001. 10.69 Commitment Letter dated August 7, 2000 between the Company and Richemont. Incorporated by reference to the Company's Current Report on Form 8-K filed August 10, 2000. 10.70 Securities Purchase Agreement between the Company and Richemont dated as of August 23, 2000. Incorporated by reference to the Company's Current Report on Form 8-K filed August 30, 2000. 10.71 Services Agreement dated as of December 5, 2000 among Meridian Ventures, LLC, Thomas C. Shull and the Company. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 30, 2000. 10.72 Stock Option Agreement made as of December 5, 2000 by the Company in favor of Thomas C. Shull. FILED HEREWITH. 10.73 Amendment No. 1 dated as of September 1, 2002 to Stock Option Agreement between the Company and Thomas C. Shull. FILED HEREWITH. 10.74 First Amendment of Services Agreement made as of the 23rd day of April 2001, by and among the Company, Thomas C. Shull and Meridian Ventures, LLC. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2001.
101
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.75 Letter Agreement dated as of April 30, 2001 between the Company, Thomas C. Shull and Meridian Ventures, LLC. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2001. 10.76 Agreement dated May 14, 2001 between Hanover Direct, Inc. and Thomas C. Shull. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 29, 2001. 10.77 Amendment No. 1 to Agreement dated May 14, 2001 between Hanover Direct, Inc. and Thomas C. Shull. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 29, 2002. 10.78 Services Agreement dated as of August 1, 2001 by and among Meridian Ventures, LLC, Thomas C. Shull and the Company. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 29, 2001. 10.79 Services Agreement dated as of December 14, 2001 by and among Meridian Ventures, LLC, Thomas C. Shull and the Company. Incorporated by reference to the Company's Current Report on Form 8-K filed December 14, 2001. 10.80 Amendment No. 1 of Services Agreement made as of the 23rd day of April, 2002, by and among the Company, Thomas C. Shull and Meridian Ventures, LLC. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 30, 2002. 10.81 Stock Option Agreement made as of December 14, 2001 by the Company in favor of Thomas C. Shull. FILED HEREWITH. 10.82 Amendment No. 1 dated as of September 1, 2002 to Stock Option Agreement between the Company and Thomas C. Shull. FILED HEREWITH. 10.83 Employment Agreement dated as of September 1, 2002 between Thomas C. Shull and the Company. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 29, 2002. 10.84 Amendment No. 1 to Employment Agreement dated as of September 1, 2002 between Thomas C. Shull and the Company. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 28, 2002. 10.85 Final form of letter agreement between the Company and certain Level 8 executive officers. Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 28, 2002. 10.86 Form of Transaction Bonus Letter. FILED HEREWITH. 10.87 Agreement, dated as of December 19, 2001, between the Company and Richemont. Incorporated by reference to the Company's Current Report on Form 8-K filed December 20, 2001. 10.88 Release, dated December 19, 2001, executed by the Company in favor of Richemont and others. Incorporated by reference to the Company's Current Report on Form 8-K filed December 20, 2001. 10.89 Indemnification Agreement, dated as of December 19, 2001 between the Company and Richemont. Incorporated by reference to the Company's Current Report on Form 8-K filed December 20, 2001. 10.90 Hanover Direct, Inc. Savings and Retirement Plan, as amended and restated as of July 1, 1999. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 29, 2001. 10.91 First Amendment to the Hanover Direct, Inc. Savings and Retirement Plan, effective March 1, 2002. Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 29, 2001.
102
EXHIBIT NUMBER ITEM 601 OF REGULATION S-K DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE - -------------- ----------------------------------------------------------------------- 10.92 Hanover Direct, Inc. and Subsidiaries Code of Ethics. FILED HEREWITH. 21.1 Subsidiaries of the Registrant. FILED HEREWITH. 23.1 Consent of Independent Public Accountants. FILED HEREWITH. 99.1 Certification signed by Thomas C. Shull. FILED HEREWITH. 99.2 Certification signed by Edward M. Lambert. FILED HEREWITH.
- --------------- * Hanover Direct, Inc., a Delaware corporation, is the successor by merger to The Horn & Hardart Company and The Hanover Companies. 103 EX-10.12 3 y84434exv10w12.txt AMENDMENT NO. 1 TO 2002 STOCK OPTION PLAN EXHIBIT 10.12 AMENDMENT TO THE HANOVER DIRECT, INC. 2002 STOCK OPTION PLAN FOR DIRECTORS Amendment Number 1 WHEREAS, Hanover Direct, Inc. (the "Company") maintains the Hanover Direct, Inc. 2002 Stock Option Plan for Directors (the "Plan"); and WHEREAS, pursuant to Section 15 of the Plan, the Company's Board of Directors (the "Board") or a duly authorized committee thereof has the right at any time to amend the Plan (except under certain circumstances set forth in said Section 15 which are not applicable in the instant case); and WHEREAS, the Board now desires to amend the Plan; NOW, THEREFORE, the Plan is hereby amended, effective as of January 1, 2003, as follows: FIRST: Section 5(b) of the Plan is hereby amended to read in its entirety as follows: "(b) ANNUAL SERVICE AWARDS. On each Award Date (as hereinafter defined) occurring after a Non-Employee Director's Initial Appointment Date, such Non-Employee Director shall be granted, provided he or she continues to serve as a member of the Board on such date, an Option to purchase 35,000 shares of Common Stock (subject to adjustment pursuant to Section 13). An `Award Date' means August 1, 2003 and August 3, 2004." SECOND: Except to the extent hereinabove set forth, the Plan shall remain in full force and effect without change or modification. IN WITNESS WHEREOF, and as evidence of the adoption of the foregoing, the Company has caused this Amendment Number 1 to be executed by a duly authorized officer this 7th day of November, 2002. HANOVER DIRECT, INC. By__________________________________ Name:_______________________________ Title:______________________________ EX-10.13 4 y84434exv10w13.txt FORM OF STOCK OPTION AGREEMENT EXHIBIT 10.13 FORM OF STOCK OPTION AGREEMENT under the HANOVER DIRECT, INC. 2002 Stock Option Plan for Directors STOCK OPTION AGREEMENT (this "Agreement") made and entered into as of the ___ day of ______, 200_, by and between Hanover Direct, Inc., a Delaware corporation (the "Company"), and ___________ (the "Optionee"). WITNESSETH: WHEREAS, the Board of Directors of the Company (or a duly authorized committee thereof) has adopted the Hanover Direct, Inc. 2002 Stock Option Plan for Directors (as amended, the "Plan"); WHEREAS, the Plan provides for the automatic granting of Options to Non-Employee Directors of the Company, including the Optionee, at such times and with respect to such number of shares of common stock, par value $0.66-2/3 per share (the "Common Stock"), of the Company as are set forth in the Plan; WHEREAS, the parties hereto desire to enter into this Agreement to evidence the granting of an Option in accordance with the terms of the Plan, subject to stockholder ratification of the adoption of the Plan and to all of the terms and conditions contained in this Agreement and in the Plan. NOW, THEREFORE, it is agreed by and between the parties hereto as follows: 1. Unless otherwise defined herein, capitalized terms used herein shall have the meanings ascribed thereto in the Plan. 2. The Company hereby evidences and confirms its grant to the Optionee on ______, 2003 (the "Date of Grant"), as [an initial appointment award] [an annual service award], of an option (the "Option") to purchase [50,000] [35,000] shares of Common Stock (the "Option Shares") at an Option price of $____. The Option shall expire on the tenth anniversary of the Date of Grant (the "Expiration Date"), subject to earlier termination as provided in the Plan and in this Agreement. 3. Subject to the other provisions of the Plan and this Agreement regarding the exercisability of the Option, this Option may be exercised in whole or in part as provided in this Section 3. As of the date of the first, second, and third anniversaries of the Date of Grant, the Optionee shall, provided he was a director of the Company immediately prior to such anniversary date, have the cumulative right to purchase up to one-third, two-thirds, and 100%, respectively, of the Option Shares; provided, however, that in the event of a Change of Control (as such term is defined in the Hanover Direct, Inc. Key Executive Twenty-Four Month Compensation Continuation Plan), the Optionee shall have the cumulative right to purchase up to 100% of the Option Shares. In no event may the Option be exercised in whole or in part after the Expiration Date. 4. In the event the Optionee ceases to serve as a director of the Company for any reason other than death or disability, the Option may not be exercised more than three months after the first date on which the Optionee ceases to be a director of the Company. In the event the Optionee ceases to be a director of the Company by reason of death or disability, the Option may not be exercised more than twelve (12) months after the date of termination of the Optionee's services as a director of the Company. In all such circumstances, the Option may be exercised only with respect to such number of Option Shares as to which the right of exercise had accrued as of the date of such termination. 5. The Option is not transferable by the Optionee other than by will or the laws of descent and distribution and is exercisable, during the Optionee's lifetime, only by the Optionee, except that the Optionee may transfer the Option or any part thereof (but in no event with respect to less than 500 Option Shares) to the Optionee's spouse, children, grandchildren, parents, and/or siblings or to one or more trusts for the benefit of such family members, if the Optionee does not receive any consideration for the transfer; provided that the Option shall continue to be subject to the same terms and conditions that were applicable to the Option immediately prior to its transfer (except that the Option shall not be further transferable by the transferee during the transferee's lifetime). 7. The Option shall be exercised only with respect to full shares of Common Stock; no fractional shares shall be issued. 8. The Option granted hereunder is a nonqualified stock option that is not intended to qualify as an incentive stock option under Section 422 of the Internal Revenue Code of 1986, as amended. 9. All the terms and provisions of the Plan, a copy of which is attached hereto as Annex A, are hereby expressly incorporated into this Agreement and made a part hereof as if printed herein. 10. This Agreement shall be binding upon and shall inure to the benefit of any successor or assignee of the Company and to any executor, administrator, legal representative, legatee or distributee entitled by law to the Optionee's rights hereunder. 11. This Agreement shall be construed and enforced in accordance with the laws of the State of New York. IN WITNESS WHEREOF, the Company has caused this Agreement to be executed by its duly authorized officer and the Optionee has duly executed this Agreement as of the date first above written. HANOVER DIRECT, INC. By: ________________________________ Name: Title: ____________________________________ Name: Optionee EX-10.46 5 y84434exv10w46.txt AMENDMENT TO LOAN AND SECURITY AGREEMENT EXHIBIT 10.46 [Execution Version] TWENTY-THIRD AMENDMENT TO LOAN AND SECURITY AGREEMENT THIS TWENTY-THIRD AMENDMENT TO LOAN AND SECURITY AGREEMENT (this "Amendment"), dated as of December 27, 2002, is entered into by and among CONGRESS FINANCIAL CORPORATION, a Delaware corporation ("Lender"), HANOVER DIRECT PENNSYLVANIA, INC., a Pennsylvania corporation ("HDPI"), BRAWN OF CALIFORNIA, INC., a California corporation ("Brawn"), GUMP'S BY MAIL, INC., a Delaware corporation ("GBM"), GUMP'S CORP., a California corporation ("Gump's"), HANOVER DIRECT VIRGINIA INC., a Delaware corporation ("HDV"), HANOVER REALTY, INC., a Virginia corporation ("Hanover Realty"), THE COMPANY STORE FACTORY, INC., a Delaware corporation ("TCS Factory"), THE COMPANY OFFICE, INC., a Delaware corporation ("TCS Office"), SILHOUETTES, LLC, a Delaware limited liability company ("Silhouettes LLC"), HANOVER COMPANY STORE, LLC, a Delaware limited liability company ("HCS LLC"), DOMESTICATIONS, LLC, a Delaware limited liability company ("Domestications LLC"), KEYSTONE INTERNET SERVICES, INC., a Delaware corporation ("Keystone Internet"; and together with HDPI, Brawn, GBM, Gump's, HDV, Hanover Realty, TCS Factory, TCS Office, Silhouettes LLC, HCS LLC and Domestications LLC, collectively, "Existing Borrowers" and each individually, an "Existing Borrower"), HANOVER DIRECT, INC., a Delaware corporation ("Hanover"), AMERICAN DOWN & TEXTILE COMPANY, a Wisconsin corporation ("American Down"), D.M. ADVERTISING, INC., a New Jersey corporation ("DM Advertising"), KEYSTONE LIQUIDATIONS, INC., a Delaware corporation, formerly known as Tweeds of Vermont, Inc. ("Keystone Liquidations"), HANOVER HOME FASHIONS GROUP, LLC, a Delaware limited liability company ("HHFG LLC"), ENCORE CATALOG, LLC, a Delaware limited liability company ("Encore LLC"), CLEARANCE WORLD OUTLETS, LLC, a Delaware limited liability company ("Clearance World"), SCANDIA DOWN, LLC, a Delaware limited liability company ("Scandia Down LLC"), ERIZON, INC., a Delaware corporation ("erizon, inc."), HANOVER BRANDS, INC., a Delaware corporation ("Hanover Brands"), LACROSSE FULFILLMENT, LLC, a Delaware limited liability company ("LaCrosse LLC"), SAN DIEGO TELEMARKETING, LLC, a Delaware limited liability company ("San Diego LLC"), D.M. ADVERTISING, LLC, a Delaware limited liability company ("DM Advertising LLC"; and together with Hanover, American Down, DM Advertising, Keystone Liquidations, HHFG LLC, Encore LLC, Clearance World, Scandia Down LLC, erizon, inc., Hanover Brands, LaCrosse LLC and San Diego LLC, collectively, "Existing Guarantors" and each individually, an "Existing Guarantor"), KEYSTONE INTERNET SERVICES, LLC, a Delaware limited liability company ("KIS LLC", as hereinafter further defined), THE COMPANY STORE GROUP, LLC, a Delaware limited liability company ("CSG LLC", as hereinafter further defined), AMERICAN DOWN & TEXTILE, LLC, a Delaware limited liability company ("ADT LLC", as hereinafter further defined) and HANOVER GIFTS, INC., a Virginia corporation ("Hanover Gifts", as hereinafter further defined). Each Existing Borrower, together with KIS LLC and CSG LLC, shall hereinafter be referred to individually as a "Borrower" and collectively as "Borrowers", and each Existing Guarantor, together with ADT LLC and Hanover Gifts, shall hereinafter be referred to individually as a "Guarantor" and collectively as "Guarantors". W I T N E S S E T H: WHEREAS, Existing Borrowers, Existing Guarantors and Lender are parties to the Loan and Security Agreement, dated November 14, 1995, as amended by the First Amendment to Loan and Security Agreement, dated February 22, 1996, the Second Amendment to Loan and Security Agreement, dated April 16, 1996, the Third Amendment to Loan and Security Agreement, dated May 24, 1996, the Fourth Amendment to Loan and Security Agreement, dated May 31, 1996, the Fifth Amendment to Loan and Security Agreement, dated September 11, 1996, the Sixth Amendment to Loan and Security Agreement, dated as of December 5, 1996, the Seventh Amendment to Loan and Security Agreement, dated as of December 18, 1996, the Eighth Amendment to Loan and Security Agreement, dated as of March 26, 1997, the Ninth Amendment to Loan and Security Agreement, dated as of April 18, 1997, the Tenth Amendment to Loan and Security Agreement, dated as of October 31, 1997, the Eleventh Amendment to Loan and Security Agreement, dated as of March 25, 1998, the Twelfth Amendment to Loan and Security Agreement, dated as of September 30, 1998, the Thirteenth Amendment to Loan and Security Agreement, dated as of September 30, 1998, the Fourteenth Amendment to Loan and Security Agreement, dated as of February 28, 2000, the Fifteenth Amendment to Loan and Security Agreement, dated as of March 24, 2000, the Sixteenth Amendment to Loan and Security Agreement, dated as of August 8, 2000, the Seventeenth Amendment to Loan and Security Agreement, dated as of January 5, 2001, the Eighteenth Amendment to Loan and Security Agreement, dated as of November 12, 2001, the Nineteenth Amendment to Loan and Security Agreement, dated as of December 18, 2001, the Twentieth Amendment to Loan and Security Agreement, dated as of March 5, 2002, the Twenty-First Amendment to Loan and Security Agreement, dated as of March 21, 2002, and the Twenty-Second Amendment to Loan and Security Agreement, dated as of August 16, 2002 (as so amended, the "Loan Agreement"), pursuant to which Lender has made loans and advances to Existing Borrowers; WHEREAS, in connection with the Hanover 2002 Reorganization (as hereinafter defined), Existing Borrowers and Existing Guarantors have requested that each of KIS LLC and CSG LLC become a Revolving Loan Borrower pursuant to the terms and conditions of the Loan Agreement, as amended hereby, and that each of ADT LLC and Hanover Gifts become a Guarantor pursuant to the terms and conditions of the Loan Agreement and the other Financing Agreements, as amended hereby; WHEREAS, Existing Borrowers and Existing Guarantors have also requested that Lender, among other things (a) amend the definitions of Consolidated Working Capital, Consolidated Net Worth and EBITDA, (b) amend the amounts of Consolidated Working Capital, Consolidated Net Worth and EBITDA that Hanover and its Subsidiaries are required to maintain, (c) amend the Event of Default arising from a change of control, (d) amend the amount of the Inventory sublimits of Revolving Loan Borrowers and (e) consent to, and enter into certain other amendments to the Loan Agreement and the other Financing Agreements in connection with the Hanover 2002 Reorganization; and WHEREAS, the parties hereto desire to enter into this Amendment to evidence and effectuate such consents, amendments and agreements, and certain other amendments to the Financing Agreements relating thereto, in each case subject to the terms and conditions and to the extent set forth - 2 - herein; NOW, THEREFORE, in consideration of the premises and covenants set forth herein and other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto agree as follows: 1. Definitions. (a) Additional Definitions. As used herein or in any of the other Financing Agreements, the following terms shall have the meanings given to them below, and the Loan Agreement shall be deemed and is hereby amended to include, in addition and not in limitation, the following definitions: (i) "ADT LLC" shall mean American Down & Textile, LLC, a Delaware limited liability company, and its successors and assigns. (ii) "American Down Assets" shall mean all of the assets and properties that (A) are or were owned by American Down immediately before the consummation of the Hanover 2002 Reorganization as to American Down, and (B) are or have been owned or acquired by ADT LLC at any time on or after the effective date of the Hanover 2002 Reorganization as to American Down, which assets and properties are included within the general ledger of Hanover as "profit center 1640" as more particularly described on Schedule 1(a)(ii) hereto, including, without limitation, all Accounts, Inventory, Customer Lists and other General Intangibles so related, used or sold. (iii) "American Down/CSG LLC Merger" shall mean the merger of American Down with and into CSG LLC, with CSG LLC as the surviving limited liability company. (iv) "Collateral Access Agreement" shall mean an agreement in writing in the form of Exhibit I to the Loan Agreement, in form and substance satisfactory to Lender, from any lessor of premises to any Borrower, or any other person to whom any Collateral is consigned or who has custody, control or possession of any such Collateral or is otherwise the owner or operator of any premises on which any of such Collateral is located, pursuant to which such lessor, consignee or other person, among other things, (A) acknowledges the first priority security interest of Lender in such Collateral, (B) agrees to waive any and all claims such lessor, consignee or other person may, at any time, have against such Collateral, whether for processing, storage or otherwise, (C) agrees to permit Lender access to, and the right to remain on, the premises of such lessor, consignee or other person so as to exercise Lender's rights and remedies and otherwise deal with such Collateral, and (D) in the case of any consignee or other person who at any time has custody, control or possession of any Collateral, acknowledges that it holds and will hold possession of the Collateral for the benefit of Lender and agrees to follow all instructions of Lender with respect thereto. (v) "CSG LLC" shall mean The Company Store Group, LLC, a Delaware limited liability company, and its successors and assigns. (vi) "CSG LLC Mergers" shall mean, collectively, the American Down/CSG LLC - 3 - Merger, the DM Advertising/CSG LLC Merger, the erizon, inc./CSG LLC Merger, the Hanover Brands/CSG LLC Merger, the HDPI/CSG LLC Merger, the HDV/CSG LLC Merger, the Keystone Internet/CSG LLC Merger, the San Diego LLC/CSG LLC Merger, the Keystone Liquidations/CSG LLC Merger, the Encore/CSG LLC Merger and the Desius/CSG LLC Merger. (vii) "Deposit Account Control Agreement" shall mean an agreement in writing, in form and substance satisfactory to Lender, by and among Lender, the Borrower with a deposit account at any bank and the bank at which such deposit account is at any time maintained which provides that such bank will comply with instructions originated by Lender directing disposition of the funds in the deposit account without further consent by such Borrower and such other terms and conditions as Lender may in good faith require, including as to any such agreement with respect to any Blocked Account, providing that all items received or deposited in the