UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarterly Period Ended: March 31, 2003
Commission File No. 1-4436
THE STEPHAN CO.
(Exact Name of Registrant as Specified in its Charter)
Florida 59-0676812
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1850 West McNab Road, Fort Lauderdale, Florida 33309
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, including Area Code: (954) 971-0600
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
Approximate number of shares of Common Stock outstanding
as of May 12, 2003:
4,410,577
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003
INDEX
PAGE NO.
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements
Unaudited Condensed Consolidated Balance Sheets
as of March 31, 2003 and December 31, 2002 4-5
Unaudited Condensed Consolidated Statements
of Operations for the three months ended
March 31, 2003 and 2002 6
Unaudited Condensed Consolidated Statements
of Cash Flows for the three months ended
March 31, 2003 and 2002 7-8
Notes to Unaudited Condensed Consolidated
Financial Statements 9-17
ITEM 2. Management's Discussion and Analysis
of Financial Condition and
Results of Operations 18-20
ITEM 3. Quantitative and Qualitative
Disclosure 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
SIGNATURES 23
CERTIFICATIONS 24-27
2
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003
CAUTIONARY STATEMENT FOR PURPOSES OF THE SAFE HARBOR
PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
This quarterly report contains certain "forward-looking" statements.
The Stephan Co. (the "Company") desires to take advantage of the "safe
harbor" provisions of the Private Securities Litigation Reform Act of 1995
and is including this statement for the express purpose of availing itself
of the protections of such safe harbor with respect to all such forward-
looking statements. Such forward-looking statements involve risks,
uncertainties and other factors which may cause the actual results,
condition (financial or otherwise), performance, trends or achievements of
the Company and its subsidiaries to be materially different from any
results, condition, performance, trends or achievements projected,
anticipated or implied by such forward-looking statements.
Such factors include, but are not limited to, the following: general
economic and business conditions; competition; relative success of
operating initiatives; development and operating costs; advertising and
promotional efforts; brand awareness; the existence or absence of adverse
publicity; acceptance of any new product offerings; changing trends in
customer tastes; the success of multi-branding; changes in business
strategy or development plans; quality of management; costs and expenses
incurred by the Company in pursuing strategic alternatives; availability,
terms and deployment of capital; business abilities and judgment of
personnel; availability of qualified personnel; labor and employee benefit
costs; availability and cost of raw materials and supplies; changes in or
newly-adopted accounting principles; changes in, or failure to comply with,
law; changes in product mix and associated gross profit margins; and other
factors or events referenced in this Form 10-Q.
The Company does not undertake, subject to applicable law, any
obligation to publicly release the results of any revisions which may be
made to any forward-looking statements to reflect events or circumstances
occurring after the date of such statements or to reflect the occurrence of
anticipated or unanticipated events. Therefore, the Company cautions each
reader of this report to carefully consider the specific factors and
qualifications discussed herein with respect to such forward-looking
statements, as such factors and qualifications could affect the ability of
the Company to achieve its objectives and may cause actual results to
differ materially from those projected, anticipated or implied herein.
3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
March 31, December 31,
2003 2002
____________ ____________
CURRENT ASSETS
Cash and cash equivalents $11,428,304 $ 10,785,995
Accounts receivable, net 2,301,045 1,451,299
Inventories 8,026,280 7,623,764
Income taxes receivable 45,962 65,378
Prepaid expenses and
other current assets 195,359 357,829
____________ ____________
TOTAL CURRENT ASSETS 21,996,950 20,284,265
CERTIFICATES OF DEPOSIT 6,475,000 6,752,500
PROPERTY, PLANT AND EQUIPMENT, net 1,924,790 2,004,465
GOODWILL, net 5,857,980 5,857,980
TRADEMARKS, net 8,664,809 8,664,809
DEFERRED ACQUISITION COSTS, net 368,007 391,365
OTHER ASSETS, net 2,973,711 3,699,657
____________ ____________
TOTAL ASSETS $ 48,261,247 $ 47,655,041
============ ============
See notes to unaudited condensed consolidated financial statements
4
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY
March 31, December 31,
2003 2002
____________ ____________
CURRENT LIABILITIES
Accounts payable and
accrued expenses $ 2,454,274 $ 2,018,236
Current portion of
long-term debt 2,243,081 1,496,147
____________ ____________
TOTAL CURRENT LIABILITIES 4,697,355 3,514,383
