10-Q 1 b48379swe10vq.txt SIMON WORLDWIDE, INC. UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended SEPTEMBER 30, 2003 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ___________________ to _________________________ Commission File Number: 0-21878 SIMON WORLDWIDE, INC. (Exact name of Registrant as specified in its charter) DELAWARE 04-3081657 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 1888 CENTURY PARK EAST, LOS ANGELES, CALIFORNIA 90067 (Address of principal executive offices) (Zip code) (310) 552-6800 (Registrant's telephone number, including area code) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by a check mark whether registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). [ ] At September 30, 2003, 16,653,193 shares of the Registrant's common stock were outstanding. SIMON WORLDWIDE, INC. FORM 10-Q TABLE OF CONTENTS
PAGE NUMBER PART I FINANCIAL INFORMATION Item 1. Condensed Financial Statements (Unaudited) Consolidated Balance Sheets - September 30, 2003 and December 31, 2002 3 Consolidated Statements of Operations - For the three and nine months ended September 30, 2003 and 2002 4 Consolidated Statements of Comprehensive Loss - For the three and nine months ended September 30, 2003 and 2002 5 Consolidated Statements of Cash Flows - For the nine months ended September 30, 2003 and 2002 6 Notes to Consolidated Financial Statements 7-16 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 17-21 Item 3. Quantitative and Qualitative Disclosures About Market Risk 21 Item 4. Controls and Procedures 21 PART II OTHER INFORMATION Item 1. Legal Proceedings 22 Item 6. Exhibits and Reports on Form 8-K 22 SIGNATURE 23
2 PART I - FINANCIAL INFORMATION ITEM 1. CONDENSED FINANCIAL STATEMENTS SIMON WORLDWIDE, INC. CONSOLIDATED BALANCE SHEETS (in thousands, except share data)
September 30, December 31, 2003 2002 ------------- ------------ (Unaudited) ASSETS Current assets: Cash and cash equivalents $ - $ 1,181 Restricted cash 5,032 7,640 Prepaid expenses and other current assets 348 1,394 Assets from discontinued operations to be disposed of - current 13,691 14,255 --------- --------- Total current assets 19,071 24,470 Property and equipment, net 48 67 Investments 500 500 Other assets 293 293 --------- --------- 19,912 25,330 Assets from discontinued operations to be disposed of - non-current 1,146 1,110 --------- --------- $ 21,058 $ 26,440 ========= ========= LIABILITIES AND STOCKHOLDERS' DEFICIT Current liabilities: Accounts payable: Trade $ 75 $ 51 Affiliates 158 155 Accrued expenses and other current liabilities 32 478 Liabilities from discontinued operations - current 14,837 15,365 --------- --------- 15,102 16,049 Commitments and contingencies Mandatorily redeemable preferred stock, Series A1 senior cumulative participating convertible, $.01 par value, 28,453 shares issued and outstanding at September 30, 2003 and 27,616 shares issued and outstanding at December 31, 2002, stated at redemption value of $1,000 per share 28,453 27,616 Stockholders' deficit: Common stock, $.01 par value; 50,000,000 shares authorized; 16,653,193 shares issued and outstanding at September 30, 2003 and December 31, 2002 167 167 Additional paid-in capital 138,500 138,500 Retained deficit (161,164) (155,892) --------- --------- Total stockholders' deficit (22,497) (17,225) --------- --------- $ 21,058 $ 26,440 ========= =========
The accompanying notes are an integral part of the consolidated financial statements. 3 SIMON WORLDWIDE, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) (in thousands, except per share data)
For the three months For the nine months ended September 30, ended September 30, ---------------------- ---------------------- 2003 2002 2003 2002 --------- --------- --------- --------- Revenue $ - $ - $ - $ - General and administrative expenses 1,228 1,068 4,102 3,614 Investment losses - 250 - 10,250 -------- -------- -------- -------- Loss from continuing operations before income taxes (1,228) (1,318) (4,102) (13,864) Income tax benefit - - - - -------- -------- -------- -------- Net loss from continuing operations (1,228) (1,318) (4,102) (13,864) Income (loss) from discontinued operations, net of tax (311) (405) (330) 5,522 -------- -------- -------- -------- Net loss (1,539) (1,723) (4,432) (8,342) Preferred stock dividends 282 280 840 818 -------- -------- -------- -------- Net loss available to common stockholders $ (1,821) $ (2,003) $ (5,272) $ (9,160) ======== ======== ======== ======== Loss per share from continuing operations available to common stockholders: Loss per common share - basic and diluted $ (0.09) $ (0.10) $ (0.30) $ (0.88) ======== ======== ======== ======== Weighted average shares outstanding - basic and diluted 16,653 16,653 16,653 16,653 ======== ======== ======== ======== Income (loss) per share from discontinued operations: Income (loss) per common share - basic and diluted $ (0.02) $ (0.02) $ (0.02) $ 0.33 ======== ======== ======== ======== Weighted average shares outstanding - basic and diluted 16,653 16,653 16,653 16,653 ======== ======== ======== ======== Net loss available to common stockholders: Loss per common share - basic and diluted $ (0.11) $ (0.12) $ (0.32) $ (0.55) ======== ======== ======== ======== Weighted average shares outstanding - basic and diluted 16,653 16,653 16,653 16,653 ======== ======== ======== ========
The accompanying notes are an integral part of the consolidated financial statements. 4 SIMON WORLDWIDE, INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (Unaudited) (in thousands)
For the three months For the nine months ended September 30, ended September 30, -------------------- -------------------- 2003 2002 2003 2002 -------- -------- -------- -------- Net loss $(1,539) $(1,723) $(4,432) $(8,342) ------- ------- ------- ------- Other comprehensive income, before tax: Foreign currency translation adjustments - - - 2,115 ------- ------- ------- ------- Other comprehensive income, before tax - - - 2,115 Income tax expense related to items of other comprehensive income - - - - ------- ------- ------- ------- Other comprehensive income, net of tax - - - 2,115 ------- ------- ------- ------- Comprehensive loss $(1,539) $(1,723) $(4,432) $(6,227) ======= ======= ======= =======
The accompanying notes are an integral part of the consolidated financial statements. 5 SIMON WORLDWIDE, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (in thousands)
For the nine months ended September 30, ---------------------- 2003 2002 --------- --------- Cash flows from operating activities: Net loss $ (4,432) $ (8,342) Income (loss) from discontinued operations (330) 5,522 -------- -------- Loss from continuing operations (4,102) (13,864) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 46 43 Charge for impaired investments - 10,250 Increase (decrease) in cash from changes in working capital items: Prepaid expenses and other current assets 1,046 786 Accounts payable 27 45 Accrued expenses and other current liabilities (446) 44 -------- -------- Net cash used in operating activities (3,429) (2,696) -------- -------- Cash flows from investing activities: Purchase of property and equipment (27) - Decrease (increase) in restricted cash 2,608 (5,272) -------- -------- Net cash provided by (used in) investing activities 2,581 (5,272) -------- -------- Net cash used in continuing operations (848) (7,968) Net cash provided by (used in) discontinued operations (333) 10,157 -------- -------- Net increase (decrease) in cash and cash equivalents (1,181) 2,189 Cash and cash equivalents, beginning of period 1,181 - -------- -------- Cash and cash equivalents, end of period $ - $ 2,189 ======== ======== Supplemental disclosure of cash flow information: Cash paid during the period for: Interest $ - $ 22 ======== ======== Income taxes $ 9 $ 72 ======== ======== Supplemental non-cash investing activities: Dividends paid in kind on mandatorily redeemable preferred stock $ 837 $ 804 ======== ========