Blocked Accounts are the property of Lender, that the bank has no lien upon, or right to setoff against, the Blocked Accounts, the items received for deposit therein, or the funds from time to time on deposit therein and that the bank will wire, or otherwise transfer, in immediately available funds, all funds received or deposited into the Blocked Accounts in accordance with the terms and conditions of the Loan Agreement and the other Financing Agreements. (viii) "Desius" shall mean Desius, LLC, a Delaware limited liability company, and its successors and assigns. (ix) "Desius/CSG LLC Merger" shall mean the merger of Desius with and into CSG LLC, with CSG LLC as the surviving limited liability company. (x) "DM Advertising/CSG LLC Merger" shall mean the merger of DM Advertising with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xi) "Encore/CSG LLC Merger" shall mean the merger of Encore with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xii) "erizon, inc./CSG LLC Merger" shall mean the merger of erizon, inc. with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xiii) "Hanover 2002 Reorganization" shall mean, individually and collectively, the mergers, reorganization steps and transactions effected under the Hanover 2002 Reorganization Agreements. (xiv) "Hanover 2002 Reorganization Agreements" shall mean, collectively, the agreements, documents and instruments listed in Schedule 1 hereto and all related agreements, documents and instruments executed, delivered or filed in connection with, or otherwise evidencing, each of the transactions consented to in Section 2 hereof as the same now exist or may hereafter be amended, modified, supplemented, extended, renewed, restated or replaced. (xv) "Hanover Brands/CSG LLC Merger" shall mean the merger of Hanover Brands - 4 - with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xvi) "Hanover Gifts" shall mean Hanover Gifts, Inc., a Virginia corporation, and its successors and assigns. (xvii) "HDPI/CSG LLC Merger" shall mean the merger of HDPI with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xviii) "HDV/CSG LLC Merger" shall mean the merger of HDV with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xix) "Intellectual Property" shall mean, as to each Borrower or Guarantor, such Borrower's or Guarantor's now owned and hereafter arising or acquired: (A) patents, patent rights, patent applications, copyrights, works which are the subject matter of copyrights, copyright registrations, trademarks, trade names, trade styles, trademark and service mark applications, and licenses and rights to use any of the foregoing; (B) all extensions, renewals, reissues, divisions, continuations, and continuations-in-part of any of the foregoing; (C) all rights to sue for past, present and future infringement of any of the foregoing; (D) inventions, trade secrets, formulae, processes, compounds, drawings, designs, blueprints, surveys, reports, manuals, and operating standards; (E) goodwill (including any goodwill associated with any trademark or the license of any trademark); (F) customer and other lists in whatever form maintained, including, without limitation the Customer Lists; (G) trade secret rights, copyright rights, rights in works of authorship, domain names and domain name registration; and (H) software and contract rights relating to computer software programs, in whatever form created or maintained; provided, however, the Intellectual Property shall not include any rights or interests in any customer lists or computer software if under the terms of the contract or license agreement with respect thereto, the grant of a security interest or lien therein to Lender is prohibited and such prohibition has not been or is not waived or the consent of the other party to such contract or license agreement has not been obtained or under applicable law such prohibition cannot be waived, except, the foregoing exclusion shall in no way be construed (1) to apply if any such prohibition is unenforceable under Sections 9-406, 9-407 or 9-408 of the UCC or other applicable law or (2) so as to limit, impair or otherwise affect Lender's unconditional continuing security interests in and liens upon any rights or interests of Borrowers and Guarantors in or to monies due or to become due under any such contract or license agreement (including any Receivables). (xx) "Kaul Litigation" shall mean the action originally commenced on June 28, 2001 by Rakesh Kaul against Hanover, entitled Rakesh K. Kaul v. Hanover Direct, Inc., Civil No. 01 Civ. 6810 (DC), presently pending before the United District Court for the Southern District of New York. (xxi) "Kaul Litigation Order" shall mean an order issued by the United District Court for the Southern District of New York in the Kaul Litigation with respect to (A) the summary judgment motion filed by Rakesh Kaul on or about June 28, 2002 regarding the Amended Complaint filed by Rakesh Kaul on September 21, 2001 and the Answer, Defenses, and Counterclaims to the Amended Complaint filed by Hanover on October 11, 2001 and (A) the summary judgment motion filed by Hanover on July 3, 2002 regarding the Amended Complaint filed by Rakesh Kaul on September 21, - 5 - 2001 and the Answer, Defenses, and Counterclaims to the Amended Complaint filed by Hanover on October 11, 2001. (xxii) "Keystone Internet/CSG LLC Merger" shall mean the merger of Keystone Internet with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xxiii) "Keystone Liquidations/CSG LLC Merger" shall mean the merger of Keystone Liquidations with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xxiv) "Keystone Internet Assets" shall mean all of the assets and properties that (A) are or were owned by Keystone Internet immediately before the consummation of the Hanover 2002 Reorganization as to Keystone Internet, and (B) are or have been owned or acquired by KIS LLC at any time on or after the effective date of the Hanover 2002 Reorganization as to Keystone Internet, which assets and properties were and are primarily related to or primarily used in connection with or arise from the Fulfillment Contract business of Keystone, including, without limitation, all Accounts, Fulfillment Contracts, Equipment, Customer Lists and other General Intangibles so related, used or sold. (xxv) "KIS LLC" shall mean Keystone Internet Services, LLC, a Delaware limited liability company, and its successors and assigns. (xxvi) "Multiemployer Plan" shall mean a "multi-employer plan" as defined in Section 4001(a)(3) of ERISA which is or was at any time during the current year or the immediately preceding six (6) years contributed to by any Borrower, Guarantor or any Affiliate that would be subject to ERISA. (xxvii) "Plan" means an employee benefit plan (as defined in Section 3(3) of ERISA) which any Borrower or Guarantor sponsors, maintains, or to which it makes, is making, or is obligated to make contributions, or in the case of a Multiemployer Plan has made contributions at any time during the immediately preceding six (6) plan years. (xxviii) "Receivables" shall mean all of the following now owned or hereafter arising or acquired property of each Borrower: (A) all Accounts, including, without limitation, all MasterCard/VISA Receivables and all other Credit Card Receivables, and all monies, credit balances and other amounts due from or through or held by Credit Card Issuers, or other parties to the Credit Card Agreements, all monies paid by or through the Private Credit Card Purchaser, all rentals or license fees receivable in respect of sale, lease, or license of Customer Lists, all monies, securities and other property and the proceeds thereof, now or hereafter held or received by, or in transit to, Lender from or for it, whether for safekeeping, pledge, custody, transmission, collection or otherwise, and all of its respective deposits (general or special), balances, sums and credits with Lender at any time existing; (B) all interest, fees, late charges, penalties, collection fees and other amounts due or to become due or otherwise payable in connection with any Account; (C) all payment intangibles of such Borrower; (D) letters of credit, indemnities, guarantees, security or other deposits and proceeds thereof issued payable to any Borrower or otherwise in favor of or delivered to any Borrower in connection with any Account; - 6 - or (E) all other accounts, contract rights, chattel paper, instruments, notes, general intangibles and other forms of obligations owing to any Borrower, whether from the sale and lease of goods or other property, licensing of any property (including Intellectual Property or other general intangibles), rendition of services or from loans or advances by any Borrower or to or for the benefit of any third person (including loans or advances to any Affiliates or Subsidiaries of any Borrower) or otherwise associated with any Accounts, Inventory or general intangibles of any Borrower (including, without limitation, choses in action, causes of action, tax refunds, tax refund claims, any funds which may become payable to any Borrower in connection with the termination of any Plan or other employee benefit plan and any other amounts payable to any Borrower from any Plan or other employee benefit plan, rights and claims against carriers and shippers, rights to indemnification, business interruption insurance and proceeds thereof, casualty or any similar types of insurance and any proceeds thereof, proceeds of insurance covering the lives of employees on which any Borrower is a beneficiary, catalogs and promotional materials, Customer Lists, and all right, title and interest in and to Mail Order Joint Ventures, and other joint ventures, partnerships and other Persons). (xxix) "Records" shall mean, as to each Borrower, all of such Borrower's present and future books of account of every kind or nature, purchase and sale agreements, invoices, ledger cards, bills of lading and other shipping evidence, statements, correspondence, memoranda, credit files and other data relating to the Collateral or any Account Debtor, together with the tapes, disks, diskettes and other data and software storage media and devices, file cabinets or containers in or on which the foregoing are stored (including any rights of any Borrower with respect to the foregoing maintained with or by any other person). (xxx) "San Diego LLC/CSG LLC Merger" shall mean the merger of San Diego LLC with and into CSG LLC, with CSG LLC as the surviving limited liability company. (xxxi) "Scandia Assets" shall mean all of the assets and properties that (A) are or were owned by American Down immediately before the consummation of the Hanover 2002 Reorganization as to American Down, and (B) are or have been owned or acquired by Scandia Down LLC at any time on or after the effective date of the Hanover 2002 Reorganization as to American Down, which assets and properties are included within the general ledger of Hanover as "profit center 1630" as more particularly described on Schedule 1(a)(xxxi) hereof, including, without limitation, all Accounts, Inventory, Customer Lists and other General Intangibles so related, used or sold. (b) Amendments to Definitions. (i) Accounts. All references to the term "Accounts" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, as to any Person, all present and future rights of such Person to payment of a monetary obligation, whether or not earned by performance, which is not evidenced by chattel paper or an instrument, (A) for property that has been or is to be sold, leased, licensed, assigned, or otherwise disposed of, (B) for services rendered or to be rendered, (C) for a secondary obligation incurred or to be incurred, or (D) arising out of the use of a credit or charge card or information contained on or for use with the card. - 7 - (ii) Consolidated Net Income. All references to the term "Consolidated Net Income" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended by deleting the last sentence of such term and replacing it with the following new sentence: "For the purposes of this definition, (1) net income excludes any gain (or loss) together with any related Provision for Taxes for such gain (or loss) realized upon the sale or other disposition of any assets that are not sold in the ordinary course of business (including, without limitation, Asset Sales and dispositions pursuant to sale and leaseback transactions) or of any Capital Stock of such Person or a Subsidiary of such Person and any net income realized or loss incurred as a result of changes in accounting principles or the application thereof to such Person, except, that, (x) solely for purposes of calculating the minimum amount of EBITDA during the fiscal year of Hanover and its Subsidiaries ending December 29, 2001 pursuant to Section 6.31 of the Loan Agreement, Hanover and its Subsidiaries may include the net income derived from the sale of the HDPI Real Property permitted by the letter, dated as of April 30, 2001, by Congress to HDPI and Hanover Re: Sale of 101 Kindig Lane Facility of Hanover Direct Pennsylvania, Inc. and from the sale of the LWI Assets permitted by the letter, dated as of June 13, 2001, by Congress to LWI, Keystone Internet, Hanover Brands and Hanover Re: Sale of Certain Assets of the "Improvements" Mail Order Catalog Business of LWI Holdings, Inc., and (y) solely for purposes of calculating the minimum amount of EBITDA either during the fourth fiscal quarter during the fiscal year of Hanover and its Subsidiaries ending December 28, 2002 (if the Kaul Litigation Order is issued before the close of the books for the fiscal year ending December 28, 2002) or during the fiscal year of Hanover and its Subsidiaries ending December 27, 2003 commencing in the fiscal quarter in which Hanover would be required under GAAP to account for the gain (or charge) referred to in this clause (y) based upon when the Kaul Litigation Order is issued, (i) if the outcome of the Kaul Litigation is unfavorable to Hanover such that Hanover shall be required to increase its reserves for losses on its books that results in a charge to income under GAAP, then Hanover may exclude up to $2,000,000 of any such charges to the calculation of net income, and (ii) if the outcome of the Kaul Litigation is favorable to Hanover such that Hanover shall be required to decrease its reserves for losses on its books that results in a gain to income under GAAP, then Hanover shall exclude up to $2,000,000 of any gain to the calculation of net income, (2) the term "Provision for Taxes" shall mean an amount equal to all taxes imposed on or measured by net income, whether Federal, State, Provincial, county or local, and whether foreign or domestic, that are paid or payable by any Person in respect of any period in accordance with GAAP, and (3) the term "Capital Stock" shall mean, with respect to any Person, any and all shares, interests, participation or other equivalents (however designated) of such Person's capital stock at any time outstanding, and any and all rights, warrants or options exchangeable for or convertible into such capital stock (but excluding any debt security that is exchangeable for or convertible into such capital stock)." (iii) Consolidated Net Worth. All references to the term "Consolidated Net Worth" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is - 8 - hereby amended by adding the following additional provisos (d) and (e) at the end thereof as follows: "(d) solely for purposes of calculating Consolidated Net Worth of Hanover and its Subsidiaries for the fiscal month ending December 2002 and each fiscal month thereafter commencing with the fiscal month in which Hanover would be required under GAAP to account for the gain (or charge) referred to in this subsection (d) based upon when the Kaul Litigation Order is issued, (i) if the outcome of the Kaul Litigation is unfavorable to Hanover such that Hanover shall be required to increase its reserves for losses on its books that results in a charge to income under GAAP, then Hanover may exclude up to $2,000,000 of any such charges to the calculation of income, and (ii) if the outcome of the Kaul Litigation is favorable to Hanover such that Hanover shall be required to decrease its reserves for losses on its books that results in a gain to income under GAAP, then Hanover shall exclude up to $2,000,000 of any gain to the calculation of income, and (e) solely for purposes of calculating Consolidated Net Worth of Hanover and its Subsidiaries during Hanover's fiscal year ending December 28, 2002, up to $4,891,000 in write-downs of Hanover's deferred taxes asset, as required pursuant to Financial Accounting Standards No. 109, due to losses incurred by Hanover and its Subsidiaries in such fiscal year, shall not be considered reductions of the deferred taxes asset of Hanover (which amount is reflected in the amounts Hanover and its Subsidiaries are required to maintain in accordance with Section 6.20(c) of the Loan Agreement)." (iv) Consolidated Working Capital. All references to the term "Consolidated Net Worth" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended by adding the following additional provisos at the end thereof as follows: "provided, further, that, solely for purposes of calculating Consolidated Working Capital of Hanover and its Subsidiaries for the fiscal month ending December 2002 and each fiscal month thereafter commencing with the fiscal month in which Hanover would be required under GAAP to account for the gain (or charge) referred to in this proviso based when the Kaul Litigation Order is issued, (i) if the outcome of the Kaul Litigation is unfavorable to Hanover such that Hanover shall be required to increase its reserves for losses on its books that results in a decrease in asset charge to income under GAAP, then Hanover may exclude up to $2,000,000 of any such charges to the calculation of income, and (ii) if the outcome of the Kaul Litigation is favorable to Hanover such that Hanover shall be required to decrease its reserves for losses on its books that results in a gain to income under GAAP, then Hanover shall exclude up to $2,000,000 of any gain to the calculation of income." (v) Eligible Inventory. The first sentence of Section 1.34 of the Loan Agreement shall be deemed amended by deleting the references to "Colonial Garden Eligible Inventory" and "General Merchandise Inventory". (vi) Equipment. All references to the term "Equipment" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, as - 9 - to any Person, all of such Person's now owned and hereafter acquired equipment, wherever located, including machinery, data processing and computer equipment and computer hardware and software (whether owned or licensed and including embedded software), vehicles, tools, furniture, fixtures, all attachments, accessions and property now or hereafter affixed thereto or used in connection therewith, and substitutions and replacements thereof, wherever located; provided, however, Equipment shall not include any rights or interests in any computer software (unless embedded) if under the terms of the contract or license agreement with respect to such software, the grant of a security interest or lien therein to Lender is prohibited and such prohibition has not been or is not waived or the consent of the other party to such contract or license agreement has not been obtained or under applicable law such prohibition cannot be waived, except, the foregoing exclusion shall in no way be construed (A) to apply if any such prohibition is unenforceable under Sections 9-406, 9-407 or 9-408 of the UCC or other applicable law or (B) so as to limit, impair or otherwise affect Lender's unconditional continuing security interests in and liens upon any rights or interests of Borrowers and Guarantors in or to monies due or to become due under any such contract or license agreement (including any Receivables). (vii) Fulfillment Contract Borrower. All references to the term "Fulfillment Contract Borrower" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, KIS LLC and such other Revolving Loan Borrowers acceptable to Lender that may provide fulfillment services pursuant to Fulfillment Contracts. (viii) Guarantors. All references to the term "Guarantors" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, jointly and severally, individually and collectively, Hanover, HHFG LLC, Clearance World, Scandia Down LLC, La Crosse LLC, DM Advertising LLC, ADT LLC, Hanover Gifts and each other existing and future direct or indirect Subsidiary of Hanover which owns any assets in excess of Ten Thousand Dollars ($10,000), other than Non-Guarantor Subsidiaries, and each of their respective successors and assigns. (ix) Colonial Garden Eligible Inventory. All references to the term "Colonial Garden Eligible Inventory" in the Loan Agreement and any of the other Financing Agreements shall be deemed deleted. (x) General Merchandise Eligible Inventory. All references to the term "General Merchandise Eligible Inventory" in the Loan Agreement and any of the other Financing Agreements shall be deemed deleted. (xi) Inventory. All references to the term "Inventory" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, as to any Person, all of such Person's now owned and hereafter existing or acquired goods, wherever located, which (A) are leased by such Person as lessor; (B) are held by such Person for sale or lease or to be furnished under a contract of service; (C) are furnished by such Person under a contract of service; or (D) consist of raw materials, work in process, finished goods or materials used or consumed in its business. - 10 - (xii) Real Property. All references to the term "Real Property" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, all now owned and hereafter acquired real property of each Borrower, including leasehold interests, together with all buildings, structures, and other improvements located thereon and all licenses, easements and appurtenances relating thereto, wherever located, including the real property and related assets more particularly described in the Mortgages. (xiii) Revolving Loan Borrowers. All references to the term "Revolving Loan Borrowers" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, individually and collectively, Brawn, GBM, Gump's, Silhouettes LLC, HCS LLC, Domestications LLC, CSG LLC and KIS LLC. (xiv) Scandia Down Assets. All references to the term "Scandia Down Assets" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to include, and not by way of limitation, all Scandia Assets and American Down Assets. (xv) Tranche B Term Loan Borrowers. All references to the term "Tranche B Term Loan Borrowers" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean, collectively, Brawn, GBM, Gump's, Hanover Realty, TCS Factory, TCS Office, Silhouettes LLC, HCS LLC, Domestications LLC, CSG LLC and KIS LLC. (xvi) UCC. All references to the term "UCC" in the Loan Agreement and the other Financing Agreements shall be deemed and each such reference is hereby amended to mean shall mean the Uniform Commercial Code as in effect in the State of New York, and any successor statute, as in effect from time to time (except that terms used herein which are defined in the Uniform Commercial Code as in effect in the State of New York on the date hereof shall continue to have the same meaning notwithstanding any replacement or amendment of such statute except as Lender may otherwise determine). (c) Interpretation. All capitalized terms used herein and not defined herein shall have the meanings given to such terms in the Loan Agreement. 