DEFERRED INCOME TAXES, net 902,180 655,773
LONG-TERM DEBT 5,180,000 6,395,443
____________ ____________
TOTAL LIABILITIES 10,779,535 10,565,599
____________ ____________
COMMITMENTS AND CONTINGENCIES (NOTE 3)
STOCKHOLDERS' EQUITY
Common stock, $.01 par value 44,106 44,106
Additional paid in capital 18,417,080 18,417,080
Retained earnings 20,372,089 19,979,819
____________ ____________
38,833,275 38,441,005
LESS:
125,000 CONTINGENTLY
RETURNABLE SHARES (1,351,563) (1,351,563)
____________ ____________
TOTAL STOCKHOLDERS' EQUITY 37,481,712 37,089,442
____________ ____________
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 48,261,247 $ 47,655,041
============ ============
See notes to unaudited condensed consolidated financial statements
5
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended March 31,
______________________________
2002
(As Restated,
2003 See Note 1)
_____________ ____________
NET SALES $ 6,949,058 $ 6,319,916
COST OF GOODS SOLD 3,924,193 3,541,173
___________ ___________
GROSS PROFIT 3,024,865 2,778,743
SELLING, GENERAL AND
ADMINISTRATIVE EXPENSES 2,220,351 2,237,792
___________ ____________
OPERATING INCOME 804,514 540,951
OTHER INCOME(EXPENSE)
Interest income 65,218 92,166
Interest expense (102,050) (135,622)
Royalty income 12,500 26,250
___________ ___________
INCOME BEFORE INCOME TAXES AND CUMULATIVE
EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE 780,182 523,745
INCOME TAX EXPENSE 299,701 196,928
___________ ___________
INCOME BEFORE CUMULATIVE EFFECT OF
CHANGE IN ACCOUNTING PRINCIPLE 480,481 326,817
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE, NET OF
TAX BENEFIT OF $1,662,911 - (6,761,576)
___________ ___________
NET INCOME/(LOSS) $ 480,481 $(6,434,759)
=========== ===========
BASIC AND DILUTED EARNINGS/(LOSS) PER SHARE:
INCOME BEFORE CUMULATIVE EFFECT OF
CHANGE IN ACCOUNTING PRINCIPLE $ .11 $ .08
CUMULATIVE EFFECT OF CHANGE
IN ACCOUNTING PRINCIPLE - (1.58)
___________ ___________
BASIC AND DILUTED EARNINGS/(LOSS) PER SHARE: $ .11 $ (1.50)
=========== ===========
WEIGHTED AVERAGE NUMBER
OF SHARES OUTSTANDING 4,301,140 4,285,577
=========== ===========
See notes to unaudited condensed consolidated financial statements
6
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended March 31,
_______________________________
2002
2003 (As Restated,
See Note 1)
___________ ___________
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income/(loss) $ 480,481 $(6,434,759)
___________ ___________
Adjustments to reconcile net income/(loss)
to cash flows provided by
operating activities:
Depreciation 82,010 83,118
Amortization of intangible assets 23,358 23,365
Deferred income tax provision/(benefit) 246,407 (1,500,235)
Provision for doubtful accounts 14,602 2,164
Impairment loss on goodwill - 8,424,487
Changes in operating assets and
liabilities:
Certificates of deposit 277,500 -
Accounts receivable (864,348) 122,188
Inventories (402,516) 431,192
Income taxes receivable 19,416 48,672
Prepaid expenses
and other current assets 162,470 (21,611)
Other assets 725,946 95,916
Accounts payable and accrued expenses 436,038 (198,903)
___________ ___________
Total adjustments 720,883 7,510,353
___________ ___________
Net cash flows provided by
operating activities 1,201,364 1,075,594
___________ ___________
See notes to unaudited condensed consolidated financial statements
7
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended March 31,
______________________________
2002
2003 (As Restated,
See Note 1)
____________ ___________
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property, plant
and equipment (2,335) (12,229)
___________ ___________
Net cash flows used in
investing activities (2,335) (12,229)
___________ ___________
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayments of long-term debt (468,508) (518,312)
Dividends paid (88,212) (88,212)
___________ ___________
Net cash flows used in
financing activities (556,720) (606,524)
___________ ___________
INCREASE IN CASH AND CASH EQUIVALENTS 642,309 456,841
CASH AND CASH EQUIVALENTS,
BEGINNING OF PERIOD 10,785,995 8,409,142
___________ ___________
CASH AND CASH EQUIVALENTS,
END OF PERIOD $11,428,304 $ 8,865,983
=========== ===========
Supplemental Disclosures of Cash Flow Information:
Interest paid $ 145,803 $ 150,134
=========== ===========
Income taxes paid $ 21,379 $ 72,987
=========== ===========
See notes to unaudited condensed consolidated financial statements
8
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED MARCH 31, 2003 AND 2002
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION: In the opinion of management, all
adjustments (consisting only of normal accruals) necessary for a fair
presentation of the Stephan Company's (the "Company") financial position
and results of operations are reflected in these unaudited interim
financial statements.
Information presented for the quarter ended March 31, 2002 has been
restated to reflect the adoption of a change in accounting principle, in
accordance with SFAS No. 142 (See NEW FINANCIAL ACCOUNTING STANDARDS else-
where in Note 1).