The accompanying notes are an integral part of the consolidated financial statements. 6 SIMON WORLDWIDE, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS ($ in thousands, except share data and except dollar amounts followed immediately by the word "million") (Unaudited) 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements have been prepared by Simon Worldwide, Inc. ("the Company") pursuant to the rules and regulations of the Securities and Exchange Commission regarding interim financial reporting. Accordingly, they do not include all of the information and footnotes in accordance with generally accepted accounting principles for complete financial statements and should be read in conjunction with the financial statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2002. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments, consisting only of those considered necessary for fair presentation of the Company's financial position, results of operations and cash flows at the dates and for the periods presented. By April 2002, the Company had effectively eliminated a majority of its ongoing operations and was in the process of disposing of its assets and settling its liabilities related to the promotions business. During the second quarter of 2002, the discontinued activities of the Company, consisting of certain revenues, operating costs, general and administrative costs and certain assets and liabilities associated with the Company's promotions business, have been classified as discontinued operations for financial statement reporting purposes. Prior period historical financial information, pertaining to the promotions business, has been reclassified to discontinued operations (see Note 4). The embezzlement by a former employee caused McDonald's Corporation ("McDonald's") and Philip Morris Incorporated ("Philip Morris", now known as Altria, Inc.), substantial customers, to terminate their relationships with the Company (see Note 2). The loss of these customers resulted in the Company no longer having a business. Prior to the loss of its customers, the Company had operated as a multi-national full service promotional marketing company. Substantially all of the Company's assets and liabilities are in the same business segment. The disposal of the Company's long-lived assets and settlement of its liabilities is ongoing and will continue throughout 2003 and possibly into 2004. At September 30, 2003 and December 31, 2002, the Company had a passive investment in a limited liability company controlled by an affiliate (see Note 5). The operating results for the three and nine months ended September 30, 2003 are not necessarily indicative of the results to be expected for the full year. 2. LOSS OF CUSTOMERS, RESULTING EVENTS AND GOING CONCERN In August 2001, the Company experienced the loss of its two largest customers: McDonald's and, to a lesser extent, Philip Morris. Since August 2001, the Company has concentrated its efforts on reducing its costs and settling numerous claims, contractual obligations and pending litigation. As a result of these efforts the Company has been able to resolve a significant number of outstanding liabilities that existed at December 31, 2001 or arose subsequent to that date (see Note 7). As of December 31, 2001, the Company had 136 employees worldwide and had reduced its worldwide workforce to 9 employees as of December 31, 2002. At September 30, 2003 and December 31, 2002, the Company had a stockholders' deficit of $22,497 and $17,225, respectively, and a net loss of $4,432 and $8,342 for the nine month periods ended September 30, 2003 and 2002, respectively. Subsequent to December 31, 2001, the Company continued to incur losses in 2002 and continues to incur losses in 2003 for the general and administrative expenses being incurred to manage the affairs of the Company and resolve outstanding legal matters. Management believes it has sufficient capital resources and liquidity to operate the Company for the foreseeable future. However, as a result of the loss of these major customers, along with the resulting legal matters discussed further below, there is substantial doubt about the Company's ability to continue as a going concern. As a result of the stockholders' deficit, loss of customers and the related legal matters at December 31, 2002, the Company's independent public accountants have expressed substantial doubt about the Company's ability to continue as a going concern. The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties. As noted above, by April 2002, the Company had effectively eliminated a majority of its ongoing operations and was in the process of disposing of its assets and settling its liabilities related to the promotions business. The process is ongoing and 7 will continue throughout 2003 and possibly into 2004. The Board of Directors of the Company continues to consider various alternative courses of action for the Company going forward, including possibly acquiring one or more operating businesses, selling the Company or distributing its net assets, if any, to shareholders. The decision on which course to take will depend upon a number of factors including the outcome of the significant litigation matters in which the Company is involved (see Legal Actions Associated with the McDonald's Matter). To date, the Board of Directors has made no decision on which course of action to take. On August 21, 2001, the Company was notified by McDonald's that they were terminating their approximately 25-year relationship with Simon Marketing, Inc. ("Simon Marketing"), a subsidiary of the Company, as a result of the arrest of Jerome P. Jacobson ("Mr. Jacobson"), a former employee of Simon Marketing who subsequently plead guilty to embezzling winning game pieces from McDonald's promotional games administered by Simon Marketing. No other Company employee was found or alleged to have any knowledge of or complicity in his illegal scheme. The Second Superseding Indictment filed December 7, 2001 by the U.S. Attorney in the United States District Court for the Middle District of Florida charged that Mr. Jacobson "embezzled more than $20 million worth of high value winning McDonald's promotional game pieces from his employer, [Simon]". Simon Marketing was identified in the Indictment, along with McDonald's, as an innocent victim of Mr. Jacobson's fraudulent scheme. (Also, see section, Legal Actions Associated with the McDonald's Matter, below.) Further, on August 23, 2001, the Company was notified that its second largest customer, Philip Morris, was also ending their approximately nine year relationship with the Company. Net sales to McDonald's and Philip Morris accounted for 78% and 8%, 65% and 9% and 61% and 9% of total net sales in 2001, 2000 and 1999, respectively. The Company's financial condition, results of operations and net cash flows have been and will continue to be materially adversely affected by the loss of the McDonald's and Philip Morris business, as well as the loss of its other customers. At September 30, 2003 and December 31, 2002, the Company had no customer backlog as compared to $2,200 of written customer purchase orders at September 30, 2001. In addition, the absence of business from McDonald's and Philip Morris has adversely affected the Company's relationship with and access to foreign manufacturing sources. During the nine months ended September 30, 2002, the Company recorded a pre-tax net charge totaling approximately $3,569 associated with the loss of customers, included within discontinued operations (see Note 4). Charges totaling $6,742, primarily related to asset write-downs ($2,388), professional fees ($3,531), labor and other costs ($823), were partially offset by recoveries of accounts receivable balances that had been written off in previous periods ($1,293), and other gains ($1,880). No such charges were incurred during the nine months ended September 30, 2003. Legal Actions Associated with the McDonald's Matter Subsequent to August 21, 2001, numerous consumer class action and representative action lawsuits (hereafter variously referred to as, "actions", "complaints" or "lawsuits") have been filed in Illinois, the headquarters of McDonald's, and in multiple jurisdictions nationwide and in Canada. Plaintiffs in these actions asserted diverse causes of action, including negligence, breach of contract, fraud, restitution, unjust enrichment, misrepresentation, false advertising, breach of warranty, unfair competition and violation of various state consumer fraud statutes. Complaints filed in federal court in New Jersey also alleged a pattern of racketeering. Plaintiffs in many of these actions alleged, among other things, that defendants, including the Company, its subsidiary Simon Marketing, and McDonald's, misrepresented that plaintiffs had a chance at winning certain high-value prizes when in fact the prizes were stolen by Mr. Jacobson. Plaintiffs seek various forms of relief, including restitution of monies paid for McDonald's food, disgorgement of profits, recovery of the "stolen" game prizes, other compensatory damages, attorney's fees, punitive damages and injunctive relief. The class and/or representative actions filed in Illinois state court were consolidated in the Circuit Court of Cook County, Illinois (the "Boland" case). Numerous class and representative actions filed in California have been consolidated in California Superior Court for the County of Orange (the "California Court"). Numerous class and representative actions filed in federal courts nationwide were transferred by the Judicial Panel on Multidistrict Litigation (the "MDL Panel") to the federal district court in Chicago, Illinois (the "MDL Proceedings"). Numerous of the class and representative actions filed in state courts other than in Illinois and California were removed to federal court and transferred by the MDL Panel to the MDL Proceedings. On April 19, 2002, McDonald's entered into a Stipulation of Settlement (the "Boland Settlement") with certain