2. Consents. (a) Consent with respect to Hanover Gifts. Subject to the terms and conditions contained herein and in the Loan Agreement and in the other Financing Agreements, and notwithstanding anything to the contrary contained in Sections 6.2, 6.5 or 6.6 of the Loan Agreement, Lender consents, to the formation of Hanover Gifts by Hanover on December 19, 2000. (b) Consents to Hanover 2002 Reorganization. Subject to the terms and conditions contained herein and in the Loan Agreement and in the other Financing Agreements, and notwithstanding anything to the contrary contained in Sections 6.5, 6.6(a), 6.6(c) or 6.9 of the Loan - 11 - Agreement, Lender consents, effective upon the earlier of the date hereof or the effective date of the applicable transaction of the Hanover 2002 Reorganization, to the following transactions: (i) the formation of CSG LLC by Hanover, all in accordance with the applicable Hanover 2002 Reorganization Agreements; (ii) the merger of erizon, Inc. with and into CSG LLC pursuant to the erizon, Inc./CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (iii) the contribution, assignment and transfer by Hanover Brands to Hanover of all the right, title and interest of Hanover Brands in and to certain copyrights, copyright applications and related assets owned by Hanover Brands, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (iv) the merger of Hanover Brands with and into CSG LLC pursuant to the Hanover Brands/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (v) the merger of Desius with and into CSG LLC pursuant to the Desius/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (vi) the merger of HDV with and into CSG LLC pursuant to the HDV/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (vii) the merger of HDPI with and into CSG LLC pursuant to the HDPI/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (viii) the merger of San Diego LLC with and into CSG LLC pursuant to the San Diego LLC/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (ix) the formation of ADT LLC by CSG LLC, all in accordance with the applicable Hanover 2002 Reorganization Agreements; (x) the merger of American Down with and into CSG LLC pursuant to the American Down/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xi) the contribution, assignment and transfer by CSG LLC to ADT LLC of all of the American Down Assets, subject to the security interests and liens of Lender therein, and the assumption - 12 - by ADT LLC of all obligations, liabilities and indebtedness of CSC LLC allocated to the American Down Assets (including the Obligations of CSG LLC allocated thereto, but without thereby releasing CSG LLC from liability therefor), all in accordance with the applicable Hanover 2002 Reorganization Agreements; (xii) the contribution, assignment and transfer by CSG LLC to Scandia Down LLC of all of the Scandia Assets, subject to the security interests and liens of Lender therein, and the assumption by Scandia Down LLC of all obligations, liabilities and indebtedness of CSG LLC allocated to the Scandia Assets (including the Obligations of CSG LLC allocated thereto, but without thereby releasing CSG LLC from liability therefor), all in accordance with the applicable Hanover 2002 Reorganization Agreements; (xiii) the formation of KIS LLC by Keystone Internet and the contribution, assignment and transfer by Keystone Internet to KIS LLC of all of the Keystone Internet Assets, subject to the security interests and liens of Lender therein, and the assumption by KIS LLC of all obligations, liabilities and indebtedness of Keystone Internet allocated to the Keystone Internet Assets (including the Obligations of Keystone Internet allocated thereto, but without thereby releasing Keystone Internet from liability therefor), all in accordance with the applicable Hanover 2002 Reorganization Agreements; (xiv) the merger of Keystone Internet with and into CSG LLC pursuant to the Keystone Internet/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xv) the merger of DM Advertising with and into CSG LLC pursuant to the DM Advertising/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xvi) the contribution, assignment and transfer by Hanover to CSG LLC of certain copyrights, copyright applications and related assets and certain trademarks, trademark applications and related assets, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xvii) the contribution, assignment and transfer by Hanover to CSG LLC of certain trademarks, trademark applications and related assets and certain copyrights, copyright applications and related assets, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xviii) the contribution, assignment and transfer by CSG LLC to HCS LLC of certain trademarks, trademark applications and related assets and certain copyrights, copyright applications and related assets, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xix) the contribution, assignment and transfer by CSG LLC to Domestications LLC of certain trademarks, trademark applications and related assets and certain copyrights, copyright - 13 - applications and related assets, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xx) the contribution, assignment and transfer by CSG LLC to Silhouettes LLC of certain trademarks, trademark applications and related assets, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xxi) the contribution, assignment and transfer by CSG LLC to Brawn of certain trademarks, trademark applications and related assets and the San Diego Telemarketing Assets, in each case, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xxii) the contribution, assignment and transfer by CSG LLC to Gump's of certain copyrights, copyright applications and related assets, subject to the security interests and liens of Lender therein, in accordance with the applicable Hanover 2002 Reorganization Agreements; (xxiii) the merger of Encore with and into CSG LLC pursuant to the Encore/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements; and (xxiv) the merger of Keystone Liquidations with and into CSG LLC pursuant to the Keystone Liquidations/CSG LLC Merger, with CSG LLC as the surviving limited liability company, in accordance with the applicable Hanover 2002 Reorganization Agreements. (c) Payment of certain Withholding Taxes with respect to the Series B Participating Preferred Stock. Subject to the terms and conditions contained herein and in the Loan Agreement and in the other Financing Agreements, and notwithstanding anything to the contrary contained in Section 6.6 of the Loan Agreement, Hanover may pay on behalf of Richemont the amount of United States withholding taxes required to be paid under the IRC on the preferred dividend accretion on the Series B Preferred Stock held by Richemont (calculated based upon the amount of withholding taxes that would be due and payable from consolidated earnings and profits of Hanover and its Subsidiaries) in accordance with the terms and conditions of the tax indemnification provisions of the Series B Preferred Participating Agreements (as in effect on the date of execution and delivery thereof). Hanover agrees to provide Lender with five (5) Banking Days' written notice prior to the date Hanover is required to pay such withholding tax in accordance with the IRC (or such later date as Hanover may be required to make such payment in accordance with the IRC), together with any information or materials related to such payment that Lender may reasonably request. 3. Assumption of Obligations; Amendments to Guarantees and Financing Agreements. Effective as of the earlier of the date hereof or effective date of completion of the Hanover 2002 Reorganization as to the respective parties thereto: (a) Each of CSG LLC and KIS LLC hereby expressly (i) assumes and agrees to be directly liable to Lender, jointly and severally with the other Borrowers, for all Obligations under, - 14 - contained in, or arising out of the Loan Agreement and the other Financing Agreements applicable to all Borrowers and as applied to each of CSG LLC and KIS LLC as a Borrower and Guarantor, (ii) agrees to perform, comply with and be bound by all terms, conditions and covenants of the Loan Agreement and the other Financing Agreements applicable to all Borrowers and as applied to each of CSG LLC and KIS LLC as a Borrower and Guarantor, with the same force and effect as if each of CSG LLC and KIS LLC had originally executed and been an original Borrower and Guarantor party signatory to the Loan Agreement and the other Financing Agreements, and (iii) agrees that Lender shall have all rights, remedies and interests, including security interests in and to the Collateral granted pursuant to Section 7 hereof, the Loan Agreement and the other Financing Agreements, with respect to each of CSG LLC and KIS LLC and their respective properties and assets with the same force and effect as Lender has with respect to the other Borrowers and their respective assets and properties as if each of CSG LLC and KIS LLC had originally executed and had been an original Borrower and Guarantor party signatory to the Loan Agreement and the other Financing Agreements. (b) Each of the respective Guarantee and Waivers, dated November 14, 1995, made by the Existing Borrowers as of that date in their capacities as Guarantors, as heretofore amended (collectively, the "Borrower Guarantees") shall be deemed further amended to include each of CSG LLC and KIS LLC as an additional Guarantor party signatory thereto. Each of CSG LLC and KIS LLC hereby expressly (i) assumes and agrees to be directly liable to Lender, jointly and severally with the other Borrowers signatories thereto and the Guarantors, for all Obligations as defined in the Borrower Guarantees, (ii) agrees to perform, comply with and be bound by all terms, conditions and covenants of the Borrower Guarantees with the same force and effect as if each of CSG LLC and KIS LLC had originally executed and been an original party signatory to each of the Borrower Guarantees, and (iii) agrees that Lender shall have all rights, remedies and interests with respect to each of CSG LLC and KIS LLC and their respective properties under the Borrower Guarantees with the same force and effect as if each of CSG LLC and KIS LLC had originally executed and been an original party signatory to each of the Borrower Guarantees. (c) The Guarantee and Waiver, dated November 14, 1995, executed by the Existing Guarantors (other than Hanover and the Existing Borrowers) as of such date, in favor of Lender, as heretofore amended (the "Subsidiary Guarantee"), shall be deemed further amended to include ADT LLC and Hanover Gifts as an additional Guarantor party signatory thereto. Each of ADT LLC and Hanover Gifts hereby expressly (i) assumes and agrees to be directly liable to Lender, jointly and severally with the other Guarantors signatories thereto and the Borrowers, for all Obligations (as defined in the Subsidiary Guarantee), (ii) agrees to perform, comply with and be bound by all terms, conditions and covenants of the Subsidiary Guarantee with the same force and effect as if each of ADT LLC and Hanover Gifts had originally executed and been an original party signatory to the Subsidiary Guarantee, and (iii) agrees that Lender shall have all rights, remedies and interests with respect to each of ADT LLC and Hanover Gifts and their respective properties with the same force and effect as if each of ADT LLC and Hanover Gifts had originally executed and been an original party signatory to the Subsidiary Guarantee. (d) Each of ADT LLC and Hanover Gifts hereby expressly (i) assumes and agrees to be directly liable for all Obligations under, contained in, or arising out of the Loan Agreement, the General - 15 - Security Agreement, dated November 14, 1995, by Existing Guarantors (other than Hanover and Existing Borrowers) as of as of such date, in favor of Lender, as heretofore amended (the "Subsidiary General Security Agreement") and the other Financing Agreements applicable to all Guarantors and as applied to each of ADT LLC and Hanover Gifts as a Guarantor, (ii) agrees to perform, comply with and be bound by all terms, conditions and covenants of the Loan Agreement, the Subsidiary General Security Agreement and the other Financing Agreements applicable to all Guarantors and as applied to each of ADT LLC and Hanover Gifts as a Guarantor with the same force and effect as if each of ADT LLC and Hanover Gifts had originally executed and been an original Guarantor or Debtor, as the case may be, party signatory to the Loan Agreement, the Subsidiary General Security Agreement and the other Financing Agreements, and (iii) agrees that Lender shall have all rights, remedies and interests, including security interests in the Guarantor Collateral granted pursuant to the Loan Agreement, the Subsidiary General Security Agreement, and the other Financing Agreements, with respect to each of ADT LLC and Hanover Gifts and their respective properties and assets with the same force and effect as if each of ADT LLC and Hanover Gifts had originally executed and had been an original Guarantor or Debtor, as the case may be, party signatory to the Loan Agreement, the Subsidiary General Security Agreement and the other Financing Agreements, and such agreements shall be deemed so amended. (e) Each Guarantor, including without limitation, CSG LLC and KIS LLC, in its capacity as Guarantor pursuant hereto, and each of ADT LLC and Hanover Gifts as a Guarantor pursuant hereto, hereby expressly and specifically ratifies, restates and confirms the terms and conditions of its respective Guarantee(s) in favor of Lender and its liability for all of the Obligations (as defined in its Guarantee(s)), and all other obligations, liabilities, agreements and covenants thereunder. (f) Each Borrower, including, without limitation, CSG LLC and KIS LLC, and each Guarantor, including, without limitation, ADT LLC and Hanover Gifts, hereby agrees that all references to Borrower or Borrowers or other terms intended to refer to a Borrower or Borrowers, such as Debtor or Debtors, contained in any of the Financing Agreements are hereby amended to include each of CSG LLC and KIS LLC, and each other person or entity at any time hereafter made a "Borrower" under the Loan Agreement, as an additional Borrower or Debtor, or other appropriate term of similar import, as the case may be. Each Borrower, including, without limitation, CSG LLC and KIS LLC, and each Guarantor, including, without limitation, ADT LLC and Hanover Gifts, hereby agrees that all references to Guarantor or Guarantors or other terms intended to refer to a Guarantor or Guarantors, such as Debtor or Debtors, contained in any of the Financing Agreements are hereby amended to include each of CSG LLC and KIS LLC, in its capacity as Guarantor and each of ADT LLC and Hanover Gifts and each other person or entity at any time hereafter made a "Guarantor" under the Loan Agreement, as an additional Guarantor or Debtor, or other appropriate term of similar import, as the case may be. 4. Acknowledgments with respect to Equity Contributions and Mergers pursuant to the Hanover 2002 Reorganization. (a) As of the effective date of the Hanover 2002 Reorganization as to the respective parties thereto, each Borrower and each Guarantor hereby acknowledges, confirms and agrees that, by operation of law and as provided in the Hanover 2002 Reorganization Agreements, as the case may - 16 - be, and this Amendment: (i) CSG LLC, as the surviving limited liability company pursuant to each of the CSG LLC Mergers, has continued and shall continue to be directly and primarily liable in all respects for the Obligations of each of American Down, DM Advertising, erizon, inc., Hanover Brands, HDPI, HDV, Keystone Internet, San Diego LLC, Keystone Liquidations and Encore arising prior to the effective time of the applicable CSG LLC Merger. (ii) Lender shall continue to have valid and perfected security interests, liens and rights in and to all of the assets and properties owned and acquired (A) by CSG LLC, as the surviving limited liability company of each of the CSG LLC Mergers, and (B) by each Borrower or Guarantor that is the purchaser, assignee or transferee of any such assets and properties, pursuant to the Hanover 2002 Reorganization Agreements or otherwise, and all such assets and properties shall be deemed included in the Collateral or the Guarantor Collateral, as the case may be, and such security interests, liens and rights and their perfection and priorities have continued and shall continue in all respects in full force and effect; (b) Without limiting the generality of the foregoing, (i) none of the transactions contemplated by the Hanover 2002 Reorganization Agreements shall in any way limit, impair or adversely affect the Obligations now or hereafter owed to Lender by any existing or former Borrowers or Guarantors or any security interests or liens in any assets or properties securing the same, (ii) the security interests, liens and rights of Lender in and to the assets and properties of CSG LLC, as the surviving limited liability company of each of the CSG LLC Mergers, or any Borrower or Guarantor that is the recipient, assignee or transferee of any assets or properties contributed, assigned or transferred pursuant to the Hanover 2002 Reorganization Agreements, have continued and, upon and after the consummation of the CSG LLC Mergers, or such contribution, assignment or transfer, as the case may be, shall continue to secure all Obligations to Lender of CSG LLC, or the predecessor owner of such assets and properties, as the case may be, in addition to all other existing and future Obligations of CSG LLC, or such Borrower or Guarantor, as the case may be, to Lender. 5. Allocation of Revolving Loans and Letter of Credit Accommodations. Each of Borrowers and Guarantors confirms, acknowledges and agrees that: (a) as of and after the effective date of the Hanover 2002 Reorganization as to HDV, the portion of the Revolving Loans and Letter of Credit Accommodations to or for the account of HDV determined by Lender to be allocable to the Inventory and other Collateral of HDV before the consummation of the Hanover 2002 Reorganization shall be deemed to be Revolving Loans and Letter of Credit Accommodations of CSG LLC; (b) as of and after the effective date of the Hanover 2002 Reorganization as to HDPI, the portion of the Revolving Loans and Letter of Credit Accommodations to or for the account of HDPI determined by Lender to be allocable to the Inventory and other Collateral of HDPI before the consummation of the Hanover 2002 Reorganization shall be deemed to be Revolving Loans and Letter of Credit Accommodations of CSG LLC; - 17 - (c) as of and after the effective date of the Hanover 2002 Reorganization as to Keystone Internet, the portion of the Revolving Loans and Letter of Credit Accommodations to or for the account of Keystone Internet determined by Lender to be allocable to the Inventory and other Collateral of Keystone Internet before the consummation of the Hanover 2002 Reorganization shall be deemed to be Revolving Loans and Letter of Credit Accommodations of KIS LLC; and (d) contemporaneously with any determination by Lender of the outstanding amount of Revolving Loans and Letter of Credit Accommodations to be allocated to CSG LLC as provided in Sections 5(a) through 5(c) hereof, the outstanding amount of Revolving Loans and Letter of Credit Accommodations of the applicable transferor Borrower shall be reduced by those amounts so allocated, but without thereby relieving the applicable transferor Borrower of liability therefor. 6. Amendments to Lending Sublimits. Sections 2.2(a) through and including 2.2(h) of the Loan Agreement is hereby deleted in its entirety and replaced with the following: "(a) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to Brawn shall not exceed Four Million Five Hundred Thousand Dollars ($4,500,000) at any one time outstanding. (b) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to GBM shall not exceed Five Million Dollars ($5,000,000) at any one time outstanding. (c) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to Gump's shall not exceed Three Million Five Hundred Thousand Dollars ($3,500,000) at any one time outstanding. (d) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to HCS LLC shall not exceed Fifteen Million Five Hundred Thousand Dollars ($15,500,000) at any one time outstanding. (e) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to Domestications LLC shall not exceed Fifteen Million Dollars ($15,000,000) at any one time outstanding. (f) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to Silhouettes LLC shall not exceed Six Million Three Hundred Thousand Dollars ($6,300,000) at any one time outstanding. - 18 - (g) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to CSG LLC shall not exceed Zero Dollars (-$0-) at any one time outstanding. (h) Subject to, and upon the terms and conditions contained herein, the aggregate principal amount of Revolving Inventory Loans and Letter of Credit Accommodations made available to KIS LLC shall not exceed Zero Dollars (-$0-) at any one time outstanding." 