The results of operations for the three-month period ended March 31,
2003 is not necessarily indicative of the results to be achieved for the
year ending December 31, 2003. The December 31, 2002 condensed
consolidated balance sheet was derived from the audited consolidated
financial statements, but does not include all disclosures required by
accounting principles generally accepted in the United States of America
("generally accepted accounting principles"). These interim financial
statements should be read in conjunction with the audited consolidated
financial statements and accompanying notes for the year ended December 31,
2002 appearing in the Company's Form 10-K previously filed with the
Securities and Exchange Commission.
Certain amounts previously reported in the 2002 financial statements
and notes thereto were reclassified to conform to the 2003 presentation.
NATURE OF OPERATIONS: The Company is engaged in the manufacture,
sale and distribution of hair and personal care grooming products
principally throughout the United States. Statement of Financial Accounting
Standards ("SFAS") No. 131, "Disclosures About Segments of an Enterprise
and Related Information", requires the reporting of segment information
using a "management approach" as it relates to the operating segments of a
business. The Company has allocated its business into three segments: (1)
professional hair care products and distribution; (2) retail personal care
products; and (3) manufacturing.
USE OF ESTIMATES: The preparation of condensed consolidated
financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities as of the date of the condensed
consolidated financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates and assumptions.
9
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED MARCH 31, 2003 AND 2002
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
CASH AND CASH EQUIVALENTS: Cash and cash equivalents include
cash, money market investment accounts and short-term municipal bonds
having maturities of 90 days or less. The Company maintains cash deposits
at certain financial institutions in amounts in excess of the federally
insured limit. Cash and cash equivalents held in interest-bearing accounts
as of March 31, 2003 and December 31, 2002 were approximately $10,542,000
and $10,121,000, respectively.
INVENTORIES: Inventories are stated at the lower of cost
(determined on a first-in, first-out basis) or market, and are as follows:
March 31, December 31,
2003 2002
____________ ____________
Raw materials $ 2,192,666 $ 2,162,273
Packaging and components 3,182,643 3,100,917
Work in progress 304,006 328,976
Finished goods 5,169,226 5,579,290
____________ ____________
10,848,541 11,171,456
Less: Amount included in
other assets (2,822,261) (3,547,692)
____________ ____________
$ 8,026,280 $ 7,623,764
============ ============
Raw materials principally include surfactants, chemicals and
fragrances used in the production process. Packaging materials include
cartons, inner sleeves and boxes used in the actual product, as well as
outer boxes and cartons used for shipping purposes. Components are the
actual bottles or containers (plastic or glass), jars, caps, pumps and
similar materials that become part of the finished product. Finished goods
include hair dryers, electric clippers, lather machines, scissors and salon
furniture. Included in other assets are raw materials, packaging and
components inventory not anticipated to be utilized in less than one year.
BASIC AND DILUTED EARNINGS PER SHARE: Basic and diluted earnings
per share are computed by dividing net income/(loss) by the weighted
average number of shares of common stock outstanding. The weighted average
number of shares outstanding was 4,301,140 for the three months ended March
31, 2003 and 4,285,577 for the three months ended March 31, 2002. For the
three months ended March 31, 2003 and 2002, the Company had 732,120 and
813,648 outstanding stock options, respectively, a significant portion of
which were anti-dilutive. The inclusion of dilutive stock options in the
calculation of earnings per share did not have any impact on the earnings
per share for the three months ended March 31, 2003 and 2002.
10
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED MARCH 31, 2003 AND 2002
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
STOCK-BASED COMPENSATION: The Company adopted the disclosure
requirements of SFAS No. 148, "Accounting for Stock-Based Compensation-
Transition and Disclosure". SFAS No. 148 amends SFAS No. 123, "Accounting
for Stock-Based Compensation," to provide alternate methods of transition
for a voluntary change to the fair value based method of accounting for
stock-based compensation and to require prominent disclosures in both
annual and interim financial statements about the methods of accounting for
stock-based compensation and the effect of the method used on reported
results. As permitted by SFAS No's. 148 and 123, the Company continues to
apply the accounting provisions of APB No. 25, "Accounting for Stock Issued
to Employees," and related interpretations, with regard to the measurement
of compensation cost for options granted under the Company's existing
plans. No stock-based compensation cost is reflected in net income as all
options granted under the plans had an exercise price not less than the
market value of the underlying common stock on the date of grant. Had
expense been recognized using the fair value method described in SFAS No.