plaintiffs in the Boland case pending in the Circuit Court of Cook County, Illinois (the "Illinois Circuit Court"). The Boland Settlement purports to settle and release, among other things, all claims related to the administration, execution and operation of the McDonald's promotional games, or to "the theft, conversion, misappropriation, seeding, dissemination, redemption or non-redemption of a winning prize or winning game piece in any McDonald's Promotional Game," including without limitation claims brought under the consumer protection statutes or laws of any jurisdiction, that have been or could or might have been 8 alleged by any class member in any forum in the United States of America, subject to a right of class members to opt out on an individual basis, and includes a full release of the Company and Simon Marketing, as well as their officers, directors, employees, agents, and vendors. Under the terms of the Boland Settlement, McDonald's agrees to sponsor and run a "Prize Giveaway" in which a total of fifteen (15) $1 million prizes, payable in twenty equal annual installments with no interest, shall be randomly awarded to persons in attendance at McDonald's restaurants. The Company has been informed that McDonald's, in its capacity as an additional insured, has tendered a claim to Simon Marketing's Errors & Omissions insurance carriers to cover some or all of the cost of the Boland Settlement, including the cost of running the "Prize Giveaway," of the prizes themselves and of attorneys' fees to be paid to plaintiffs' counsel of $2.8 million. On June 6, 2002, the Illinois Circuit Court issued a preliminary order approving the Boland Settlement and authorizing notice to the class. On August 28, 2002, the opt-out period pertaining thereto expired. The Company has been informed that approximately 250 persons in the United States and Canada purport to have opted out of the Boland Settlement. On January 3, 2003, the Illinois Circuit Court issued an order approving the Boland Settlement and overruling objections thereto and on April 8, 2003 a final order was issued. The Boland Settlement was conditioned upon a final judgment being issued in the Boland case and in the case before the California Court. Inasmuch as the appeal periods have expired in the Boland case, a final judgment has been rendered in the case. However, no final judgment has yet been rendered by the California Court. Even if the Boland Settlement is enforceable to bar claims of persons who have not opted out, individual claims may be asserted by those persons who are determined to have properly opted out of the Boland Settlement. Claims may also be asserted in Canada and by individuals whose claims do not involve the Jacobson theft if a court were to determine the claim to be distinguishable from and not barred by the Boland Settlement. The remaining cases in the MDL Proceedings were dismissed on April 29, 2003, other than a case originally filed in federal district court in Kentucky, in which the plaintiff has opted out of the Boland Settlement. The plaintiff in that case asserts that McDonald's and Simon Marketing failed to redeem a purported $1 million winning ticket. This case has been ordered to arbitration. In the California Court, certain of the California plaintiffs purported to have opted out of the Boland Settlement individually and also on behalf of all California consumers. In its final order approving the Boland Settlement, the Illinois court rejected the attempt by the California plaintiffs to opt out on behalf of all California consumers. On June 2, 2003, the California Court granted the motion of McDonald's and Simon Marketing to dismiss all class and representative claims as having been barred by the Boland Settlement. An appeal by the California plaintiffs is currently pending. The Boland Settlement will become final only when a final judgment is issued by the California Court. Even with the Boland Settlement, individual claims may go forward as to those plaintiffs who are determined to have properly opted out of the Boland Settlement or who have asserted claims not involving the Jacobson theft. The Company does not know which California and non-California claims will go forward notwithstanding the Boland Settlement. On or about September 13, 2002, an action was filed against Simon Marketing and McDonald's in Ontario Provincial Court alleging that Simon Marketing and McDonald's deliberately diverted from seeding in Canada game pieces with high-level winning prizes in certain McDonald's promotional games. The plaintiffs are Canadian citizens seeking restitution and damages on a class-wide basis. On October 28, 2002, an action was filed against Simon Marketing in Ontario Provincial Court containing similar allegations. The plaintiffs in the aforesaid actions seek an aggregate of $110 million in damages. Simon Marketing has retained Canadian local counsel to represent it in these actions. The Company believes that the plaintiffs in these actions did not opt out of the Boland Settlement. The Company and McDonald's have filed motions to dismiss or stay these cases on the basis of the Boland Settlement. There has not yet been a hearing on this motion. On October 23, 2001, the Company and Simon Marketing filed suit against McDonald's in California Superior Court for the County of Los Angeles. The complaint alleged, among other things, fraud, defamation and breach of contract in connection with the termination of Simon Marketing's relationship with McDonald's. Also on October 23, 2001, the Company and Simon Marketing were named as defendants, along with Mr. Jacobson, and certain other individuals unrelated to the Company or Simon Marketing, in a complaint filed by McDonald's in the United States District Court for the Northern District of Illinois. The complaint alleged that Simon Marketing had engaged in fraud, breach of contract, breach of fiduciary obligations and civil conspiracy and alleged that McDonald's was entitled to indemnification and damages of an unspecified amount. The federal lawsuit by McDonald's was dismissed for lack of federal jurisdiction. Subsequently, a substantially similar lawsuit was filed by McDonald's in Illinois state court which the Company had moved to dismiss as a compulsory counter-claim which must properly be filed in the Company's California state court action. In March 2002, Simon Marketing initiated a lawsuit against certain suppliers and agents of McDonald's in California Superior Court for the County of Los Angeles. The complaint alleges, among other things, breach of contract and intentional 9 interference with contractual relations. In July 2002, a stay was granted in the case on the basis of "forum non conveniens", which would require the case to be refiled in Illinois state court. The Company filed an appeal of the stay. The Company has entered into a settlement agreement with McDonald's as well as the aforesaid suppliers and agents of McDonald's in which all parties dismiss all causes of action against each other and mutually release each other from all liabilities and obligations. The agreement provides that settlement payments will not be made nor will the mutual releases be final until the Effective Date of the Boland Settlement. Although the Boland Settlement has been approved by the court, its Effective Date remains contingent upon the resolution of the case before the California Court. There can be no assurance as to when this condition will be satisfied and the Boland Settlement and the settlement with McDonald's will take effect, but the Company expects it could take up to a year. Under the terms of the agreement with McDonald's, when the settlement is effective, McDonald's will pay $6.9 million to the Company and assign to the Company its rights to certain insurance proceeds, which are expected to be approximately $9.7 million, resulting in a payment to the Company of approximately $16.6 million. On August 22, 2003 the Company was served with a lawsuit in the State Circuit Court for Montgomery County Maryland filed by Stone Street Capital, Inc. ("Stone Street") against Simon Marketing, McDonald's and George Chandler, an individual convicted as a conspirator with Mr. Jacobson in connection with the theft of "stolen" McDonald's game pieces. Stone Street alleges that it purchased a purported winning game ticket from Mr. Chandler from which it received an assignment of the right to 19 installment payments of $50,000 each. Such installment payments were terminated after the Jacobson theft was uncovered, and Stone Street seeks to recover amounts paid by it from McDonald's and Simon Marketing. The Company has attempted to remove the case to federal court and transfer it to the MDL Proceedings. Plaintiffs have opposed removal and transfer, and motions by the parties are pending. On March 29, 2002, Simon Marketing filed a lawsuit against PricewaterhouseCoopers LLP ("PWC") and two other accounting firms, citing the accountants' failure to oversee, on behalf of