7. Collateral. (a) Grant of Security Interest. Without limiting the prior grant of the continuing security interest in, a lien upon, and a right of set off against, and assignment by Existing Borrowers to Lender, as security, all to secure payment and performance of all Obligations, each Borrower, including, without limitation, CSG LLC and KIS LLC, hereby grants to Lender, a continuing security interest in, a lien upon, and a right of set off against, and hereby assigns to Lender, as security, all personal and real property and fixtures, and interests in property and fixtures, of each Borrower, including, without limitation, CSG LLC and KIS LLC, whether now owned or hereafter acquired or existing, and wherever located, including without limitation the following (together with all other collateral security for the Obligations at any time granted to or held or acquired by Lender, collectively, the "Collateral"): (i) all Accounts; (ii) all general intangibles, including, without limitation, all Intellectual Property; (iii) all goods, including, without limitation, Inventory and Equipment; (iv) all Real Property and fixtures; (v) all chattel paper, including, without limitation, all tangible and electronic chattel paper; (vi) all instruments, including, without limitation, all promissory notes; (vii) all documents; (viii) all deposit accounts; (ix) all letters of credit, banker's acceptances and similar instruments and including all letter-of-credit rights; (x) all supporting obligations and all present and future liens, security interests, rights, - 19 - remedies, title and interest in, to and in respect of Receivables and other Collateral, including (A) rights and remedies under or relating to guaranties, contracts of suretyship, letters of credit and credit and other insurance related to the Collateral, (B) rights of stoppage in transit, replevin, repossession, reclamation and other rights and remedies of an unpaid vendor, lienor or secured party, (C) goods described in invoices, documents, contracts or instruments with respect to, or otherwise representing or evidencing, Receivables or other Collateral, including returned, repossessed and reclaimed goods, and (D) deposits by and property of Account Debtors or other persons securing the obligations of Account Debtors; (xi) all (A) investment property (including securities, whether certificated or uncertificated, securities accounts, security entitlements, commodity contracts or commodity accounts) and (B) monies, credit balances, deposits and other property of any Borrower now or hereafter held or received by or in transit to Lender or its Affiliates or at any other depository or other institution from or for the account of any Borrower, whether for safekeeping, pledge, custody, transmission, collection or otherwise; (xii) all commercial tort claims; (xiii) to the extent not otherwise described above, all Receivables; (xiv) all Records; and (xv) all products and proceeds of the foregoing, in any form, including insurance proceeds and all claims against third parties for loss or damage to or destruction of or other involuntary conversion of any kind or nature of any or all of the other Collateral. Notwithstanding the foregoing, the Collateral does not include any leasehold interests of Borrowers in real property, other than leasehold interests of Term Loan Borrowers. (b) Perfection of Security Interests. (i) Each Borrower irrevocably and unconditionally authorizes Lender (or its agent) to file at any time and from time to time such financing statements with respect to the Collateral naming Lender or its designee as the secured party and such Borrower as debtor, as Lender may require, and including any other information with respect to such Borrower or otherwise required by part 5 of Article 9 of the Uniform Commercial Code of such jurisdiction as Lender may determine, together with any amendment and continuations with respect thereto, which authorization shall apply to all financing statements filed on, prior to or after the date hereof. Each Borrower hereby ratifies and approves all financing statements naming Lender or its designee as secured party and such Borrower as debtor with respect to the Collateral (and any amendments with respect to such financing statements) filed by or on behalf of Lender prior to the date hereof and ratifies and confirms the authorization of Lender to file such financing statements (and amendments, if any). Each Borrower hereby authorizes Lender to adopt on behalf of such Borrower any symbol required for authenticating any electronic filing. In the event that the description of the collateral in any financing statement naming Lender or its designee as the - 20 - secured party and any Borrower as debtor includes assets and properties of such Borrower that do not at any time constitute Collateral, whether hereunder, under any of the other Financing Agreements or otherwise, the filing of such financing statement shall nonetheless be deemed authorized by such Borrower to the extent of the Collateral included in such description and it shall not render the financing statement ineffective as to any of the Collateral or otherwise affect the financing statement as it applies to any of the Collateral. In no event shall any Borrower at any time file, or permit or cause to be filed, any correction statement or termination statement with respect to any financing statement (or amendment or continuation with respect thereto) naming Lender or its designee as secured party and such Borrower as debtor. (ii) Subject to Section 7(c) hereof, each Borrower does not have any chattel paper (whether tangible or electronic) or instruments as of the date hereof, except as set forth in Schedule 7(b) attached hereto. In the event that any Borrower shall be entitled to or shall receive any chattel paper or instrument after the date hereof, Borrowers shall promptly notify Lender thereof in writing. Promptly upon the receipt thereof by or on behalf of any Borrower (including by any agent or representative), such Borrower shall deliver, or cause to be delivered to Lender, all tangible chattel paper and instruments that such Borrower has or may at any time acquire, accompanied by such instruments of transfer or assignment duly executed in blank as Lender may from time to time specify, in each case except as Lender may otherwise agree. At Lender's option, each Borrower shall, or Lender may at any time on behalf of any Borrower, cause the original of any such instrument or chattel paper to be conspicuously marked in a form and manner acceptable to Lender with the following legend referring to chattel paper or instruments as applicable: "This [chattel paper][instrument] is subject to the security interest of Congress Financial Corporation and any sale, transfer, assignment or encumbrance of this [chattel paper][instrument] violates the rights of such secured party." (iii) In the event that any Borrower shall at any time hold or acquire an interest in any electronic chattel paper or any "transferable record" (as such term is defined in Section 201 of the Federal Electronic Signatures in Global and National Commerce Act or in Section 16 of the Uniform Electronic Transactions Act as in effect in any relevant jurisdiction), such Borrower shall promptly notify Lender thereof in writing. Promptly upon Lender's written request, such Borrower shall take, or cause to be taken, such actions as Lender may request to give Lender control of such electronic chattel paper under Section 9-105 of the UCC and control of such transferable record under Section 201 of the Federal Electronic Signatures in Global and National Commerce Act or, as the case may be, Section 16 of the Uniform Electronic Transactions Act, as in effect in such jurisdiction. (iv) Subject to Section 7(c) hereof, each Borrower does not have any deposit accounts as of the date hereof, except as set forth in Schedule 7(b) attached hereto or as set forth in the Deposit Account Control Agreement to be entered into among Borrowers, certain Guarantors, Lender and Allfirst Bank. Borrowers shall not, directly or indirectly, after the date hereof open, establish or maintain any deposit account unless each of the following conditions is satisfied: (A) Lender shall have received not less than five (5) Banking Days' prior written notice of the intention of any Borrower to open or establish such account which notice shall specify in reasonable detail and specificity acceptable to Lender the name of the account, the owner of the account, the name and address of the bank at which such account is to be opened or established, the individual at such bank with whom such - 21 - Borrower is dealing and the purpose of the account, (B) the bank where such account is opened or maintained shall be reasonably acceptable to Lender, and (C) on or before the opening of such deposit account, such Borrower shall as Lender may specify either (1) deliver to Lender a Deposit Account Control Agreement with respect to such deposit account duly authorized, executed and delivered by such Borrower and the bank at which such deposit account is opened and maintained or (2) arrange for Lender to become the customer of the bank with respect to the deposit account on terms and conditions acceptable to Lender. The terms of this subsection (iv) shall not apply to deposit accounts specifically and exclusively used for payroll, payroll taxes and other employee wage and benefit payments to or for the benefit of any Borrower's or Guarantor's salaried employees. (v) As of the date hereof, no Borrower owns or holds, directly or indirectly, beneficially or as record owner or both, any investment property, as of the date hereof, or has any investment account, securities account, commodity account or other similar account with any bank or other financial institution or other securities intermediary or commodity intermediary as of the date hereof, in each case except as set forth in Schedule 7(b) attached hereto subject to Section 7(c) hereof. (A) In the event that any Borrower shall be entitled to or shall at any time after the date hereof hold or acquire any certificated securities, such Borrower shall promptly endorse, assign and deliver the same to Lender, accompanied by such instruments of transfer or assignment duly executed in blank as Lender may from time to time specify. If any securities, now or hereafter acquired by any Borrower are uncertificated and are issued to such Borrower or its nominee directly by the issuer thereof, such Borrower shall immediately notify Lender thereof and shall as Lender may specify in writing, either, in Lender's good faith judgment (1) cause the issuer to agree to comply with instructions from Lender as to such securities, without further consent of any Borrower or such nominee, or (2) arrange for Lender to become the registered owner of the securities. (B) Borrowers shall not, directly or indirectly, after the date hereof open, establish or maintain any investment account, securities account, commodity account or any other similar account (other than a deposit account) with any securities intermediary or commodity intermediary unless each of the following conditions is satisfied: (1) Lender shall have received not less than five (5) Banking Days' prior written notice of the intention of Borrower to open or establish such account which notice shall specify in reasonable detail and specificity acceptable to Lender the name of the account, the owner of the account, the name and address of the securities intermediary or commodity intermediary at which such account is to be opened or established, the individual at such intermediary with whom such Borrower is dealing and the purpose of the account, (2) the securities intermediary or commodity intermediary (as the case may be) where such account is opened or maintained shall be acceptable to Lender, and (3) on or before the opening of such investment account, securities account or other similar account a securities Intermediary or commodity intermediary, such Borrower shall as Lender may specify either (i) execute and deliver, and cause to be executed and delivered to Lender, an investment property control agreement with respect thereto duly authorized, executed and delivered by such Borrower and such securities intermediary or commodity intermediary or (ii) arrange for Lender to become the entitlement holder with respect to such investment property on terms and conditions acceptable to Lender. - 22 - (vi) Borrowers are not the beneficiary or otherwise entitled to any right to payment under any letter of credit, banker's acceptance or similar instrument as of the date hereof, except as set forth in Schedule 7(b) attached hereto subject to Section 7(c) hereof. In the event that any Borrower shall be entitled to or shall receive any right to payment under any letter of credit, banker's acceptance or any similar instrument, whether as beneficiary thereof or otherwise after the date hereof, such Borrower shall promptly notify Lender thereof in writing. Such Borrower shall immediately, as Lender may specify, either (A) deliver, or cause to be delivered to Lender, with respect to any such letter of credit, banker's acceptance or similar instrument, the written agreement of the issuer and any other nominated person obligated to make any payment in respect thereof (including any confirming or negotiating bank), in form and substance satisfactory to Lender in its good faith judgment, consenting to the assignment of the proceeds of the letter of credit to Lender by such Borrower and agreeing to make all payments thereon directly to Lender or as Lender may otherwise direct or (B) cause Lender to become, at Borrowers' expense, the transferee beneficiary of the letter of credit, banker's acceptance or similar instrument (as the case may be). (vii) Borrowers do not have any commercial tort claims as of the date hereof, except as set forth in Schedule 7(b) attached hereto subject to Section 7(c). In the event that any Borrower shall at any time after the date hereof have any commercial tort claims, such Borrower shall promptly notify Lender thereof in writing, which notice shall (A) set forth in reasonable detail the basis for and nature of such commercial tort claim and (B) include the express grant by such Borrower to Lender of a security interest in such commercial tort claim (and the proceeds thereof). In the event that such notice does not include such grant of a security interest, the sending thereof by such Borrower to Lender shall be deemed to constitute such grant to Lender. Upon the sending of such notice, any commercial tort claim described therein shall constitute part of the Collateral and shall be deemed included therein. Without limiting the authorization of Lender provided in Section 7(b)(i) hereof or otherwise arising by the execution by such Borrower of this Agreement or any of the other Financing Agreements, Lender is hereby irrevocably authorized from time to time and at any time to file such financing statements naming Lender or its designee as secured party and such Borrower as debtor, or any amendments to any financing statements, covering any such commercial tort claim as Collateral. In addition, each Borrower shall promptly upon Lender's request, execute and deliver, or cause to be executed and delivered, to Lender such other agreements, documents and instruments as Lender may require in connection with such commercial tort claim. (viii) Borrowers do not have any goods, documents of title or other Collateral in the custody, control or possession of a third party as of the date hereof, except as set forth in Schedule 7(b) attached hereto subject to Section 7(c) hereof and except for goods in transit to a location of a Borrower or a Guarantor permitted in the Loan Agreement or the other Financing Agreements in the ordinary course of business of such Borrower or a Guarantor in the possession of the carrier transporting such goods. In the event that any goods, documents of title or other Collateral are at any time after the date hereof in the custody, control or possession of any other person not referred to in Schedule 7(b) attached hereto or such carriers, Borrowers shall promptly notify Lender thereof in writing. Promptly upon Lender's request, Borrowers shall deliver to Lender a Collateral Access Agreement duly authorized, executed and delivered by such person and the Borrower that is the owner of such Collateral. - 23 - (ix) Borrowers shall take any other actions reasonably requested by Lender from time to time to cause the attachment, perfection and first priority of, and the ability of Lender to enforce, the security interest of Lender in any and all of the Collateral, including, without limitation, (A) executing, delivering and, where appropriate, filing financing statements and amendments relating thereto under the UCC or other applicable law, to the extent, if any, that any Borrower's signature thereon is required therefor, (B) at Lender's written request, causing Lender's name to be noted as secured party on any certificate of title for a titled good if such notation is a condition to attachment, perfection or priority of, or ability of Lender to enforce, the security interest of Lender in such Collateral, (C) complying with any provision of any statute, regulation or treaty of the United States as to any Collateral if compliance with such provision is a condition to attachment, perfection or priority of, or ability of Lender to enforce, the security interest of Lender in such Collateral, (D) obtaining the consents and approvals of any Governmental Authority or third party, including, without limitation, any consent of any licensor, lessor or other person obligated on Collateral, and (E) taking all actions required by any earlier versions of the UCC or by other law, as applicable in any relevant jurisdiction. (c) Delivery of Schedule 7(b. Borrowers and Guarantors hereby agree to deliver, in form and substance satisfactory to Lender, on or before January 31, 2003, all the information required by Schedule 7(b) in accordance with Section 7(b) hereof. The representations and warranties contained in Section 7(b) hereof as to matters, events and information set forth on Schedule 7(b) shall be deemed to be made by and shall be deemed to apply to Borrowers and Guarantors only when Schedule 7(b) is delivered to Lender. 8. Consolidated Working Capital. Section 6.19 of the Loan Agreement is hereby amended by deleting Section 6.19(c) and replacing it with new Sections 6.19(c) and (d) as follows: "(c) Hanover shall, commencing with the fiscal month ending March 2002, and for each fiscal month thereafter through and including the fiscal month ending December 2002, maintain Consolidated Working Capital, calculated on a consolidated basis for Hanover and its Subsidiaries, of not less than the following amounts as at the end of each such fiscal month:
Period Amount - ------ ------ March $20,000,000 April $20,000,000 May $20,000,000 June $20,000,000 July $20,000,000 August $20,000,000 September $20,000,000 October $20,000,000 November $20,000,000 December $12,500,000
- 24 - (d) Hanover shall, commencing with the fiscal month ending January 2003, and for each fiscal month thereafter in any fiscal year thereafter, maintain Consolidated Working Capital, calculated on a consolidated basis for Hanover and its Subsidiaries, of not less than the following amounts as at the end of each such fiscal month:
Period Amount - ------ ------ January $11,000,000 February $10,000,000 March $14,000,000 April $14,000,000 May $13,000,000 June $13,000,000 July $13,000,000 August $17,000,000 September $15,000,000 October $17,000,000 November $15,000,000 December $15,000,000"
9. Consolidated Net Worth. Section 6.20 (c) of the Loan Agreement is hereby deleted in its entirety and replaced with the following: "(c) Hanover shall, commencing with the fiscal month ending March 2002 and for each fiscal month thereafter through and including the fiscal month December 2002, maintain Consolidated Net Worth, calculated on a consolidated basis for Hanover and its Subsidiaries, of not less than the following amounts as at the end of each such fiscal month:
Period Amount - ------ ------ March $36,000,000 April $35,000,000 May $35,000,000 June $35,000,000 July $35,000,000 August $34,000,000 September $32,500,000 October $32,500,000 November $32,500,000 December $27,200,000
(d) Hanover shall, commencing with the fiscal month ending January 2003 and for each fiscal month thereafter in any fiscal year thereafter, maintain Consolidated Net Worth, calculated on a consolidated basis for Hanover and its Subsidiaries, of not less than the - 25 - following amounts as at the end of each such fiscal month:
Period Amount - ------ ------ January $26,000,000 February $25,800,000 March $26,800,000 April $27,700,000 May $27,800,000 June $27,800,000 July $27,600,000 August $27,000,000 September $27,000,000 October $27,000,000 November $27,800,000 December $31,000,000"
10. EBITDA. Sections 6.31(c) and 6.31(d) of the Loan Agreement are hereby deleted in their entirety and replaced with new Sections 6.31(c) and 6.31(d), Section 6.31(e) of the Loan Agreement is hereby redesignated Section 6.31(f), and a new Section 6.31(e) is hereby added, as follows: "(c) Hanover and its Subsidiaries shall not, as to any fiscal quarter during the fiscal year 2002 of Hanover and its Subsidiaries, permit EBITDA of Hanover and its Subsidiaries commencing on the first day of such fiscal year and ending on the last day of the applicable fiscal quarter set forth below on a cumulative year-to-date basis ("YTD"), to be less than the respective amount set forth below opposite such fiscal quarter end YTD period:
Fiscal Quarter End YTD Periods Cumulative for Fiscal Year 2002 Minimum EBITDA -------------------- -------------- (i) December 30, 2001 through March 30, 2002 ($ 1,000,000) (ii) December 30, 2001 through June 29, 2002 $ 1,200,000 (iii) December 30, 2001 through September 28, 2002 $ 1,500,000 (iv) December 30, 2001 through December 28, 2002 $ 5,000,000
(d) Hanover and its Subsidiaries shall not, as to any fiscal quarter during the fiscal year - 26 - 2003 of Hanover and its Subsidiaries, permit EBITDA of Hanover and its Subsidiaries commencing on the first day of such fiscal year and ending on the last day of the applicable fiscal quarter set forth below on a cumulative YTD basis to be less than the respective amount set forth below opposite such fiscal quarter end YTD period:
Fiscal Quarter End YTD Periods Cumulative for Fiscal Year 2003 Minimum EBITDA -------------------- -------------- (i) December 29, 2002 through March 29, 2003 $ 1,000,000 (ii) December 29, 2002 through June 28, 2003 $ 4,000,000 (iii) December 29, 2002 through September 27, 2003 $ 5,000,000 (iv) December 29, 2002 through December 27, 2003 $ 11,000,000"
(d) Hanover and its Subsidiaries shall not, as to first fiscal quarter during the fiscal year 2004 of Hanover and its Subsidiaries, permit EBITDA of Hanover and its Subsidiaries commencing on the first day of such fiscal year and ending on the last day of the first fiscal quarter set forth below on a cumulative YTD basis to be less than the respective amount set forth below opposite such fiscal quarter end YTD period:
Fiscal Quarter End YTD Periods Cumulative for Fiscal Year 2003 Minimum EBITDA -------------------- -------------- (i) December 28, 2003 through March 27, 2004 $ 1,000,000
11. Additional Reporting Requirement regarding Kaul Litigation. In addition to all other information and reports required to be delivered by Borrowers or Guarantors to Lender, Borrowers and Guarantors hereby agree to deliver, within thirty (30) days after the Kaul Litigation Order is issued, a report setting forth the ruling by the court with respect to such motions and the amount of reserves that are required to be increased (or decreased) for losses (or gains) of Hanover on its books that result in a charge (or gain) to income under GAAP for purposes of calculating Hanover's Compliance with the consolidated Working Capital, consolidated Net Worth and EBITDA covenants, together with any information, materials or documents that Lender may reasonably request with respect thereto. 12. Change of Control Event of Default; Withholding Tax Payments; Delivery of Schedules. - 27 - Borrowers and Guarantors hereby agree to deliver on or before January 31, 2003, in form and substance satisfactory to Lender, (a) an amendment with respect to the change of control Event of Default set forth in Section 7.1(j) of the Loan Agreement, (b) a determination of the applicability and if so the scope, nature and amount of any adjustments to the financial covenants based upon the withholding tax payments made on behalf of Richemont with respect to the Series B Participating Preferred pursuant to Section 2(c) hereof, and (c) Schedule 1(a)(ii) to Twenty-Third Amendment to Loan and Security Agreement - Description of American Down Assets and Schedule 1(a)(xxxi) to Twenty-Third Amendment to Loan and Security Agreement - Scandia Assets. 13. Depository Accounts; Blocked Accounts; Customer Prepayment Accounts. The last sentence of Section 8.2(a) of the Loan Agreement is hereby deleted in its entirety and replaced with the following: "Without limiting the provisions of Section 8.4 below in favor of Lender, each of the Borrowers and Guarantors hereby irrevocably appoints Hanover and Domestications LLC, acting jointly or singly, as its agent for all purposes in connection with the Blocked Accounts, including, without limitation, the execution, delivery and performance on its behalf of all Blocked Account agreements, Credit Card Acknowledgments and the performance of such obligations thereunder as Lender, the depository, or any other party thereto shall require." 14. Release. (a) Release. (i) Each Borrower and Guarantor, on behalf of itself and its successors and assigns, hereby, jointly and severally, absolutely, unconditionally and irrevocably releases, remises and forever discharges Lender, its respective successors and assigns, and their respective present and former shareholders, affiliates, subsidiaries, divisions, predecessors, directors, officers, attorneys, employees, agents and other representatives (Lender and all such other parties being hereinafter referred to collectively as the "Releasees" and individually as a "Releasee"), of and from all demands, actions, causes of action, suits, covenants, contracts, controversies, agreements, promises, sums of money, accounts, bills, reckonings, damages and any and all other claims, counterclaims, defenses, rights of set-off, demands and liabilities whatsoever arising in connection with the transactions contemplated by the Hanover 2002 Reorganization or the Hanover 2002 Reorganization Agreements (individually, a "Claim" and collectively, "Claims") of every name and nature, known or unknown, suspected or unsuspected, both at law and in equity, which any Borrower or Guarantor, or any of its or his or their successors, assigns, or other legal representatives may now or hereafter own, hold, have or claim to have against the Releasees or any of them for, upon, or by reason of any nature, cause or thing whatsoever which arises at any time on or prior to the day and date of this Amendment, for or on account of, or in relation to, or in any way in connection with the Hanover 2002 Reorganization or the Hanover 2002 Reorganization Agreements. (ii) Each Borrower and Guarantor understands, acknowledges and agrees that the release - 28 - set forth above may be pleaded as a full and complete defense and may be used as a basis for an injunction against any action, suit or other proceeding which may be instituted, prosecuted or attempted in breach of the provisions of such release. (iii) Each Borrower and Guarantor agrees that no fact, event, circumstance, evidence or transaction which could now be asserted or which may hereafter be discovered shall affect in any manner the final and unconditional nature of the release set forth in this Section 14(a). (b) Covenant Not to Sue. Each Borrower and Guarantor, on behalf of itself and its successors and assigns, hereby absolutely, unconditionally and irrevocably, jointly and severally, covenants and agrees with each Releasee that it will not sue (at law, in equity, in any regulatory proceeding or otherwise) any Releasee on the basis of any Claim released, remised and discharged by any Borrower or Guarantor pursuant to Section 14(a) hereof. If any Borrower or Guarantor violates the foregoing covenant, each Borrower and Guarantor agrees to pay, in addition to such other damages as any Releasee may sustain as a result of such violation, all attorneys' fees and costs incurred by any Releasee as a result of such violation. 15. Exhibits. Exhibits A, B-1, B-3, B-4, C, G and H-3 to the Loan Agreement are hereby deleted in their entirety and replaced with the information set forth on Exhibits A, B-1, B-3, B-4, C, G and H-3 attached hereto. 16. Waiver of Event of Default. (a) Subject to the satisfaction of each of the conditions precedent set forth herein, Lender hereby waives any Event of Default under Section 7(b) of the Loan Agreement arising as a result of the failure of Borrowers and Guarantors to comply with the terms of Sections 6.2, 6.5 and 6.6 of the Loan Agreement by failing to obtain the consent of Lender in connection with the formation of Hanover Gifts in December 2000. (b) Lender has not waived, is not by this Amendment waiving, and has no intention of waiving any Event of Default which may have occurred on or prior to the date hereof, whether or not continuing on the date hereof, or which may occur after the date hereof (whether the same or similar to the Events of Default referred to in Section 16(a) hereof or otherwise), other than the Existing Default. The foregoing waiver shall not be construed as a bar to or a waiver of any other or further Event of Default on any future occasion, whether similar in kind or otherwise and shall not constitute a waiver, express or implied, of any of the rights and remedies of Lender arising under the terms of the Loan Agreement or any other Financing Agreements on any future occasion or otherwise. 17. Fees. In addition to all other fees, charges, interest and expenses payable by Borrowers to Lender under the Loan Agreement and the other Financing Agreements, Borrowers shall pay to Lender the following additional fees: (a) Borrowers shall pay to Lender, contemporaneously herewith, a closing fee in the amount of $55,000, which fee is fully earned as of the date hereof and may be charged into the loan account(s) of - 29 - any Borrower. (b) Tranche B Term Loan Borrowers shall pay to Lender, contemporaneously herewith, a closing fee in the amount of $55,000, which fee is fully earned as of the date hereof and may be charged into the loan account(s) of any Tranche B Term Loan Borrower. 18. Representations, Warranties and Covenants. Each Borrower and Guarantor represents, warrants and covenants with, to and in favor of Lender as follows, which representations, warranties and covenants are continuing and shall survive the execution and delivery hereof, the truth and accuracy of, or compliance with each, together with the representations, warranties and covenants in the other Financing Agreements, being a condition of the effectiveness of this Amendment and a continuing condition of the making or providing of any Revolving Loans or Letter of Credit Accommodations by Lender to Borrowers: (a) This Amendment and each other agreement or instrument to be executed and delivered by Borrowers or Guarantors hereunder have been duly authorized, executed and delivered by all necessary action on the part of Borrowers and Guarantors which is a party hereto and thereto and, if necessary, their respective stockholders (with respect to any corporation) or members (with respect to any limited liability company), and is in full force and effect as of the date hereof, as the case may be, and the agreements and obligations of Borrowers or Guarantors, as the case may be, contained herein and therein constitute legal, valid and binding obligations of Borrowers and Guarantors, as the case may be, enforceable against them in accordance with their terms. (b) Neither the execution and delivery of the Hanover 2002 Reorganization Agreements, nor the consummation of the transactions contemplated by the Hanover 2002 Reorganization Agreements, nor compliance with the provisions of the Hanover 2002 Reorganization Agreements, shall result in the creation or imposition of any lien, claim, charge or encumbrance upon any of the Collateral or Guarantor Collateral, except in favor of Lender pursuant to this Amendment and the Financing Agreements as amended hereby. (c) Neither the execution and delivery of the Hanover 2002 Reorganization Agreements, nor the consummation of the transactions therein contemplated, nor compliance with the provisions thereof, (i) has violated or shall violate any Bulk Sales Act, Bulk Transfer Act or Article 6 of the UCC, if applicable, the Hart-Scott-Rodino Anti-Trust Improvements Act of 1976, as amended, if applicable, or any Federal or State securities laws or any other law or regulation or any order or decree of any court or governmental instrumentality in any respect or (ii) does, or shall conflict with or result in the breach of, or constitute a default in any respect under any material mortgage, deed of trust, security agreement, agreement or instrument to which any of Borrowers or Guarantor is a party or may be bound, other than conflicts or defaults under certain real estate leases, intellectual property licenses and equipment leases, or (iii) shall violate any provision of the Certificate of Incorporation or Certificate of Formation, as applicable, or By-Laws or Operating Agreement, as applicable, of any Borrower or Guarantor. (d) None of the membership interests in any of CSG LLC, ADT LLC or KIS LLC have been evidenced by a membership certificate or other certificate, document, instrument or security. All of the - 30 - membership interests in each of CSG LLC, ADT LLC and KIS LLC (i) are noted in the respective books and records of each such company, (ii) have been duly authorized, validly issued and (iii) are fully paid and non-assessable, free and clear of all claims, liens, pledges and encumbrances of any kind, except those security interests existing in favor of Lender. (e) All of the outstanding shares of capital stock of each of Hanover Gifts have been duly authorized, validly issued and are fully paid and non-assessable, free and clear of all claims, liens, pledges and encumbrances of any kind, except those security interests existing in favor of Lender. Effective as of the consummation of the Hanover 2002 Reorganization, CSG LLC shall be the beneficial and direct owner of record of one hundred (100%) percent of the issued and outstanding shares of capital stock of Hanover Gifts. (f) No court of competent jurisdiction has issued any injunction, restraining order or other order which prohibits the consummation of the Hanover 2002 Reorganization or any part thereof, and no governmental action or proceeding has been threatened or commenced, seeking any injunction, restraining order or other order which seeks to void or otherwise modify the transactions described in the Hanover 2002 Reorganization Agreements. (g) As of the date hereof, (i) each of CSG LLC, KIS LLC and ADT LLC is a limited liability company, duly formed and validly existing in good standing under the laws of the State of Delaware, and Hanover Gifts is a corporation, duly organized and validly existing in good standing under the laws of the State of Virginia and (ii) each of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts (A) is duly licensed or qualified to do business as a foreign limited liability company or foreign corporation, as the case may be, and is in good standing in each of the jurisdictions set forth in Exhibit A annexed hereto other than in any such jurisdiction which is designated as "pending", which are the only jurisdictions wherein the character of the properties owned or licensed or the nature of the business of any of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts makes such licensing or qualification to do business necessary; and (B) has all requisite power and authority to own, lease and operate its properties and to carry on its business as it is now being conducted and will be conducted in the future. (h) The assets and properties of each of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts are owned by it, free and clear of all security interests, liens and encumbrances of any kind, nature or description, as of the date hereof, except those security interests existing in favor of Lender and those granted pursuant hereto in favor of Lender, and except for Liens (if any) permitted under Section 6.4 of the Loan Agreement or the other Financing Agreements. (i) Upon the effectiveness of each of the CSG LLC Mergers, each such merger will become effective in accordance with the terms of each of the applicable Hanover 2002 Reorganization Agreements applicable to it and of the applicable corporate statutes of the States of incorporation or formation of each Borrower and each Guarantor that is a constituent corporation or limited liability company pursuant to the mergers so consented to. As of the respective date of the effectiveness of the respective CSG LLC Mergers, CSG LLC will be and will continue to be and shall be the surviving limited liability company of each of the CSG LLC Mergers. - 31 - (j) Neither the consummation of the CSG LLC Mergers, nor the execution, delivery and/or filing of the applicable merger documents in respect of the Hanover 2002 Reorganization Agreements, or any other agreements, documents or instruments in connection therewith, nor the consummation of the transactions therein contemplated, nor compliance with the provisions thereof if consummated or effected on or before the date hereof has resulted in or if consummated or effected after the date hereof shall result in the creation or imposition of any lien, claim, charge or incumbrance upon any of the Collateral or Guarantor Collateral, except in favor of Lender. (k) All actions and proceedings required by the Hanover 2002 Reorganization Agreements applicable to the CSG LLC Mergers, applicable law and regulation, have been or shall be taken prior to the effectiveness of such mergers and all transactions required thereunder have been and shall be, or will be duly and validly consummated. (l) Each Borrower and Guarantor is solvent and will continue to be solvent after giving effect to the Hanover 2002 Reorganization and the transactions contemplated by the Hanover 2002 Reorganization Agreements, is able to pay its debts as they mature and has (and has reason to believe it will continue to have) sufficient capital (and not unreasonably small capital) to carry on its business and all businesses in which it is about to engage. After giving effect to the Hanover 2002 Reorganization, and after giving effect to the transactions contemplated by the Hanover 2002 Reorganization Agreements, the assets and properties of each Borrower and Guarantor at a fair valuation and at their present fair salable value are, and will be, greater than the indebtedness of each such Borrower and Guarantor, respectively, and including subordinated and contingent liabilities computed at the amount which, to the best of each such Borrower's and Guarantor's, represents an amount which can reasonably be expected to become an actual or matured liability. (m) Neither the consummation of the CSG LLC Mergers, nor the execution, delivery or filing of the Hanover 2002 Reorganization Agreements applicable to the CSG LLC Mergers as consented to under Section 2(b) hereof or any other agreements, documents or instruments in connection therewith, nor the consummation of the transactions therein contemplated, nor compliance with the provisions thereof before the date hereof or upon the effectiveness of such mergers (i) has violated or will violate any Federal or State securities laws, any State corporation law, or any other law or regulation or any order or decree of any court or governmental instrumentality in any respect, or (ii) does or will conflict with or result in the breach of, or constitute a default in any respect under any material mortgage, deed of trust, security agreement, agreement or instrument to which any existing or former Guarantor or Borrower is a party or may be bound, other than conflicts or defaults under certain real estate leases, intellectual property licenses and equipment leases, or (iii) does or will violate any provision of the Certificate of Incorporation or Certificate of Formation, as applicable, or By-Laws or Operating Agreement, as applicable, of any Borrower or Guarantor. (n) No action of, or filing with, or consent of any governmental or public body or authority, other than the filing of UCC financing statements and filings with the United States Patent and Trademark Office and the United States Copyright Office, and no approval or consent of any other party, including, without limitation, Richemont or the Persons signatory parties to the Scandia Trademark License Agreements, is required to authorize, or is otherwise required in connection with, - 32 - the execution, delivery and performance of this Amendment. (o) All of the representations and warranties set forth in the Loan Agreement as amended hereby, and the other Financing Agreements, are true and correct in all material respects after giving effect to the provisions of this Amendment, except to the extent any such representation or warranty is made as of a specified date, in which case such representation or warranty shall have been true and correct as of such date. (p) After giving effect to the provisions of this Amendment, no Event of Default or Incipient Default exists or has occurred and is continuing. 