Simon Marketing, various steps in the distribution of high-value game pieces for certain McDonald's promotional games. The complaint alleges that this failure allowed the misappropriation of certain of these high-value game pieces by Mr. Jacobson. The lawsuit, filed in Los Angeles Superior Court, seeks unspecified actual and punitive damages resulting from economic injury, loss of income and profit, loss of goodwill, loss of reputation, lost interest, and other general and special damages. The defendants' motion to dismiss for "forum non conveniens" has been denied in the case and, following demurrers by the defendants, the Company filed a first amended complaint against two firms, PWC and one of the two other accounting firms named as defendants in the original complaint, KPMG LLP. Subsequently the defendants' demurrers to the first and a later second amended complaint were sustained in part, including the dismissal of all claims for punitive damages with no leave to amend, and a third amended complaint will be filed. As a result of this lawsuit, PWC resigned as the Company's independent public accountants on April 17, 2002. In addition, on April 17, 2002, PWC withdrew its audit report dated March 26, 2002 filed with the Company's original 2001 Annual Report on Form 10-K. PWC indicated that it believed the lawsuit resulted in an impairment of its independence in connection with the audit of the Company's 2001 financial statements. The Company does not believe that PWC's independence was impaired. On June 6, 2002, the Company engaged BDO Seidman LLP as the Company's new independent public accountants. In connection with obtaining PWC's consent to the inclusion of their audit report dated March 26, 2002 in its annual report on Form 10-K/A for the year ended December 31, 2001, the Company agreed to indemnify PWC against any legal costs and expenses incurred by PWC in the successful defense of any legal action that arises as a result of such inclusion. Such indemnification will be void if a court finds PWC liable for professional malpractice. The Company has been informed that in the opinion of the Securities and Exchange Commission indemnification for liabilities arising under the Securities Act of 1933 is against public policy and therefore unenforceable. PWC has provided the Company with a copy of a 1995 letter from the Office of the Chief Accountant of the Commission, which states that, in a similar situation, his Office would not object to an indemnification agreement of the kind between the Company and PWC. For additional information related to certain matters discussed in this section, reference is made to the Company's Reports on Form 8-K dated April 17, 2002, June 6, 2002 and August 19, 2003. 10 3. RECENTLY ISSUED ACCOUNTING STANDARDS STOCK-BASED COMPENSATION PLANS AND PRO FORMA STOCK-BASED COMPENSATION EXPENSE In December 2002, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 148, "Accounting for Stock Based Compensation - Transition and Disclosure - an amendment of FASB Statement No. 123". SFAS No. 148 amends SFAS No. 123, "Accounting for Stock-Based Compensation," to provide alternative methods of transition for a voluntary change to the fair-value-based method of accounting for stock-based employee compensation. In addition, SFAS No. 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. As provided for in SFAS No. 123, the Company has elected to apply APB No. 25, "Accounting for Stock Issued to Employees" and related interpretations in accounting for its stock-based compensation plans. APB No. 25 does not require options to be expensed when granted with an exercise price equal to fair market value. The Company is complying with the disclosure requirements of SFAS No. 148. At September 30, 2003, the Company had one stock-based compensation plan. The Company adopted the disclosure provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," and has applied APB No. 25 and related Interpretations in accounting for its plans. Accordingly, no compensation cost has been recognized related to such plans. Since there were no employee stock option grants during the three and nine month periods ended September 30, 2003 and 2002, there is no impact on net income as reported in the accompanying consolidated financial statements.
For the three months For the nine months ended September 30, ended September 30, ---------------------- ----------------------- 2003 2002 2003 2002 --------- -------- --------- --------- Net loss available to common stockholders $ (1,821) $(2,003) $ (5,272) $ (9,160) Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of income taxes - - - - --------- -------- --------- --------- Net loss available to common stockholders - pro forma $ (1,821) ($ 2,003) $ (5,272) ($ 9,160) ========= ======== ========= ========= Loss per common share - basic and diluted - as reported $ (0.11) $ (0.12) $ (0.32) $ (0.55) ========= ======== ========= ========= Loss per common share - basic and diluted - pro forma $ (0.11) $ (0.12) $ (0.32) $ (0.55) ========= ======== ========= =========
OTHER ACCOUNTING PRONOUNCEMENTS In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable Interest Entities, an Interpretation of ARB 51". The primary objectives of FIN No. 46 are to provide guidance on the identification of entities for which control is achieved through means other than through voting rights ("variable interest entities" or "VIEs") and how to determine when and which business enterprise should consolidate the VIE. This new model for consolidation applies to an entity for which either: (a) the equity investors (if any) do not have a controlling financial interest; or (b) the equity investment at risk is insufficient to finance that entity's activities without receiving additional subordinated financial support from other parties. In addition, FIN No. 46 requires that both the primary beneficiary and all other enterprises with a significant variable interest in a VIE make additional disclosures. The Company is required to apply FIN No. 46 to all new variable interest entities created or acquired after January 31, 2003. For variable interest entities created or acquired prior to February 1, 2003, the Company is required to apply FIN No. 46 beginning on July 1, 2003. The Company does not anticipate that FIN No. 46 will materially affect its consolidated financial statements. In June 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity". This statement established standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify the following financial instruments as liabilities (or assets in some circumstances) in its financial statements: instruments issued in the form of shares that are mandatorily redeemable through the transfer of the issuer's assets at a specified date or upon an event that is likely to occur; an instrument (other than an outstanding share) that embodies an obligation to repurchase the issuer's equity shares and that requires or may require the issuer to settle the obligation through the transfer of assets; an instrument that embodies an unconditional obligation; or an instrument (other than an outstanding share) that embodies a conditional obligation that the issuer must or may settle by issuing a variable number of equity shares. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003 and is otherwise effective at the beginning of the first interim period beginning after June 15, 2003. The Company had $28,453 and $27,616 of preferred stock outstanding at September 30, 2003 and 11 December 31, 2002, respectively. Because such preferred stock is not mandatorily redeemable at a specified date or upon an event that is likely to occur, the Company does not consider its preferred stock to be mandatorily redeemable within the scope of SFAS No. 150. Accordingly, the Company does not expect SFAS No. 150 to have a material impact on its financial position, results of operations or cash flows. 4. DISCONTINUED OPERATIONS As discussed in Note 1, by April 2002, the Company had effectively eliminated a majority of its ongoing operations and was in the process of disposing of its assets and settling its liabilities related to the promotions business. Accordingly, the discontinued activities of the Company have been classified as discontinued operations in the accompanying consolidated financial statements. Continuing operations represent the direct costs required to maintain the Company's current corporate infrastructure that will enable the Board of Directors to pursue various alternative courses of action going forward. These costs primarily consist of the salaries and benefits of executive management and corporate finance staff, professional fees, Board of Director fees, space and facility costs and losses on certain investments. Assets and liabilities from discontinued operations as of September 30, 2003 and December 31, 2002, as disclosed in the accompanying consolidated financial statements, consist of the following:
September 30, December 31, 2003 2002 ------------ ------------ Assets: Cash and cash equivalents $ 11,091 $ 13,236 Restricted cash 1,835 - Accounts receivable: Trade, less allowance for doubtful accounts of $13,633 at September 30, 2003 and $13,416 at December 31, 2002 312 558 Prepaid expenses and other current assets 453 461 ---------- ---------- Total current assets 13,691 14,255 Other assets 1,146 1,110 ---------- ---------- Assets from discontinued operations to be disposed of $ 14,837 $ 15,365 ========== ========== Liabilities: Accounts payable - trade $ 5,313 $ 5,736 Accrued expenses and other current liabilities 9,524 9,629 ---------- ---------- Total current liabilities 14,837 15,365 ---------- ---------- Liabilities from discontinued operations $ 14,837 $ 15,365 ========== ==========
12 Net income (loss) from discontinued operations available to common stockholders for the three and nine months ended September 30, 2003 and 2002, as disclosed in the accompanying consolidated financial statements, consists of the following:
For the three months For the nine months ended September 30, ended September 30, ----------------------- ----------------------- 2003 2002 2003 2002 --------- --------- --------- --------- Net sales $ - $ - $ - $ - Cost of sales - - - - --------- --------- --------- --------- Gross profit - - - - Selling, general and administrative expenses 227 (381) 502 4,221 Charges attributable to loss of significant customers, net - 1,991 - 3,569 Gain on settlement of obligations (17) (369) (23) (9,632) Restructuring - - - (750) --------- --------- --------- --------- Operating income (loss) (210) (1,241) (479) 2,592 Interest income (37) (100) (211) (306) Interest expense - - - 35 Other (income) expense 138 (736) 62 827 --------- --------- --------- --------- Income (loss) before income taxes (311) (405) (330) 2,036 Income tax benefit - - - (3,486) --------- --------- --------- --------- Net income (loss) from discontinued operations available to common stockholders $ (311) $ (405) $ (330) $ 5,522 ========= ========= ========= =========
5. LONG-TERM INVESTMENTS The Company has made strategic and venture investments in a portfolio of privately held companies that are being accounted for under the cost method. These investments are in Internet-related companies that are at varying stages of development, including startups, and were intended to provide the Company with an expanded Internet presence, to enhance the Company's position at the leading edge of e-business and to provide venture investment returns. These companies in which the Company has invested are subject to all the risks inherent in the Internet, including their dependency upon the widespread acceptance and use of the Internet as an effective medium for commerce. In addition, these companies are subject to the valuation volatility associated with the investment community and the capital markets. The carrying value of the Company's investments in these Internet-related companies is subject to the aforementioned risks inherent in the Internet business. Periodically, the Company performs a review of the carrying value of all its investments in these Internet-related companies, and considers such factors as current results, trends and future prospects, capital market conditions and other economic factors. In June 2002, certain events occurred which indicated an impairment of its investment in Alliance Entertainment Corp. ("Alliance"), an indirect investment through a limited liability company that is controlled by The Yucaipa Companies ("Yucaipa"), an affiliate of the Company. This investment had a carrying value of $0 at September 30, 2003 and December 31, 2002. Yucaipa is believed to be indirectly a significant shareholder in Alliance, which is a home entertainment product distribution, fulfillment, and infrastructure company providing both brick-and-mortar and e-commerce home entertainment retailers with complete business-to-business solutions. The Company recorded a pre-tax non-cash investment loss of $10,000 during the second quarter of 2002 to write-down its investment, included as part of the Company's continuing operations. For the years ended December 31, 2001 and 2000, the Company also recorded impairment charges of $1,500 and $2,500, respectively, related to other investments in affiliate-controlled entities. During the third quarter of 2002, the Company also received a final return of capital, totaling approximately $275, on an investment with a carrying value totaling approximately $525 as of December 31, 2001. An investment loss of approximately $250 was recorded in connection with this final distribution, included as part of the Company's continuing operations. While the Company will continue to periodically evaluate its Internet-related investments, there can be no assurance that the companies in which it has invested will be successful, and thus the Company might not ever realize any benefits from its portfolio of investments. 13 6. SHORT-TERM BORROWINGS The Company's Credit and Security Agreements, which provided for working capital and other financing arrangements expired on May 15, 2002. At September 30, 2003 the Company had various pre-existing letters of credit outstanding, which are cash collateralized and have various expiration dates through August 2007. As a result of the loss of its McDonald's and Philip Morris business (see Note 2), the Company no longer has the ability to borrow under any of its existing credit facilities without it being fully cash collateralized. Restricted cash at September 30, 2003 and December 31, 2002 primarily consists of amounts deposited with lenders to satisfy the Company's obligations pursuant to its outstanding standby letters of credit. Restricted cash within continuing operations also includes $2,700 deposited into an irrevocable trust during 2002 (see Note 9). 7. SETTLEMENT OF OBLIGATIONS During 2002 the Company negotiated settlements related to outstanding liabilities with many of its suppliers. These settlements were on terms generally more favorable to the Company than required by the existing terms of the liabilities. For the nine months ended September 30, 2003 and 2002 the difference between the final settlement payments and the outstanding obligations was $23 and $9,632, respectively, included in Gain on Settlement of Obligations within discontinued operations (see Note 4). 8. RESTRUCTURING 2001 Restructuring The Company recorded a second quarter 2001 pre-tax charge of approximately $20,212 for restructuring expenses principally related to employee termination costs, asset write-downs, loss on the sale of the United Kingdom business and settlement of certain lease obligations. During the first quarter of 2002, the Company revised its initial estimate of future restructuring activities and, as a result, recorded a $304 reduction to the restructuring accrual outstanding as of December 31, 2001. As the restructuring plan was complete by the first quarter of 2002, there was no activity during the three and nine months ended September 30, 2003. As these restructuring efforts related to the promotions business, this activity is included within discontinued operations (see Note 4). A summary of activity in the restructuring accrual is as follows: BALANCE AT JANUARY 1, 2001 $ - Restructuring provision 20,212 Non-cash asset write-downs (8,874) Employee termination costs and other cash payments (9,340) -------- BALANCE AT DECEMBER 31, 2001 1,998 Employee termination costs and other cash payments (1,544) Non-cash asset write-downs (150) Accrual reversal (304) -------- BALANCE AT DECEMBER 31, 2002 $ - ========
2000 Restructuring As a result of its May 2000 restructuring, the Company recorded a net charge to 2000 operations of $5,735 for involuntary termination costs, asset write-downs and the settlement of lease obligations. During 2002, the Company revised its initial estimate of future restructuring activities and, as a result, recorded a $446 reduction to the restructuring accrual outstanding as of December 31, 2001. As the restructuring plan was complete by the first quarter of 2002, there was no activity during the three and nine months ended September 30, 2003. As these restructuring efforts related to the promotions business, this activity is included within discontinued operations (see Note 4). A summary of activity in the restructuring accrual is as follows: 14 BALANCE AT JANUARY 1, 2001 $ 1,193 Employee termination costs and other cash payments (657) Non-cash asset write-downs (90) -------- BALANCE AT DECEMBER 31, 2001 446 Accrual reversal (446) -------- BALANCE AT DECEMBER 31, 2002 $ - ========