19. Conditions Precedent. Concurrently with the execution and delivery hereof (except to the extent otherwise indicated below), and as a further condition to the effectiveness of this Amendment and the agreement of Lender to the modifications and amendments set forth in this Amendment: (a) Lender shall have received, in form and substance satisfactory to Lender, each of the following agreements, duly authorized, executed and delivered by each Borrower and Guarantor to the extent it is a party thereto: (i) a photocopy of an executed original or executed original counterparts of this Amendment by facsimile (with the originals to be delivered within five (5) Banking Days after the date hereof), as the case may be, duly authorized, executed and delivered by each Borrower and Guarantor; (ii) the Third Amendment to Trademark Collateral Assignment and Security Agreement, by and among Silhouettes LLC, Domestications LLC, HCS LLC, Brawn, Gump's, CSG LLC and Lender, providing for certain amendments to the Trademark Collateral Assignment and Security Agreement, dated November 14, 1995, by and among Gump's, Tweeds, Inc. Brawn and Lender, and any such documents, instruments or filings with respect thereto with the U.S. Patent and Trademark Office to protect such Collateral; (iii) the Copyright Collateral Assignment and Security Agreement, by and among Domestications LLC, HCS LLC, Gump's and Lender, and any such documents, instruments or filings with respect thereto with the U.S. Copyright Office to protect such Collateral; (iv) the Fourth Amendment to Trademark Collateral Assignment and Security Agreement, by and among Hanover, Scandia and Lender, providing for certain amendments to the Trademark Collateral Assignment and Security Agreement, dated November 14, 1995, by and among Hanover, Hanover Catalog Holdings, Inc., Scandia Down Corporation, Aegis Safety Holdings, Inc., Company Store Holdings, Inc., Austad Holdings, Inc. and Lender, and any such documents, instruments or filings with respect thereto with the U.S. Patent and Trademark Office to protect such Collateral; (v) the First Amendment to Copyright Collateral Assignment and Security Agreement by and between Hanover and Lender, providing for certain amendments to the Copyright Collateral Assignment and Security Agreement, dated November 30, 2000, by and between Hanover Brands and - 33 - Lender, and any such documents, instruments or filings with respect thereto with the U.S. Copyright Office to protect such Collateral; (vi) the First Amendment to General Security Agreement by and between Hanover and Lender providing for certain amendments to the General Security Agreement, dated November 14, 1995, by Hanover in favor of Lender; (vii) the First Amendment to General Security Agreement by and among Guarantors (other than Hanover and Borrowers) and Lender providing for certain amendments to the General Security Agreement, dated November 14, 1995, by certain Existing Guarantors in favor of Lender; (viii) the Guarantee and Waiver by Borrowers (other than CSG LLC) in favor of Lender with respect to the Obligations of CSG LLC; (ix) the Guarantee and Waiver by Borrowers (other than KIS LLC) in favor of Lender with respect to the Obligations of KIS LLC; (x) the Guarantee and Waiver by Hanover in favor of Lender with respect to the Obligations of CSG LLC and KIS LLC; (xi) the Guarantee and Waiver by Existing Guarantors (other than Borrowers and Hanover), ADT LLC and Hanover Gifts in favor of Lender with respect to the Obligations of CSG LLC and KIS LLC; (xii) the Guarantee and Waiver by ADT LLC and Hanover Gifts in favor of Lender with respect to the Obligations of Existing Borrowers; (xiii) the Guarantee and Waiver by CSG LLC and KIS LLC in favor of Lender with respect to the Obligations of Existing Borrowers; (xiv) the Third Amended and Restated Blocked Account Agreement by and among Lender, certain Borrowers, certain Guarantors and Allfirst Bank, formerly know as The First National Bank of Maryland; (xv) a Notification from Hanover to HOSSCO with respect to the changes in ownership to existing Customer Lists; (xvi) Amendment No. 3 to Transfer of Funds Letter Agreement by and among Lender, CSG LLC and Paymentech Merchant Services, Inc.; (xvii) Amendment No. 3 to Transfer of Funds Letter Agreement by and among Lender, CSG LLC and NOVUS Services, Inc.; (xviii) the Third Acknowledgment to Transfer of Funds Letter Agreement by and among - 34 - CSG LLC, Silhouettes, LLC, HCS LLC, Domestications LLC and American Express Travel Related Services, Inc.; and (xix) the Amended and Restated Agency Agreement by and among Borrowers. (b) Lender shall have received and reviewed lien and judgement search results for the jurisdictions of incorporation or organization of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts, the jurisdictions of the chief executive offices of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts and all jurisdictions in which assets of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts are located, which search results shall be in form and substance satisfactory to Lender; (c) as soon as possible, but in any event no January 31, 2003, Lender shall have received, in form and substance satisfactory to Lender, (i) true, correct and complete photocopies of all of the Hanover 2002 Reorganization Agreements, (ii) evidence that (A) the Hanover 2002 Reorganization Agreements have been duly executed and delivered by and to the appropriate parties thereto and (B) the transactions contemplated by the Hanover 2002 Reorganization have been consummated as set forth herein, and (iii) evidence that the certificates of merger with respect to each CSG LLC Merger have been filed with the Secretary of State of the appropriate States of formation or incorporation or formation of each constituent corporation or limited liability company; (d) Borrowers and Guarantors shall have duly authorized such UCC financing statements, such amendments to the existing UCC financing statements filed by Lender against the merged Borrowers and Guarantors changing either or both of the debtor's name or mailing address to that of CSG LLC, and other documents and instruments which Lender in its sole discretion has determined are necessary to perfect the security interests of Lender in all Collateral or Guarantor Collateral now or hereafter owned by CSG LLC, KIS LLC, ADT LLC, Hanover Gifts and all other Borrowers and Guarantors; (e) Lender shall have received from each of CSG LLC, KIS LLC and ADT LLC, (i) a copy of its Certificate of Formation or Articles of Organization, and all amendments thereto, certified by the Secretary of State of the State of Delaware as of the most recent practicable date certifying that each of the foregoing documents remains in full force and effect and has not been modified or amended, except as described therein, (ii) a copy of its Operating Agreement, certified by the Secretary or Assistant Secretary of the company, and (iii) a certificate from its Secretary or Assistant Secretary dated the date hereof certifying that each of the foregoing documents remains in full force and effect and has not been modified or amended, except as described therein; (f) Lender shall have received and reviewed lien and judgment search results for the jurisdiction of incorporation or formation of each of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts, the jurisdiction of the chief executive office of each of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts and all jurisdictions in which assets of each of CSG LLC, KIS LLC, ADT LLC and Hanover Gifts are located, which search results shall be in form and substance satisfactory to Lender; (g) Lender shall have received, in form and substance satisfactory to Lender, for each Borrower and Guarantor that is a limited liability company (i) a Management and Incumbency - 35 - Certificate of each such company identifying all managers, officers or other persons authorized to act on behalf of such company, (ii) Company Resolutions of each such company, evidencing the adoption and subsistence of company resolutions approving the execution, delivery and performance by each Borrower and Guarantor that is a limited liability company of this Amendment and the agreements, documents and instruments to be delivered pursuant to this Amendment, in each case signed by all members of each such company, and (iii) Certificates of the Secretary or Assistant Secretary of each such company identifying all members of such company; (h) Lender shall have received, in form and substance satisfactory to Lender, for each Borrower and Guarantor that is a corporation, a Secretary's or Assistant Secretary's Certificate of Directors' Resolutions with Shareholders' Consent (other than in respect of Hanover) evidencing the adoption and subsistence of corporate resolutions approving the execution, delivery and performance by such Borrower and Guarantor of this Amendment and the agreements, documents and instruments to be delivered pursuant to this Amendment; (i) Lender shall have received, in form and substance satisfactory to Lender, updates or amendments to the existing Evidence of Property Insurance and Certificate of Liability Insurance issued by the existing insurance broker or agent of Borrowers and Guarantors in favor of Lender; (j) Lender shall have received, in form and substance and satisfactory to Lender, an opinion of counsel to Borrowers and Guarantors with respect to the transactions contemplated by this Amendment and the Hanover 2002 Reorganization Agreements addressed to Lender; (k) each Borrower and Guarantor shall deliver, or cause to be delivered, to Lender a true and correct copy of any consent, waiver or approval to or of this Amendment, which any Borrower or Guarantor is required to obtain from any other Person, including without limitation Richemont, and such consent, approval or waiver shall be in a form reasonably acceptable to Lender; (l) the Hanover 2002 Reorganization shall have occurred and be effective by no later than December 31, 2002 or such later date or dates as Lender shall approve in writing; (m) prior to the effectiveness of the Hanover 2002 Reorganization, no court of competent jurisdiction shall have issued any injunction, restraining order or other order which prohibits the consummation of the Hanover 2002 Reorganization or any part thereof, and no governmental action or proceeding shall have been threatened or commenced, seeking any injunction, restraining order or other order which seeks to void or otherwise modify the transactions described in the Hanover 2002 Reorganization Agreements; (n) after giving effect to the consummation of each of the CSG LLC Mergers, no Event of Default or Incipient Default shall exist or have occurred and be continuing. 20. Effect of this Amendment. This Amendment constitutes the entire agreement of the parties with respect to the subject matter hereof, and supersedes all prior oral or written communications, memoranda, proposals, negotiations, discussions, term sheets and commitments with respect to the - 36 - subject matter hereof. Except as expressly provided herein, no other changes or modifications to the Loan Agreement or any of the other Financing Agreements, or waivers of or consents under any provisions of any of the foregoing, are intended or implied by this Amendment, and in all other respects the Financing Agreements are hereby specifically ratified, restated and confirmed by all parties hereto as of the effective date of this Amendment. To the extent that any provision of the Loan Agreement or any of the other Financing Agreements conflicts with any provision of this Amendment, the provision of this Amendment shall control. 21. Further Assurances. Borrowers and Guarantors shall execute and deliver such additional documents and take such additional action as may be reasonably requested by Lender to effectuate the provisions and purposes of this Amendment. 22 Governing Law. The validity, interpretation and enforcement of this Amendment in any dispute arising out of the relationship between the parties hereto, whether in contract, tort, equity or otherwise shall be governed by the internal laws of the State of New York, without regard to any principle of conflict of laws or other rule of law that would result in the application of the law of any jurisdiction other than the State of New York. 23. Binding Effect. This Amendment shall be binding upon and inure to the benefit of each of the parties hereto and their respective successors and assigns. 24. Counterparts. This Amendment may be executed in any number of counterparts, but all of such counterparts shall together constitute but one and the same agreement. In making proof of this Amendment, it shall not be necessary to produce or account for more than one counterpart thereof signed by each of the parties hereto. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] - 37 - IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be executed on the day and year first written. CONGRESS FINANCIAL CORPORATION By: /s/ Eric Storz ---------------------------- Title: AVP HANOVER DIRECT PENNSYLVANIA, INC. By: /s/ Brian C. Harriss ---------------------------- Title: Vice President BRAWN OF CALIFORNIA, INC. By: /s/ Brian C. Harriss ---------------------------- Title: Vice President GUMP'S BY MAIL, INC. By: /s/ Brian C. Harriss ----------------------------- Title: Vice President GUMP'S CORP. By: /s/ Brian C. Harriss ---------------------------- Title: Vice President HANOVER DIRECT VIRGINIA INC. By: /s/ Brian C. Harriss ----------------------------- Title: Vice President HANOVER REALTY, INC. By: /s/ Brian C. Harriss ----------------------------- Title: Vice President [SIGNATURES CONTINUE ON FOLLOWING PAGE] - 39 - [SIGNATURES CONTINUED FROM PREVIOUS PAGE] THE COMPANY STORE FACTORY, INC. By: /s/ Brian C. Harriss ---------------------------- Title: Vice President THE COMPANY OFFICE, INC. By: /s/ Brian C. Harriss ---------------------------- Title: Vice President SILHOUETTES, LLC By: /s/ Brian C. Harriss ---------------------------- Title: Vice President HANOVER COMPANY STORE, LLC By: /s/ Brian C. Harriss ---------------------------- Title: Vice President DOMESTICATIONS, LLC By: /s/ Brian C. Harriss ---------------------------- Title: Vice President KEYSTONE INTERNET SERVICES, INC. By: /s/ Brian C. Harriss ---------------------------- Title: Vice President KEYSTONE INTERNET SERVICES, LLC By: /s/ Brian C. Harriss ---------------------------- Title: Vice President [SIGNATURES CONTINUE ON FOLLOWING PAGE] - 41 - [SIGNATURES CONTINUED FROM PREVIOUS PAGE] THE COMPANY STORE GROUP, LLC By: /s/ Brian C. Harriss ---------------------------- Title: Vice President By their signatures below, the undersigned Guarantors acknowledge and agree to be bound by the applicable provisions of this Amendment: HANOVER DIRECT, INC. By: /s/ Brian C. Harriss ----------------------------- Title: Executive Vice President [SIGNATURES CONTINUE ON NEXT PAGE] [SIGNATURES CONTINUED FROM PREVIOUS PAGE] AMERICAN DOWN & TEXTILE COMPANY By: /s/ Brian C. Harriss -------------------------- Title: Vice President DM ADVERTISING, INC. By: /s/ Brian C. Harriss -------------------------- Title: Vice President KEYSTONE LIQUIDATIONS, INC. By: /s/ Brian C. Harriss -------------------------- Title: Vice President HANOVER HOME FASHIONS GROUP, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President ENCORE CATALOG, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President CLEARANCE WORLD OUTLETS, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President SCANDIA DOWN, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President [SIGNATURES CONTINUE ON FOLLOWING PAGE] - 44 - [SIGNATURES CONTINUED FROM PREVIOUS PAGE] ERIZON, INC. By: /s/ Brian C. Harriss -------------------------- Title: Vice President HANOVER BRANDS, INC. By: /s/ Brian C. Harriss -------------------------- Title: Vice President LA CROSSE FULFILLMENT, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President SAN DIEGO TELEMARKETING, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President D.M. ADVERTISING, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President AMERICAN DOWN & TEXTILE, LLC By: /s/ Brian C. Harriss -------------------------- Title: Vice President HANOVER GIFTS, INC. By: /s/ Brian C. Harriss --------------------------- Title: Vice President EX-10.47 6 y84434exv10w47.txt AMENDMENT TO LOAN AND SECURITY AGREEMENT EXHIBIT 10.47 [Execution Version] TWENTY-FOURTH AMENDMENT TO LOAN AND SECURITY AGREEMENT THIS TWENTY-FOURTH AMENDMENT TO LOAN AND SECURITY AGREEMENT (this "Amendment"), dated as of February __, 2003, is entered into by and among CONGRESS FINANCIAL CORPORATION, a Delaware corporation ("Lender"), BRAWN OF CALIFORNIA, INC., a California corporation ("Brawn"), GUMP'S BY MAIL, INC., a Delaware corporation ("GBM"), GUMP'S CORP., a California corporation ("Gump's"), HANOVER REALTY, INC., a Virginia corporation ("Hanover Realty"), THE COMPANY STORE FACTORY, INC., a Delaware corporation ("TCS Factory"), THE COMPANY OFFICE, INC., a Delaware corporation ("TCS Office"), SILHOUETTES, LLC, a Delaware limited liability company ("Silhouettes LLC"), HANOVER COMPANY STORE, LLC, a Delaware limited liability company ("HCS LLC"), DOMESTICATIONS, LLC, a Delaware limited liability company ("Domestications LLC"), KEYSTONE INTERNET SERVICES, LLC, a Delaware limited liability company ("KIS LLC"), and THE COMPANY STORE GROUP, LLC, a Delaware limited liability company ("CSG LLC"; and together with Brawn, GBM, Gump's, Hanover Realty, TCS Factory, TCS Office, Silhouettes LLC, HCS LLC, Domestications LLC and KIS LLC, collectively, "Borrowers" and each individually, a "Borrower"), HANOVER DIRECT, INC., a Delaware corporation ("Hanover"), HANOVER HOME FASHIONS GROUP, LLC, a Delaware limited liability company ("HHFG LLC"), CLEARANCE WORLD OUTLETS, LLC, a Delaware limited liability company ("Clearance World"), SCANDIA DOWN, LLC, a Delaware limited liability company ("Scandia Down LLC"), LACROSSE FULFILLMENT, LLC, a Delaware limited liability company ("LaCrosse LLC"), D.M. ADVERTISING, LLC, a Delaware limited liability company ("DM Advertising LLC"), AMERICAN DOWN & TEXTILE, LLC, a Delaware limited liability company ("ADT LLC"), and HANOVER GIFTS, INC., a Virginia corporation ("Hanover Gifts"; and together with Hanover, HHFG LLC, Clearance World, Scandia Down LLC, LaCrosse LLC, DM Advertising LLC and ADT LLC, collectively, "Guarantors" and each individually, a "Guarantor"). W I T N E S S E T H: WHEREAS, Borrowers, Guarantors and Lender are parties to the Loan and Security Agreement, dated November 14, 1995, as amended by the First Amendment to Loan and Security Agreement, dated February 22, 1996, the Second Amendment to Loan and Security Agreement, dated April 16, 1996, the Third Amendment to Loan and Security Agreement, dated May 24, 1996, the Fourth Amendment to Loan and Security Agreement, dated May 31, 1996, the Fifth Amendment to Loan and Security Agreement, dated September 11, 1996, the Sixth Amendment to Loan and Security Agreement, dated as of December 5, 1996, the Seventh Amendment to Loan and Security Agreement, dated as of December 18, 1996, the Eighth Amendment to Loan and Security Agreement, dated as of March 26, 1997, the Ninth Amendment to Loan and Security Agreement, dated as of April 18, 1997, the Tenth Amendment to Loan and Security Agreement, dated as of October 31, 1997, the Eleventh Amendment to Loan and Security Agreement, dated as of March 25, 1998, the Twelfth Amendment to Loan and Security Agreement, dated as of September 30, 1998, the Thirteenth Amendment to Loan and Security Agreement, dated as of September 30, 1998, the Fourteenth Amendment to Loan and Security Agreement, dated as of February 28, 2000, the Fifteenth Amendment to Loan and Security Agreement, dated as of March 24, 2000, the Sixteenth Amendment to Loan and Security Agreement, dated as of August 8, 2000, the Seventeenth Amendment to Loan and Security Agreement, dated as of January 5, 2001, the Eighteenth Amendment to Loan and Security Agreement, dated as of November 12, 2001, the Nineteenth Amendment to Loan and Security Agreement, dated as of December 18, 2001 (the "Nineteenth Amendment to Loan Agreement"), the Twentieth Amendment to Loan and Security Agreement, dated as of March 5, 2002, the Twenty-First Amendment to Loan and Security Agreement, dated as of March 21, 2002, the Twenty-Second Amendment to Loan and Security Agreement, dated as of August 16, 2002, and the Twenty-Third Amendment to Loan and Security Agreement (the "Twenty-Third Amendment to Loan Agreement"), dated as of December 27, 2002 (as so amended, the "Loan Agreement"), pursuant to which Lender has made loans and advances to Borrowers; WHEREAS, in accordance with Section 12 of the Twenty-Third Amendment to Loan Agreement, Borrowers and Guarantors have agreed to deliver to Lender an amendment to the Event of Default arising from a change of control, and to deliver certain information and schedules related to Borrowers and Guarantors as required by the Twenty-Third Amendment to Loan and Security Agreement; and WHEREAS, the parties hereto desire to enter into this Amendment to evidence and effectuate such amendments and to effect such deliveries, in each case subject to the terms and conditions and to the extent set forth herein; NOW, THEREFORE, in consideration of the premises and covenants set forth herein and other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto agree as follows: 1. Definitions. (a) Additional Definitions. As used herein or in any of the other Financing Agreements, the following terms shall have the meanings given to them below, and the Loan Agreement shall be deemed and is hereby amended to include, in addition and not in limitation, the following definitions: (i) "Change of Control" shall mean: (a) other than transfers of assets permitted in accordance with the terms and conditions of Section 3 of the Nineteenth Amendment to Loan Agreement, the transfer (in one transaction or a series of transactions) of all or substantially all of the assets of any Borrower or Guarantor to any Person or group (as such term is used in Section 13(d)(3) of the Securities Exchange Act of 1934); (b) the liquidation or dissolution of any Borrower or Guarantor or the adoption of a plan by the stockholders of any Borrower or Guarantor relating to the dissolution or liquidation of such Borrower or Guarantor; (c) the acquisition by any Person or group (as such term is used in Section 13(d)(3) of the Securities Exchange Act of 1934), except for one or more Permitted Holders, of beneficial ownership, directly or indirectly, of a majority of the voting power of the total outstanding voting stock or shares or interests of Hanover or the Board of Directors of - 2 - Hanover; (d) during any period of two (2) consecutive years, individuals who at the beginning of such period constituted the Board of Directors of Hanover (together with any new directors who have been appointed by any Permitted Holder, or whose nomination for election by the stockholders of Hanover was approved by a vote of at least sixty-six and two-thirds (66 2/3%) percent of the directors then still in office who were either directors at the beginning of such period or whose election or nomination for election was previously so approved) cease for any reason (other than by reason of death or disability) to constitute a majority of the Board of Directors of Hanover then still in office; or (f) other than transfers of assets permitted in accordance with the terms and conditions of Section 3 of the Nineteenth Amendment to Loan Agreement, the failure of Hanover to own directly or indirectly one hundred (100%) percent of the voting power of the total outstanding voting stock or shares or interests of any Borrower or Guarantor (other than Hanover). (ii) "Permitted Holders" shall mean, collectively, the persons listed on Exhibit A hereto and their respective successors and assigns; each sometimes being referred to individually as a "Permitted Holder". (b) Interpretation. All capitalized terms used herein and not defined herein shall have the meanings given to such terms in the Loan Agreement. 2. Events of Default. Section 7.1(j) of the Loan Agreement is hereby deleted in its entirety and replaced with the following: "(j) any Change of Control." 