9. INDEMNIFICATION TRUST AGREEMENT In March 2002, the Company, Simon Marketing and a Trustee entered into an Indemnification Trust Agreement (the "Agreement" or the "Trust"), which requires the Company and Simon Marketing to fund an irrevocable trust in the amount of $2,700. The Trust was set up and will be used to augment the Company's existing insurance coverage for indemnifying directors, officers and certain described consultants, who are entitled to indemnification against liabilities arising out of their status as directors, officers and/or consultants (individually, "Indemnitee" or collectively, "Indemnitees"). The Trust will pay Indemnitees for amounts to which the Indemnitees are legally and properly entitled under the Company's indemnity obligation and which amounts are not paid to the Indemnitees by another party. During the term of the Trust, which continues until the earlier to occur of: (i) the later of: (a) four years from the date of the Agreement; or (b) as soon thereafter as no claim is pending against any Indemnitee which is indemnifiable under the Company's indemnity obligations; or (ii) March 1, 2022, the Company is required to replenish the Trust (up to $2,700) for funds paid out to an Indemnitee. Upon termination of the Trust, if, after payment of all outstanding claims against the Trust have been satisfied, there are funds remaining in the Trust, such funds and all other assets of the Trust shall be distributed to Simon Marketing. These funds are included in Restricted Cash within continuing operations in the accompanying consolidated balance sheet as of September 30, 2003 and December 31, 2002. 10. EARNINGS PER SHARE DISCLOSURE The following is a reconciliation of the numerators and denominators of the basic and diluted EPS computation for "loss available to common stockholders" and other related disclosures required by SFAS No. 128, "Earnings per Share" (in thousands, except share data):
For the three months ended September 30, 2003 2002 ------------------------------------ ------------------------------------- Income Shares Per Share Income Shares Per Share (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount ----------- ------------- ------ ----------- ------------- ------ Basic and diluted EPS: Loss from continuing operations $ (1,228) $ (1,318) Preferred stock dividends 282 280 --------- ---------- Loss from continuing operations available to common stockholders $ (1,510) 16,653,193 $ (0.09) $ (1,598) 16,653,193 $ (0.10) ========= ========== ======= ========== ========== ======= Loss from discontinued operations $ (311) 16,653,193 $ (0.02) $ (405) 16,653,193 $ (0.02) ========= ========== ======= ========== ========== ======= Net loss (1,539) (1,723) Preferred stock dividends 282 280 --------- ---------- Net loss available to common stockholders $ (1,821) 16,653,193 $ (0.11) $ (2,003) 16,653,193 $ (0.12) ========= ========== ======= ========== ========== =======
For the three months ended September 30, 2003 and 2002, 3,433,921 and 3,299,930 shares of convertible preferred stock, respectively, were not included in the computation of diluted EPS because to do so would have been antidilutive. 15
For the nine months ended September 30, 2003 2002 -------------------------------------- ------------------------------------------ Income Shares Per Share Income Shares Per Share (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount ----------- ------------- ------ ----------- ------------- ------ Basic and diluted EPS: Loss from continuing operations $ (4,102) $ (13,864) Preferred stock dividends 840 818 --------- ---------- Loss from continuing operations available to common stockholders $ (4,942) 16,653,193 $ (0.30) $ (14,682) 16,653,193 $ (0.88) ========= ========== ======= ========== ========== ======= Income (loss) from discontinued operations $ (330) 16,653,193 $ (0.02) $ 5,522 16,653,193 $ 0.33 ========= ========== ======= ========== ========== ======= Net loss (4,432) (8,342) Preferred stock dividends 840 818 --------- ---------- Net loss available to common stockholders $ (5,272) 16,653,193 $ (0.32) $ (9,160) 16,653,193 $ (0.55) ========= ========== ======= ========== ========== =======
For the nine months ended September 30, 2003 and 2002, 3,400,121 and 3,267,569 shares of convertible preferred stock, respectively, were not included in the computation of diluted EPS because to do so would have been antidilutive. 16 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following is a discussion of the financial condition and results of operations of Simon Worldwide, Inc. ("the Company") for the three and nine months ended September 30, 2003 as compared to the same periods in the previous year. This discussion should be read in conjunction with the consolidated financial statements of the Company and related Notes included elsewhere in this Form 10-Q. FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS From time to time, the Company may provide forward-looking information such as forecasts of expected future performance or statements about the Company's plans and objectives, including certain information provided below. These forward-looking statements are based largely on the Company's expectations and are subject to a number of risks and uncertainties, certain of which are beyond the Company's control. The Company wishes to caution readers that actual results may differ materially from those expressed in any forward-looking statements made by, or on behalf of, the Company including, without limitation, as a result of factors described in the Company's Amended Cautionary Statement for Purposes of the "Safe Harbor" Provisions of the Private Securities Litigation Reform Act of 1995, filed as Exhibit 99.1 to the Company's 2002 Annual Report on Form 10-K which is incorporated herein by reference. GENERAL In August 2001, the Company experienced the loss of its two largest customers: McDonald's Corporation ("McDonald's") and, to a lesser extent, Philip Morris Incorporated ("Philip Morris"), now known as Altria, Inc. Since August 2001, the Company has concentrated its efforts on reducing its costs and settling numerous claims, contractual obligations and pending litigation. As a result of these efforts the Company has been able to resolve a significant number of outstanding liabilities that existed at December 31, 2001 or arose subsequent to that date. As of December 31, 2001, the Company had 136 employees worldwide and had reduced its worldwide workforce to 9 employees as of December 31, 2002. See Notes 2 and 7 in the accompanying consolidated financial statements. At September 30, 2003 and December 31, 2002, the Company had a stockholders' deficit of $22.5 million and $17.2 million, respectively, and a net loss of $4.4 million and $8.3 million for the nine months ended September 30, 2003 and 2002, respectively. The Company has continued to incur losses in 2003 for the general and administrative expenses being incurred to manage the affairs of the Company and resolve outstanding legal matters. Management believes it has sufficient capital resources and liquidity to operate the Company for the foreseeable future. However, as a result of the loss of these major customers, along with the resulting legal matters discussed further below, there is substantial doubt about the Company's ability to continue as a going concern. As a result of the stockholders' deficit, loss of customers and the related legal matters at December 31, 2002, the Company's independent public accountants have expressed substantial doubt about the Company's ability to continue as a going concern. The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties. By April 2002, the Company had effectively eliminated a majority of its ongoing operations and was in the process of disposing of its assets and settling its liabilities related to the promotions business. The process is ongoing and will continue throughout 2003 and possibly into 2004. During the second quarter of 2002, the discontinued activities of the Company, consisting of revenues, operating costs, certain general and administrative costs and certain assets and liabilities associated with the Company's promotions business were classified as discontinued operations for financial reporting purposes. The Board of Directors of the Company continues to consider various alternative courses of action for the Company going forward, including possibly acquiring one or more operating businesses, selling the Company or distributing its net assets, if any, to shareholders. The decision on which course to take will depend upon a number of factors including the outcome of the significant litigation matters in which the Company is involved (see Legal Actions Associated with the McDonald's Matter). To date, the Board of Directors has made no decision on which course of action to take. Until the unanticipated events of August 2001 occurred, the Company had been operating as a multi-national full-service promotional marketing company, specializing in the design and development of high-impact promotional products and sales promotions. The majority of the Company's revenue was derived from the sale of products to consumer products and services companies seeking to promote their brand names and corporate identities and build brand loyalty. Net sales to McDonald's and Philip Morris accounted for 78% and 8%, respectively, of total net sales in 2001. 