3. Delivery of Schedules. (a) Schedules 1(a)(ii) and 1(a)(xxxi) to the Twenty-Third Amendment to Loan Agreement are hereby deleted and replaced with the information set forth on Schedules 1(a)(ii) and 1(a)(xxxi) attached hereto. (b) Schedule 2(b) to the First Amendment to General Security Agreement, dated as of December 27, 2002, by and among HHFG LLC, Clearance World, Scandia Down LLC, LaCrosse LLC, DM Advertising LLC, ADT LLC, Hanover Gifts and Lender is hereby deleted and replaced with the information set forth on Schedule 2(b) attached hereto. (c) Schedule 2(b) to the First Amendment to General Security Agreement, dated as of December 27, 2002, by and between Hanover and Lender is hereby deleted and replaced with the information set forth on Schedule 2(b) attached hereto. (d) Schedule 7(b) to the Twenty-Third Amendment to Loan Agreement is hereby deleted and replaced with the information set forth on Schedule 7(b) attached hereto. 4. Extension of Time to Deliver Certain Post-Closing Items. Paragraphs 1(c), 1(d) and 1(e) of the letter agreement, dated as of December 27, 2002, among Lender, Borrowers and Guarantors Re: - 3 - Certain Post-Closing Items as to the time period in which Borrower is required to deliver or take the action described in each such paragraph, are each hereby amended by replacing the time period "on or before January 31, 2003" in each such paragraph with the following: "on or before February 28, 2003". 5. Representations, Warranties and Covenants. Each Borrower and Guarantor represents, warrants and covenants with, to and in favor of Lender as follows, which representations, warranties and covenants are continuing and shall survive the execution and delivery hereof, the truth and accuracy of, or compliance with each, together with the representations, warranties and covenants in the other Financing Agreements, being a condition of the effectiveness of this Amendment and a continuing condition of the making or providing of any Revolving Loans or Letter of Credit Accommodations by Lender to Borrowers: (a) This Amendment and each other agreement or instrument to be executed and delivered by Borrowers or Guarantors hereunder have been duly authorized, executed and delivered by all necessary action on the part of Borrowers and Guarantors which is a party hereto and thereto and, if necessary, their respective stockholders (with respect to any corporation) or members (with respect to any limited liability company), and is in full force and effect as of the date hereof, as the case may be, and the agreements and obligations of Borrowers or Guarantors, as the case may be, contained herein and therein constitute legal, valid and binding obligations of Borrowers and Guarantors, as the case may be, enforceable against them in accordance with their terms. (b) No action of, or filing with, or consent of any governmental or public body or authority, and no approval or consent of any other party, including, without limitation, Richemont is required to authorize, or is otherwise required in connection with, the execution, delivery and performance of this Amendment. (c) All of the representations and warranties set forth in the Loan Agreement, as amended hereby, and the other Financing Agreements are true and correct in all material respects, after giving effect to the provisions of this Amendment, except to the extent any such representation or warranty is made as of a specified date, in which case such representation or warranty shall have been true and correct as of such date. (d) Promptly but by no later than March 21, 2003, Lender shall have received, in form and substance satisfactory to Lender, (i) a pledge and security agreement, in form and substance satisfactory to Lender, by each of Hanover and CSG LLC, granting to Lender a pledge of and lien on all of the issued and outstanding shares of capital stock (or interests in limited liability companies) of their respective Subsidiaries that are Borrowers or Guarantors, (ii) the original stock certificates evidencing such shares of capital stock (or such other evidence, if any, as may be issued in the case of a limited liability company), together with stock powers with respect thereto duly executed in blank (or the equivalent thereof in the case of a limited liability company in which such interests are certificated, or otherwise take such actions as Lender shall reasonably require with respect to Lender's security interests therein), and (iii) evidence of the adoption of corporate resolutions (or company action in the case of a limited liability company), approving the execution, delivery and performance by Hanover and - 4 - CSG LLC of such pledge and security agreements, together with an opinion of counsel of Hanover and CSG LLC with respect to the enforceability of such agreements. (e) After giving effect to the provisions of this Amendment, no Event of Default or Incipient Default exists or has occurred and is continuing. 6. Conditions Precedent. Concurrently with the execution and delivery hereof (except to the extent otherwise indicated below), and as a further condition to the effectiveness of this Amendment and the agreement of Lender to the modifications and amendments set forth in this Amendment: (a) Lender shall have received, in form and substance satisfactory to Lender, a photocopy of an executed original or executed original counterparts of this Amendment by facsimile (with the originals to be delivered within five (5) Banking Days after the date hereof), as the case may be, duly authorized, executed and delivered by each Borrower and Guarantor; and (b) each Borrower and Guarantor shall deliver, or cause to be delivered, to Lender a true and correct copy of any consent, waiver or approval to or of this Amendment, which any Borrower or Guarantor is required to obtain from any other Person, including without limitation Richemont, and such consent, approval or waiver shall be in a form reasonably acceptable to Lender. 7. Effect of this Amendment. Effective as of January 31, 2003, by reason of the execution and delivery of this Amendment, Section 12 of the Twenty-Third Amendment shall be deemed satisfied. This Amendment constitutes the entire agreement of the parties with respect to the subject matter hereof, and supersedes all prior oral or written communications, memoranda, proposals, negotiations, discussions, term sheets and commitments with respect to the subject matter hereof. Except as expressly provided herein, no other changes or modifications to the Loan Agreement or any of the other Financing Agreements, or waivers of or consents under any provisions of any of the foregoing, are intended or implied by this Amendment, and in all other respects the Financing Agreements are hereby specifically ratified, restated and confirmed by all parties hereto as of the effective date of this Amendment. To the extent that any provision of the Loan Agreement or any of the other Financing Agreements conflicts with any provision of this Amendment, the provision of this Amendment shall control. 8. Further Assurances. Borrowers and Guarantors shall execute and deliver such additional documents and take such additional action as may be reasonably requested by Lender to effectuate the provisions and purposes of this Amendment. 9. Governing Law. The validity, interpretation and enforcement of this Amendment in any dispute arising out of the relationship between the parties hereto, whether in contract, tort, equity or otherwise shall be governed by the internal laws of the State of New York, without regard to any principle of conflict of laws or other rule of law that would result in the application of the law of any jurisdiction other than the State of New York. 10. Binding Effect. This Amendment shall be binding upon and inure to the benefit of each of - 5 - the parties hereto and their respective successors and assigns. 11. Counterparts. This Amendment may be executed in any number of counterparts, but all of such counterparts shall together constitute but one and the same agreement. In making proof of this Amendment, it shall not be necessary to produce or account for more than one counterpart thereof signed by each of the parties hereto. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] - 6 - IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be executed on the day and year first written. CONGRESS FINANCIAL CORPORATION By: /s/ Eric Storz --------------------------- Title: AVP BRAWN OF CALIFORNIA, INC. By: /s/ Steven Seymour ---------------------------- Name: Steven Seymour Title: President GUMP'S BY MAIL, INC. By: /s/ Jed Pogran ---------------------------- Name: Jed Pogran Title: President GUMP'S CORP. By: /s/ Jed Pogran ---------------------------- Name: Jed Pogran Title: President HANOVER REALTY, INC. By: /s/ Doug Mitchell ---------------------------- Name: Doug Mitchell Title: President THE COMPANY STORE FACTORY, INC. By: /s/ David Pipkorn ---------------------------- Name: David Pipkorn Title: President [SIGNATURES CONTINUE ON FOLLOWING PAGE] [SIGNATURES CONTINUED FROM PREVIOUS PAGE] THE COMPANY OFFICE, INC. By: /s/ David Pipkorn ----------------------------- Name: David Pipkorn Title: President SILHOUETTES, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: President HANOVER COMPANY STORE, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: President DOMESTICATIONS, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: Vice President KEYSTONE INTERNET SERVICES, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: Vice President THE COMPANY STORE GROUP, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: President [SIGNATURES CONTINUE ON FOLLOWING PAGE] [SIGNATURES CONTINUED FROM PREVIOUS PAGE] By their signatures below, the undersigned Guarantors acknowledge and agree to be bound by the applicable provisions of this Amendment: HANOVER DIRECT, INC. By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: Executive Vice President and Chief Financial Officer HANOVER HOME FASHIONS GROUP, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: Vice President CLEARANCE WORLD OUTLETS, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: President SCANDIA DOWN, LLC By: /s/ David Pipkorn ----------------------------- Name: David Pipkorn Title: President LA CROSSE FULFILLMENT, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: President [SIGNATURES CONTINUE ON FOLLOWING PAGE] [SIGNATURES CONTINUED FROM PREVIOUS PAGE] D.M. ADVERTISING, LLC By: /s/ Edward M. Lambert ----------------------------- Name: Edward M. Lambert Title: President AMERICAN DOWN & TEXTILE, LLC By: /s/ David Pipkorn ----------------------------- Name: David Pipkorn Title: President HANOVER GIFTS, INC. By: /s/ Doug Mitchell ----------------------------- Name: Doug Mitchell Title: President EXHIBIT A TO TWENTY-FOURTH AMENDMENT TO LOAN AND SECURITY AGREEMENT List of Permitted Holders Richemont Finance S.A. and its Subsidiaries Basil P. Regan, or Regan Partners L.P. and its Subsidiaries EX-10.72 7 y84434exv10w72.txt STOCK OPTION AGREEMENT EXHIBIT 10.72 STOCK OPTION As of December 5, 2000, Hanover Direct, Inc. (the "Company") hereby grants to Thomas C. Shull ("Shull") an option (this "Option") to purchase as many as 2,700,000 shares ("Shares") of the Company's common stock, par value $0.66-2/3 per share ("Common Stock"), for an exercise price of $0.25 per Share (the "Exercise Price"), pursuant to the terms and conditions set forth below. 1. This Option shall become vested and exercisable as to (a) 50% of the Shares subject hereto on December 4, 2001 (provided that the Services Agreement dated as of December 5, 2000, as amended or restated, between Meridian Ventures, LLC, Shull and the Company (the "Services Agreement") is in effect on that date), and (b) the remaining 50% of such Shares on June 30, 2002 (provided that the Services Agreement is in effect on that date). Notwithstanding the foregoing, this Option shall become vested and exercisable as to 100% of the Shares subject hereto upon the earliest to occur of (i) the termination of the Services Agreement pursuant to paragraph 6(a)(ii), 6(a)(v) or 6(a)(vi) thereof, (ii) a "Change of Control" (as defined in the Services Agreement), (iii) Shull's resignation under the Services Agreement "For Good Reason" (as defined in the Services Agreement), (iv) the Company's termination of Shull's services under the Services Agreement without being "For Cause" (as defined in the Services Agreement) or (v) the expiration of the "Agreement Term" (as defined in the Services Agreement) under the Services Agreement. Notwithstanding anything to the contrary contained herein, this Option shall terminate upon the termination of the Services Agreement pursuant to paragraph 6(a)(i) or 6(a)(iv) thereof. 2. In order to exercise this Option, in whole or in part, Shull (or his legal representative or beneficiary in the case of Shull's death or disability) shall give written notice to the Company, specifying the number of Shares to be purchased and the aggregate purchase price to be paid, accompanied by the payment of the purchase price. The purchase price may be paid in cash, by certified check, in whole shares of Common Stock held by Shull for at least 6 months evidenced by negotiable certificates, valued at their fair market value on the date of exercise, or in a combination of the foregoing. Alternatively, Shull (or his legal representative or beneficiary in the case of Shull's death or disability) may exercise this Option, in whole or in part, by delivering a properly executed exercise notice together with irrevocable instructions to a broker to deliver promptly to the Company the amount of sale or loan proceeds necessary to pay the purchase price, and such other documents as the Company may require. Upon receipt of payment, the Company shall deliver to Shull (or his legal representative or beneficiary in the case of Shull's death or disability) a certificate or certificates for such Shares. If certificates representing shares of Common Stock are used to pay all or part of the purchase price under this Option, separate certificates shall be delivered by the Company representing the same number of shares as each certificate so used and an additional certificate shall be delivered representing the additional shares to which Shull is entitled as a result of exercise of this Option. 3. Once vested, this Option shall remain exercisable for a 3-year period; provided, however, if this Option shall become vested and exercisable on account of the termination of the Services Agreement pursuant to paragraph 6(a)(v) thereof, such vesting shall take place sufficiently in advance of such termination (but subject to its 2 occurrence) to permit Shull to take all steps reasonably necessary to exercise this Option and to deal with the Shares purchased hereunder so that those Shares may be treated in the same manner in connection with the transaction described in paragraph 6(a)(v) of the Services Agreement as the shares of other shareholders; provided further, that notwithstanding anything to the contrary contained herein, this Option shall expire (a) as to 50% of the number of Shares subject hereto on December 4, 2004, and (b) as to the remaining 50% of such Shares on June 30, 2005. 4. This Option is not transferable by Shull other than by will or the laws of descent and distribution and is exercisable, during Shull's lifetime, only by Shull, except that Shull may transfer this Option or any part hereof (but in no event with respect to less than 500 Option Shares) to Shull's spouse, children, parents, and/or siblings or to one or more trusts for the benefit of such family members if Shull does not receive any consideration for the transfer; provided that this Option shall continue to be subject to the same terms and conditions that were applicable to this Option immediately prior to its transfer (except that this Option shall not be further transferred by the transferee during the transferee's lifetime), and further, should Shull become disabled, his legal representative shall be entitled to exercise this Option on Shull's behalf. 5. This Option shall be exercised only with respect to full Shares of Common Stock; no fractional Shares shall be issued. 6. This Option is not intended to qualify as an incentive stock option under Section 422 of the Internal Revenue Code. 3 7. This Option shall be binding upon and shall inure to the benefit of any successor or assignee of the Company and to any executor, administrator, legal representative, legatee or distributee entitled by law to Shull's rights hereunder. 8. This Option shall be construed and enforced in accordance with the laws of the State of New York. HANOVER DIRECT, INC. By: /s/ Brian C. Harriss ---------------------------- Its: Executive Vice President 4 EX-10.73 8 y84434exv10w73.txt AMENDMENT TO STOCK OPTION AGREEMENT EXHIBIT 10.73 STOCK OPTION AGREEMENT AMENDMENT Amendment Number 1 This Amendment Number 1 to the Stock Option Agreement entered into between Hanover Direct, Inc., a Delaware corporation (the "Company"), and Thomas C. Shull ("Shull"), which evidenced the grant to Shull by the Company of an option to purchase 2,700,000 shares of the Company's common stock as of December 5, 2000 (the "Option Agreement"), shall be effective as of September 1, 2002. W I T N E S S E T H : WHEREAS, the Company and Shull entered into the Stock Option Agreement; and WHEREAS, the Company and Shull now desire to amend the Option Agreement in certain respects. NOW, THEREFORE, it is agreed by and between the parties hereto to the following amendments to the Option Agreement: 1. The proviso at the end of Paragraph 3 of the Option Agreement is hereby amended to read in its entirety as follows:: "provided, further, that, notwithstanding anything to the contrary contained herein, this Option shall expire as to 100% of the number of Shares subject hereto on June 30, 2005." 2. All references in the Option Agreement and in this Amendment Number 1 to the "Services Agreement" shall refer to the Employment Agreement between the Company and Shull, entered into as of September 1, 2002. 3. Except as hereunder provided, the Option Agreement shall remain in full force and effect without further modification. IN WITNESS WHEREOF, the Company and Shull have executed this Amendment Number 1 as of September 1, 2002. HANOVER DIRECT, INC. By: /s/ Michael D. Contino ----------------------- Name: Michael D. Contino Title: EVP - C.O.O. /s/ Thomas C. Shull ------------------- THOMAS C. SHULL EX-10.81 9 y84434exv10w81.txt STOCK OPTION AGREEMENT EXHIBIT 10.81 STOCK OPTION AGREEMENT STOCK OPTION AGREEMENT (this "Agreement") made and entered into as of the 14th day of December, 2001, by and between Hanover Direct, Inc., a Delaware corporation (the "Company"), and Thomas C. Shull (the "Optionee"). WITNESSETH: WHEREAS, Meridian Ventures, LLC, a Nevada limited liability company, and the Optionee, jointly and severally, entered into a Services Agreement, dated as of December 14, 2001, with the Company (the "Services Agreement"); WHEREAS, pursuant to the terms of the Services Agreement, the Company, among other things, agreed to grant to the Optionee stock options pursuant to the Hanover Direct, Inc. 2000 Management Stock Option Plan (the "Plan") to purchase 500,000 shares of common stock of the Company, par value $0.66-2/3 per share (the "Common Stock"); and WHEREAS, the parties hereto desire to enter into this Agreement evidencing the granting of the options referenced above in accordance with the terms and conditions contained in this Agreement. NOW, THEREFORE, it is agreed by and between the parties hereto as follows: 1. The Company hereby evidences and confirms its grant to the Optionee on December 14, 2001 (the "Date of Grant") of an option (the "Option") to purchase 500,000 shares of Common Stock (the "Option Shares") at an option price of $0.30 per share. 2. The Option shall expire on the earlier of (A) the date of March 31, 2006, or (B) the date of the termination of the Services Agreement pursuant to paragraph 6(a)(i) or 6(a)(iv) thereof (the "Expiration Date"). 3. Subject to the other provisions of the Plan and this Agreement regarding the exercisability of the Option, all or part of the Option may be exercised prior to the Expiration Date to the extent it has vested. 4. The Option shall vest in full on March 31, 2003; provided, however, that in the event of the earliest to occur of (a) the termination of the Services Agreement pursuant to paragraph 6(a)(ii), 6(a)(v) or 6(a)(vi) thereof, (b) a "Change in Control" (as defined in the Services Agreement), (c) the Optionee's resignation under the Services Agreement "For Good Reason" (as defined in the Services Agreement), (d) the Company's termination of the Optionee's services under the Services Agreement without being "For Cause" (as defined in the Services Agreement) or (e) the expiration of the "Agreement Term" (as defined in the Services Agreement), the Option shall vest in full and become immediately exercisable. 5. The Option is not transferable by the Optionee other than by will or the laws of descent and distribution and is exercisable, during the Optionee's lifetime, only by the Optionee, except that the Optionee may transfer the Option or any part thereof (but in no event with respect to less than 500 Option Shares) to the Optionee's spouse, children, parents, and/or siblings or to one or more trusts for the benefit of such family members if the Optionee does not receive any consideration for the transfer; provided that the Option shall continue to be subject to the same terms and conditions that were applicable to the Option immediately prior to its transfer (except that the Option shall not be further transferred by the transferee during the transferee's lifetime). 6. In order to exercise the Option, in whole or in part, the Optionee shall give written notice to the Company, specifying the number of shares to be purchased and the purchase price to be paid, and accompanied by the payment of the purchase price. Such purchase price may be paid in cash or in shares of Common Stock evidenced by negotiable certificates, valued at their fair market value on the date of exercise. Alternatively, if applicable, payment may be made by the Optionee by delivering a properly executed exercise notice together with irrevocable instructions to a broker to deliver promptly to the Company the amount of sale or loan proceeds necessary to pay the purchase price in full, and such other documents as the Committee may determine. Upon receipt of payment, the Company shall deliver to the Optionee (or such other person entitled to exercise the Option) a certificate or certificates for such Option Shares. If certificates representing shares of Common Stock are used to pay all or part of the purchase price of the Option, separate certificates shall be delivered by the Company representing the same number of shares as each certificate so used and an additional certificate shall be delivered representing the additional shares to which the Optionee is entitled as a result of the exercise of the Option after deducting the number of shares required to be applied to such purchase price. 7. The Option shall be exercised only with respect to full shares of Common Stock; no fractional shares shall be issued. 8. The Option granted hereunder is a Nonqualified Stock Option that is not intended to qualify as an incentive stock option under Section 422 of the Internal Revenue Code of 1986, as amended. 9. All the terms and provisions of the Plan, a copy of which is attached hereto as Annex A, are hereby expressly incorporated into this Agreement and made a part hereof as if printed herein. 10. This Agreement shall be binding upon and inure to the benefit of any successor or assignee of the Company and to any executor, administrator, legal representative, legatee or distributee entitled by law to the Optionee's rights hereunder. -2- 11. This Agreement shall be construed and enforced in accordance with the laws of the State of New York. IN WITNESS WHEREOF, the Company has caused this Agreement to be executed by its duly authorized officers and the Optionee has duly executed this Agreement as of the date first above written. HANOVER DIRECT, INC. By: /s/ Brian C. Harriss ---------------------------------- Name: Brian C. Harriss Title: Executive Vice President Chief Financial Officer OPTIONEE /s/ Thomas C. Shull -------------------------------- Name: Thomas C. Shull ANNEX A ATTACHED: Copy of Hanover Direct, Inc. 2000 Management Stock Option Plan -3- EX-10.82 10 y84434exv10w82.txt AMENDMENT TO STOCK OPTION AGREEMENT EXHIBIT 10.82 STOCK OPTION AGREEMENT AMENDMENT Amendment Number 1 This Amendment Number 1 to the Stock Option Agreement entered into between Hanover Direct, Inc., a Delaware corporation (the "Company"), and Thomas C. Shull ("Shull"), which evidenced the grant to Shull by the Company of an option to purchase 500,000 shares of the Company's common stock under the Hanover Direct, Inc. 2000 Management Stock Option Plan as of December 14, 2001 (the "Option Agreement"), shall be effective as of September 1, 2002. W I T N E S S E T H : WHEREAS, the Company and Shull entered into the Stock Option Agreement; and WHEREAS, the Company and Shull now desire to amend the Option Agreement in certain respects. NOW, THEREFORE, it is agreed by and between the parties hereto to the following amendments to the Option Agreement: 1. Paragraph 4 of the Option Agreement is hereby amended to include a proviso at the end as follows: "; provided, further, however, that Optionee agrees that the Option Shares shall not be saleable until September 30, 2004 and, if issued prior thereto, shall be legended to such effect and stop transfer instructions given to the Company's transfer agent ." 2. All references in the Option Agreement and in this Amendment Number 1 to the "Services Agreement" shall refer to the Employment Agreement between the Company and Shull, entered into as of September 1, 2002. 3. Except as hereunder provided, the Option Agreement shall remain in full force and effect without further modification. IN WITNESS WHEREOF, the Company and Shull have executed this Amendment Number 1 as of September 1, 2002. HANOVER DIRECT, INC. By: /s/ Michael D. Contino ---------------------- Name: Michael D. Contino Title: EVP & C.O.O /s/ Thomas C. Shull ------------------- THOMAS C. SHULL EX-10.86 11 y84434exv10w86.txt FORM OF TRANSACTION BONUS LETTER EXHIBIT 10.86 FORM OF TRANSACTION BONUS LETTER To: [Name] From: Thomas C. Shull Date: November __, 2002 Dear _____, This is to confirm that you shall be granted a transaction bonus equal to __% of your annualized base salary upon the occurrence of a Change of Control. "Change of Control" is defined in the Hanover Direct, Inc. Key Executive Eighteen Month Compensation Continuation Plan effective as of April 25, 2001, as amended (the "Plan"). This bonus, payable in one lump sum on the date of closing of any transaction which constitutes a Change of Control, will be paid to you only if you are actively employed by the Company on the date the Change of Control occurs. Your voluntary termination or an involuntary termination for cause will cancel this obligation, the transaction bonus becoming null and void. Any dispute arising from this Agreement will be settled through binding arbitration, by an arbitrator mutually acceptable to the parties. HANOVER DIRECT, INC. Accepted by: By:_________________________________ _________________________ Thomas C. Shull, Chairman, [Name] President and Chief Executive Officer EX-10.92 12 y84434exv10w92.txt SUBSIDIARIES CODE OF ETHICS EXHIBIT 10.92 HANOVER DIRECT, INC. and SUBSIDIARIES CODE OF ETHICS This Code of Ethics (the "Code of Ethics") has been unanimously adopted by the Board of Directors of Hanover Direct, Inc. (the "Company") and is intended to apply to the Company's chief executive officer, principal financial officer, principal accounting officer and controller, or any person performing similar functions. References in this Code of Ethics to the Company means the Company or any of its subsidiaries. (March 1, 2003) I. Purpose of Code of Ethics The purpose of this Code of Ethics is to promote the honest and ethical conduct of the senior executive, financial and accounting officers of the Company ("employees," herein), including the ethical handling of actual or apparent conflicts of interest between personal and professional relationships; full, fair, accurate, timely and understandable disclosure in periodic reports required to be filed by the Company; compliance with all applicable governmental rules and regulations; prompt internal reporting of violations of this Code of Ethics; and accountability for adherence to this Code of Ethics. II. Conflict of Interest; Corporate Opportunity No employee shall, directly or indirectly, engage or participate in, or authorize, any transactions or arrangements involving, or raising questions of, possible conflict, whether ethical or legal, between the interests of the Company and the personal interests of the employee or his or her family. No employee shall take for himself or herself personally any opportunity that arises through the use of corporate property, information or position or shall use corporate property, information or position for personal gain. No employee or any member of his or her family shall, directly or indirectly, acquire or hold any beneficial interest of any kind in any firm or entity that does, or in the recent past did, business with the Company, or in any firm or entity which is currently or prospectively competing in any manner with the Company. This prohibition shall not apply to the acquisition or holding of any security through a mutual fund or of any interest not in excess of 1% of any class of securities listed on a national securities exchange or traded in an established over-the-counter securities market. Activities and holdings that have the appearance of impropriety are also to be avoided. For purposes of this policy, a member of an employee's family shall include a spouse, parents, stepparents, in-laws, siblings, children, stepchildren and any other person residing in the employee's residence. 1 No employee or any member of his or her family shall, directly or indirectly, seek, accept or retain gifts or other personal or business favors from any vendor, supplier or customer of the Company or from any individual or organization seeking to do business with the Company. A personal benefit means any type of gift, gratuity, use of facilities, favor, entertainment, service, loan, fee or compensation or anything of monetary value. Specific exceptions to this prohibition will be made if there is no reasonable likelihood of improper influence in the performance of duties on the part of the employee on behalf of the Company and if the personal benefit falls into one of the following categories: o normal business courtesies, such as meals, involving no more than ordinary amenities; o paid trips or guest accommodations in connection with proper Company business and with the prior approval of the Executive Vice President - Human Resources & Legal; o fees or other compensation received from any organization in which membership or an official position is held only if approved by the Executive Vice President - Human Resources & Legal; o loans from financial institutions made in the ordinary course of their business on customary terms and at prevailing rates; or o gifts of nominal value (less than $200) during the holiday season. No employee or any member of his or her family may compete with the Company. No employee or any member of his or her family may serve as a director, officer, employee of or consultant to a competitor, vendor, supplier or other business partner of the Company without the prior written approval of the Executive Vice President - Human Resources & Legal. No employee or any member of his or her family who directly or indirectly owns a financial interest in, or has an obligation to, a competitor, supplier, customer or other business partner of the Company, which interest or obligation is significant to such employee or family member may conduct business with such entity or person without the prior written approval of the Executive Vice President - Human Resources & Legal. No employee or any member of his or her family may act as a broker, finder or other intermediary for his or her benefit or for the benefit of any third party in a transaction involving the Company without the prior written approval of the Executive Vice President - Human Resources & Legal. Gifts or entertainment that have an aggregate value in any year in excess of $200 are generally considered to be excessive and shall not be accepted by the employee. This prohibition would also apply to common courtesies and hospitalities if their scale or nature would in any way appear to affect the impartiality of the employee or imply a conflict of interest. However, this prohibition is not meant to preclude an employee's acceptance of business entertainment that is not intended to influence loyalty of the employee to the Company and, that is reasonable in 2 nature, frequency and cost; for example, a lunch, dinner or occasional athletic, social or cultural event, or participation in corporate promotional events. An employee should make every effort to refuse to accept, or to return, any gift or gifts from a supplier, customer or other business partner exceeding $200 in value. If the employee determines that the donor would be insulted or embarrassed if the gift is refused or returned, a conflict can nevertheless be avoided by promptly reporting the gift to the employee's superior and delivering to the employee's superior the gift or a check payable to the Company for the fair value of the gift (which the Company will donate to charity). As a Senior Executive, Financial or Accounting Officer of the Company, it is imperative that you avoid any investment, interest or association that interferes, might interfere, or might be thought to interfere, with your independent exercise of judgment in the Company's best interest. III. Proper Accounting and Financial Integrity; Accurate Periodic Reports All transactions must be executed only in accordance with management's general or specific authorization. The Company's books, records and accounts must reflect, accurately and fairly and within the Company's regular system of accountability, all of the Company's transactions and the acquisition and disposition of its assets. All transactions shall be accurately recorded to permit the preparation of financial statements in conformity with generally accepted accounting principles consistently applied and other applicable rules, regulations and criteria, and to insure full accountability for all assets and activities of the Company. Under no circumstances shall there be any unrecorded funds or assets of the Company, regardless of the purposes for which such fund or asset may have been intended, or any improper or inaccurate entry, knowingly made on the books and records of the Company. No payment on behalf of the Company shall be approved or made with the intention or understanding that any part of such payment is to be used for a purpose other than that described by the documents supporting the payment. All employees must cooperate fully with the Company's internal audit staff, independent auditors and counsel to enable them to discharge their responsibilities to the fullest extent. As you are aware, full, fair, accurate, timely and understandable disclosure in our periodic reports filed with the SEC and Amex is required by SEC and Amex rules and is essential to our continued success. Please exercise the highest standard of care in preparing such reports in accordance with the guidelines set forth below, including, without limitation, the following: o All Company accounting records, as well as reports produced from those records, must be kept and presented in accordance with the laws of each applicable jurisdiction. o All records must fairly and accurately reflect the transactions or occurrences to which they relate. o All records must fairly and accurately reflect in reasonable detail the Company's assets, liabilities, revenues and expenses. 3 o The Company's accounting records must not contain any intentionally false or intentionally misleading entries. o No transaction may be intentionally misclassified as to accounts, departments or accounting periods. o All transactions must be supported by accurate documentation in reasonable detail and recorded in the proper account and in the proper accounting period. o No information may be concealed from the internal auditors or the independent auditors (or the Audit Committee or Board of Directors). o Compliance with Generally Accepted Accounting Principles and the Company's system of internal accounting controls is required at all times. IV. Compliance with Laws, Rules and Regulations Recognition of the public interest must be a permanent commitment of the Company in the conduct of its affairs. The activities of the Company and all of its employees, acting on its behalf must always be in full compliance with both the letter and spirit of all laws, rules and regulations applicable to our business. Furthermore, no employee should assist any third party in violating any applicable law, rule or regulation. This principle applies whether or not such assistance is, itself, unlawful. All employees must respect and obey the laws of the cities, states and countries in which we operate and avoid even the appearance of impropriety. When there is a doubt as to the lawfulness of any proposed activity, advice must be sought from the Executive Vice President - Human Resources & Legal. Violation of applicable laws, rules or regulations may subject the Company, as well as any employees involved, to severe adverse consequences, including imposition of injunctions, monetary damages (which could far exceed the value of any gain realized as a result of the violation, and which may be tripled in certain cases), fines and criminal penalties, including imprisonment. In addition, actual or apparent violations of applicable laws, rules and regulations by the Company or its employees can undermine the confidence of the Company's customers, investors, creditors and bankers, as well as that of the general public. Employees who fail to comply with this Code of Ethics and applicable laws will be subject to disciplinary measures up to and including termination of employment from the Company. V. Internal Communication and Enforcement of Policy Communication of the policies contained in this Code of Ethics will be made to all applicable employees of the Company who will be required to sign the attached Acknowledgement of Receipt and Understanding at least annually. It is important that each employee comply not only with the letter but, equally importantly, the spirit of these policies. If you believe that one of the Company's employees is acting in a manner that is not in compliance with this policy, or that you have been requested to so act in 4 such a manner, you should immediately bring this matter to the attention of the Executive Vice President - Human Resources & Legal. In order to encourage uninhibited communication of such matters, such communications will be treated confidentially to the fullest extent possible and no disciplinary or other retaliatory action will be taken against an employee who communicates such matters. VI. Effects of Failure to Comply Any questions regarding this Code of Ethics or its application should be discussed with the Executive Vice President -- Human Resources & Legal. Conduct violative of this Code of Ethics is expressly outside the employee's scope of employment. Any employee whose conduct violates this Code of Ethics will be subject to disciplinary action by the Company, including, in the Company's discretion, discharge and/or forfeiture of any benefits or rights (including contractual rights) which, under applicable law, are forfeitable upon discharge for cause, and to the enforcement of such other remedies as the Company may have under applicable law. VII. Amendments to and Waivers of the Code of Ethics Any amendment to or waiver of this Code of Ethics will be made only by the Board of Directors and notified in writing and will be promptly disclosed as required by law or stock exchange regulation. * * * 5 Acknowledgement of Receipt and Understanding of Hanover Direct, Inc.'s Code of Ethics I hereby acknowledge that I have been provided with Hanover Direct, Inc.'s Code of Ethics. I further acknowledge that I have read the Code of Ethics in its entirety and that I understand it. I agree to observe the policies and procedures contained in the Code of Ethics and have been advised that, if I have any questions or concerns relating to such policies or procedures, I should discuss them with the Human Resources Department. I understand that failing to abide by Hanover Direct, Inc.'s Code of Ethics could lead to disciplinary action up to and including termination of employment. I also understand that no one other than the Board of Directors has the authority to waive any provision of the Code of Ethics and that any waiver must be in writing. My signature below indicates my understanding of Hanover Direct, Inc.'s Code of Ethics and my agreement to abide by the policies and procedures contained therein. ________________________________ ________________________________ Employee Signature Date ________________________________ Print Name 6 EX-21.1 13 y84434exv21w1.txt SUBSIDIARIES . . . EXHIBIT 21.1 SUBSIDIARIES OF THE REGISTRANT NAME -- STATE OF INCORPORATION OR FORMATION
COMPANY STATE OF INCORPORATION OR FORMATION - ------- ----------------------------------- American Down and Textile, LLC Delaware Brawn of California, Inc. California Clearance World Outlets, LLC Delaware D.M. Advertising, LLC Delaware Domestications, LLC Delaware Gump's By Mail, Inc. Delaware Gump's Corp. California Hanover Company Store, LLC Delaware Hanover Gifts, Inc. Virginia Hanover Home Fashions Group, LLC Delaware Hanover Realty, Inc. Virginia Keystone Internet Services, LLC Delaware LaCrosse Fulfillment, LLC Delaware Scandia Down, LLC Delaware Silhouettes, LLC Delaware The Company Office, Inc. Delaware The Company Store Factory, Inc. Delaware The Company Store Group, LLC Delaware The Horn & Hardart Company, Inc. New York
EX-23.1 14 y84434exv23w1.txt CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in the registration statements (Nos. 2-92383, 2-94286, 33 52059, 33-52061, 33-52353, 33-52687, 33-58756, 33-58758, 33-58760, 33-66394, 333-3871, 333-02743, 333-03871, 333-13817, 333-25141, 333-51433, 333-80007, 333-91687, 333-91689, 333-88148, 333-88156 and 333-101564) on Form S-8 of Hanover Direct, Inc. of our report dated March 25, 2003 with respect to the consolidated balance sheet of Hanover Direct, Inc. as of December 28, 2002 and the related consolidated statements of income (loss), shareholders' deficiency, and cash flows for the year ended December 28, 2002 which report appears in the December 28, 2002 annual report on Form 10-K of Hanover Direct, Inc. Our report refers to the adoption in 2002 of the provisions of Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets." KPMG LLP New York, New York March 25, 2003 EX-99.1 15 y84434exv99w1.txt CERTIFICATION EXHIBIT 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 The undersigned, Thomas C. Shull, President and Chief Executive Officer of Hanover Direct, Inc. (the "Company"), hereby certifies that to his knowledge the Annual Report on Form 10-K for the period ended December 28, 2002 of the Company filed with the Securities and Exchange Commission on the date hereof (the "Report") fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934 and the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company for the period specified. Signed at the City of Edgewater, in the State of New Jersey, this 25th day of March, 2003. /s/ Thomas C. Shull -------------------------------------- Thomas C. Shull President and Chief Executive Officer EX-99.2 16 y84434exv99w2.txt CERTIFICATION EXHIBIT 99.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 The undersigned, Edward M. Lambert, Executive Vice President and Chief Financial Officer of Hanover Direct, Inc. (the "Company"), hereby certifies that to his knowledge the Annual Report on Form 10-K for the period ended December 28, 2002 of the Company filed with the Securities and Exchange Commission on the date hereof (the "Report") fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934 and the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company for the period specified. Signed at the City of Edgewater, in the State of New Jersey, this 25th day of March, 2003. /s/ Edward M. Lambert -------------------------------------- Edward M. Lambert Executive Vice President and Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----