17 OUTLOOK As a result of the loss of its McDonald's and Philip Morris business, along with the resulting legal matters, there is substantial doubt about the Company's ability to continue as a going concern. The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties. The Company has taken significant actions and will continue to take further action to reduce its cost structure. The Board of Directors of the Company continues to consider various alternative courses of action for the Company going forward, including possibly acquiring one or more operating businesses, selling the Company or distributing its net assets, if any, to shareholders. The decision on which course to take will depend upon a number of factors including the outcome of the significant litigation matters in which the Company is involved (see Legal Actions Associated with the McDonald's Matter). To date, the Board of Directors has made no decision on which course of action to take. Management believes it has sufficient capital resources and liquidity to operate the Company for the foreseeable future. RESULTS OF CONTINUING AND DISCONTINUED OPERATIONS By April 2002, the Company had effectively eliminated a majority of its ongoing operations and was in the process of disposing of its assets and settling its liabilities related to the promotions business. Accordingly, the discontinued activities of the Company have been classified as discontinued operations in the accompanying consolidated financial statements. Continuing operations represent the direct costs required to maintain the Company's current corporate infrastructure that will enable the Board of Directors to pursue various alternative courses of action going forward. These costs primarily consist of the salaries and benefits of executive management and corporate finance staff, professional fees, Board of Director fees, space and facility costs and losses on certain investments. The Company's continuing operations and discontinued operations will be discussed separately, based on the respective financial results contained in the accompanying consolidated financial statements and the notes thereto. RESULTS OF CONTINUING OPERATIONS THREE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO THREE MONTHS ENDED SEPTEMBER 30, 2002 Selling, general and administrative expenses totaled $1.2 million and $1.1 million for the three months ended September 30, 2003 and 2002, respectively. The fluctuation was primarily due to an increase in insurance premiums. Investment Losses, representing charges related to other-than-temporary investment impairments associated with the Company's venture portfolio, totaled $0 and $.3 million for the three months ended September 30, 2003 and 2002, respectively. NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30, 2002 Selling, general and administrative expenses totaled $4.1 million and $3.6 million for the nine months ended September 30, 2003 and 2002, respectively. The fluctuation was primarily due to an increase in insurance premiums. Investment Losses, representing charges related to other-than-temporary investment impairments associated with the Company's venture portfolio, totaled $0 and $10.3 million for the nine months ended September 30, 2003 and 2002, respectively. RESULTS OF DISCONTINUED OPERATIONS THREE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO THREE MONTHS ENDED SEPTEMBER 30, 2002 There were no net sales or gross profit for the three months ended September 30, 2003 and 2002. The Company's lack of net sales and gross profit was primarily attributable to the effects associated with the loss of its McDonald's and Philip Morris business. See notes to consolidated financial statements. Selling, general and administrative expenses totaled $.2 million and $(.4) million for the three months ended September 30, 2003 and 2002, respectively. Selling, general and administrative expenses of $(.4) million for the three months ended September 30, 2002 included a settlement of lease and other obligations of $.4 million less than amounts accrued. The fluctuation was primarily due to the effect of settlement of lease and other obligations for amounts less than accrued and other gains included in the three months ended September 30, 2002 while there were no material items of a similar nature included in the three months ended September 30, 2003. See notes to consolidated financial statements. The Company recorded a pre-tax net charge totaling $2.0 million for the three months ended September 30, 2002 related to the loss of customers. These charges were primarily related to asset write-downs ($.2 million), professional fees ($1.0 million) and labor and other costs ($.8 million). There were no such charges for the three months ended September 30, 2003. 18 The Company negotiated settlements related to outstanding liabilities with many of its suppliers on terms generally more favorable to the Company than required by the existing terms of the liabilities. The Company recorded a gain in connection with these settlements totaling $.4 million for the three months ended September 30, 2002, included in Gain on Settlement of Obligations in Note 4 to the accompanying consolidated financial statements. The Company recorded nominal settlement gains for the three months ended September 30, 2003. NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30, 2002 There were no net sales or gross profit for the nine months ended September 30, 2003 and 2002. The Company's lack of net sales and gross profit was primarily attributable to the effects associated with the loss of its McDonald's and Philip Morris business. See notes to consolidated financial statements. Selling, general and administrative expenses totaled $.5 million and $4.2 million for the nine months ended September 30, 2003 and 2002, respectively. Selling, general and administrative expenses of $4.2 million for the nine months ended September 30, 2002 includes a settlement of lease and other obligations of $4.5 million less than the amounts accrued. The Company's decreased spending was primarily due to the effects associated with the Company eliminating a majority of its ongoing operations related to the promotions business. See notes to consolidated financial statements. The Company recorded a pre-tax net charge totaling approximately $3.6 million for the nine months ended September 30, 2002 related to the loss of customers (see Note 4). Charges totaling $6.7 million, primarily related to asset write-downs ($2.4 million), professional fees ($3.5 million), labor and other costs ($.8 million), were partially offset by a recovery of certain assets ($1.3 million), that had been written off and included in the 2001 charges attributable to the loss of significant customers and other gains ($1.8 million). During the nine months ended September 30, 2002 the Company negotiated settlements related to outstanding liabilities with many of its suppliers. During this period, the Company also settled all of its outstanding domestic and international real estate and equipment lease obligations, except for one expired warehouse lease with approximately $.1 million of unpaid rent, and relocated its remaining scaled-down operations to smaller office space in Los Angeles, California. These settlements were on terms generally more favorable to the Company than required by the existing terms of the liabilities. The difference between the final settlement payment and the outstanding obligations was recorded as a gain, totaling approximately $9.6 million related to the settlement of vendor payables, included in Gain on Settlement of Obligations, and $4.5 million related to the settlement of lease and other obligations recorded as a reduction to selling, general, and administrative expenses disclosed in Note 4 to the consolidated financial statements. LIQUIDITY AND CAPITAL RESOURCES The matters discussed in the Loss of Customers, Resulting Events and Going Concern section above (see Note 2), which have and will continue to have a substantial adverse impact on the Company's cash position, raise substantial doubts about the Company's ability to continue as a going concern. The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties. The Company has taken and will continue to take action to reduce its cost structure. The Company is focused on resolving all litigation matters in which it is a party and settling all claims and vendor payables. Subsequent to December 31, 2001, the Company continued to incur losses in 2002 and continues to incur losses in 2003 for the general and administrative expenses being incurred to manage the affairs of the Company and resolve outstanding legal matters. Inasmuch as the Company no longer generates operating income and is unable to borrow funds, the source of current and future working capital is expected to be cash on hand, the recovery of long-term assets and any future proceeds from litigation. Management believes it has sufficient capital resources and liquidity to operate the Company for the foreseeable future. The Board of Directors of the Company continues to consider various alternative courses of action for the Company going forward, including possibly acquiring one or more operating businesses, selling the Company or distributing its net assets, if any, to shareholders. The decision on which course to take will depend upon a number of factors including the outcome of the significant litigation matters in which the Company is involved (see Legal Actions Associated with the McDonald's Matter). To date, the Board of Directors has made no decisions on which course of action to take. 19 CONTINUING OPERATIONS Working capital from continuing operations was $5.1 million at September 30, 2003 compared to $9.5 million at December 31, 2002. Net cash used in operating activities from continuing operations for the nine months ended September 30, 2003 totaled $3.4 million, primarily due to a loss from continuing operations of $4.1 million partially offset by a net change in working capital items of $.7 million. Net cash used in operating activities from continuing operations for the nine months ended September 30, 2002 totaled $2.7 million, primarily due to a loss from continuing operations of $13.9 million partially offset by a charge for impaired investments of $10.3 million and a decrease in prepaid expenses and other current assets of $.8 million. Net cash provided by investing activities totaled $2.6 million for the nine months ended September 30, 2003, primarily related to a decrease in restricted cash. Net cash used by investing activities during the nine months ended September 30, 2002 was $5.3 million primarily related to an increase in restricted cash of which $2.7 million related to the establishment of an indemnification trust (see Note 9). There were no financing activities from continuing operations for the nine months ended September 30, 2003 and 2002. In March 2002, the Company, Simon Marketing and a Trustee entered into an Indemnification Trust Agreement (the "Trust"), which requires the Company and Simon Marketing to fund an irrevocable trust in the amount of $2.7 million. The Trust was set up and will be used to augment the Company's existing insurance coverage for indemnifying directors, officers and certain described consultants, who are entitled to indemnification against liabilities arising out of their status as directors, officers and/or consultants. See Note 9. Restricted cash included within continuing operations at September 30, 2003 and December 31, 2002 totaled $5.0 million and $7.6 million, respectively, primarily consisting of amounts deposited with lenders to satisfy the Company's obligations pursuant to its standby letters of credit and amounts deposited into an irrevocable trust in 2002 (see Note 9). DISCONTINUED OPERATIONS Working capital from discontinued operations at September 30, 2003 was a deficit of $(1.1) million compared to a deficit of $(1.1) million at December 31, 2002. Net cash used in discontinued operations totaled $.3 million during the nine months ended September 30, 2003, primarily related to net cash used in operating activities of $.6 million and net cash used in investing activities of $1.8 million partially offset by a reallocation of funds, totaling $2.1 million, between continuing and discontinued operations due to changes in minimum working capital requirements. Net cash provided by discontinued operations during the nine months ended September 30, 2002 totaled $10.2 million, which was primarily due to net cash provided by investing activities of $6.6 million and a reallocation of funds, totaling approximately $21.6 million, between continuing and discontinued operations due to changes in minimum working capital requirements, partially offset by net cash used in operating activities of $16.5 million and net cash used in financing activities of $1.5 million. Net cash used in operating activities of discontinued operations during the nine months ended September 30, 2003 of $.6 million primarily related to a loss from discontinued operations of $.3 million and a net change in working capital items of $.3 million. Net cash used in operating activities of discontinued operations for the nine months ended September 30, 2002 of $16.5 million primarily consisted of a net change in working capital items of $11.2 million, gain on settlement of vendor payables of $9.6 million and settlement of lease and other obligations of $4.5 million, partially offset by income from discontinued operations of $5.5 million, charges for impaired assets of $2.9 million, and depreciation expense of $.4 million. Net cash used in investing activities within discontinued operations of $1.8 million for the nine months ended September 30, 2003 primarily related to an increase in restricted cash. Net cash provided by investing activities within discontinued operations of $6.6 million for the nine months ended September 30, 2002 primarily related to a decrease in restricted cash of $5.9 million, proceeds from the sale of investments of $.1 million, and a $.6 million net change in other investments. There were no financing activities within discontinued operations for the nine months ended September 30, 2003. Net cash used in financing activities within discontinued operations of $1.5 million for the nine months ended September 30, 2002 primarily related to repayments of short and long-term borrowings. During 2002, the Company negotiated early terminations on many of its facility and non-facility operating leases. The Company has also negotiated settlements related to liabilities with many of its suppliers (see Note 7). As of September 30, 2003, approximately $24.8 million of the Company's recorded net liabilities have been settled. These settlements were on terms generally more favorable to the Company than required by the existing terms of these obligations. 20 Restricted cash included within discontinued operations at September 30, 2003 and December 31, 2002 totaled $1.8 million and $0 million, respectively, primarily related to amounts deposited with lenders to satisfy the Company's obligations pursuant to its outstanding standby letters of credit. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The disclosure required by this Item is not material to the Company because the Company does not currently have any exposure to market rate sensitive instruments, as defined in this Item. Part of the Company's discontinued operations consists of certain consolidated subsidiaries that are denominated in foreign currencies. As the assets of these subsidiaries are largely offset by liabilities, the Company is not materially exposed to foreign currency exchange risk. ITEM 4. CONTROLS AND PROCEDURES DISCLOSURE CONTROLS AND PROCEDURES: Within 90 days before filing this Report, the Company evaluated the effectiveness and design and operation of its disclosure controls and procedures. The Company's disclosure controls and procedures are the controls and other procedures that the Company designed to ensure that it records, processes, summarizes and reports in a timely manner the information that it must disclose in reports that the Company files with or submits to the Securities and Exchange Commission. Anthony Kouba and George Golleher, the members of the Executive Committee, which has the responsibility for the role of chief executive officer of the Company, and Greg Mays, who has assumed the role of chief financial officer, reviewed and participated in this evaluation. Based on this evaluation, the Company's disclosure controls were effective. INTERNAL CONTROLS: Since the date of the evaluation described above, there have not been any significant changes in the Company's internal controls or in other factors that could significantly affect those controls. 21 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS See "Legal Actions Associated with the McDonald's Matter" located in Part I of this Report on Form 10-Q for disclosure related to legal proceedings involving the Company. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits filed herewith: 31.1 Certification of George G. Golleher pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of J. Anthony Kouba pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.3 Certification of Greg Mays pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of George G. Golleher pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of J. Anthony Kouba pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.3 Certification of Greg Mays pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (b) Reports on Form 8-K The Company filed a Report on Form 8-K dated August 19, 2003 related to a settlement of the litigation between the Registrant and McDonald's Corporation. 22 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Date: November 3, 2003 SIMON WORLDWIDE, INC. /s/ J. ANTHONY KOUBA -------------------- J. Anthony Kouba Executive Committee Member (duly authorized signatory) 23