123, using the Black-Scholes option-pricing model, the Company would have
reported the following results of operations:
Three Months Ended
March 31,
__________________
2003 2002
________ ________
Net income/(loss), as reported $ 480 $ (6,435)
Deduct: Total stock-based employee
compensation expense determined
under fair value based method for all
awards, net of related tax effects 25 48
________ ________
Pro forma net income/(loss) $ 455 $ (6,483)
======== ========
Net income/(loss) per share:
As reported $ .11 $ (1.50)
Pro forma $ .11 $ (1.51)
11
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED MARCH 31, 2003 AND 2002
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
NEW FINANCIAL ACCOUNTING STANDARDS: In June 2001, the Financial
Accounting Standards Board ("FASB") issued SFAS No. 141, "Business
Combinations", and SFAS No. 142, "Goodwill and Other Intangible Assets".
These standards made changes to the accounting for business combinations,
goodwill and intangible assets. SFAS No. 142 provides that goodwill and
other intangible assets with indefinite lives will not be amortized, but
will be tested for impairment at least annually. The Company adopted SFAS
No. 142 on January 1, 2002. SFAS No. 142 requires that goodwill be tested
for impairment at the reporting unit level upon adoption and at least
annually thereafter. The initial step requires that the Company determine
the fair value of each reporting unit and compare it to the carrying value,
including goodwill, of the reporting unit. If the fair value exceeds the
carrying value, no impairment loss would be recognized. However, if the
carrying value of the reporting unit exceeds its fair value, the goodwill
of the reporting unit may be impaired. The amount, if any, of the
impairment would then be measured in the second step. As a result of the
impairment review mandated by SFAS No. 142, the Company determined that the
carrying value of certain goodwill and other intangible assets with
indefinite lives was impaired, decreasing the carrying value of goodwill
and other such intangible assets by approximately $8,424,000 ($6,762,000,
net of taxes), effective in the quarter ended March 31, 2002. The above
impairment charge impacted several different subsidiaries and divisions.
Based upon information available to the Company, in general, goodwill and
trademark valuations were performed using present value techniques
involving estimates of future cash flows.
Amortization expense for deferred acquisition costs, recorded as of
March 31, 2003 is anticipated to be as follows: 2003: $93,000; 2004:
$84,000; 2005: $82,000; 2006: $66,000; 2007: $66,000.
In November 2002, the FASB issued FASB Interpretation ("FIN") No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others," an interpretation
of SFAS Nos. 5, 57 and 107 and rescission of FASB Interpretation No. 34.
The interpretation requires certain disclosures to be made by a guarantor
about its obligations under certain guarantees that is issued. The Company
does not have existing circumstances that would make this Interpretation
relevant.
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation-Transition and Disclosure," an amendment of FASB
Statement No. 123 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, this Statement amends the
disclosure requirements of Statement 123 to require prominent disclosures
12
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED MARCH 31, 2003 AND 2002
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
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 adopted the disclosure
provisions of SFAS No. 148.
In January 2003, the FASB issued Financial Interpretation ("FIN") No.
46, "Consolidation of Variable Interest Entities." FIN No. 46 provides
accounting guidance for consolidating of off-balance sheet entities with
certain characteristics (variable interest entities). The consolidation
requirements apply to variable interest entities created after January 31,
2003 and to variable interest entities in which the Company maintains an
interest after June 30, 2003. The Company does not have existing
circumstances that would make this Statement relevant.
NOTE 2: SEGMENT INFORMATION
In accordance with the guidelines established by SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information," the
Company has identified three reportable operating segments based upon how
its management evaluates its business. These segments are Professional
Hair Care Products and Distribution ("Professional"), Retail Personal Care
Products ("Retail") and "Manufacturing". The Professional segment has a
customer base consisting generally of distributors that purchase the
Company's hair products and beauty and barber supplies for sale to salons
and barbershops. The customer base for the Retail segment consists of mass
merchandisers, chain drug stores and supermarkets that sell products to
end-users. The Manufacturing segment manufactures products for different
subsidiaries of the Company and manufactures private label brands for
customers.
The Company conducts operations principally in the United States and
sales to international customers are not material to its consolidated net
sales. Income Before Income Taxes and Cumulative Effect of Change in
Accounting Principle as shown below reflects an allocation of corporate
overhead expenses incurred by the Manufacturing segment. The following
tables, in thousands, summarize Net Sales and Income Before Income Taxes
and Cumulative Effect of Change in Accounting Principle by reportable
segment:
13
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED MARCH 31, 2003 AND 2002
NOTE 2: SEGMENT INFORMATION (continued)
INCOME BEFORE INCOME
TAXES AND CUMULATIVE
EFFECT OF CHANGE IN
NET SALES ACCOUNTING PRINCIPLE
_______________ ____________________
Three Months Three Months
Ended March 31, Ended March 31,
2003 2002 2003 2002
(Restated) (Restated)
_______________ _________________
Professional $ 4,565 $ 4,454 $ 369 $ 233
Retail 2,251 1,702 580 399
Manufacturing 1,781 1,740 (41) 28
_______ _______ _______ _______
Total 8,597 7,896 908 660
Intercompany
Manufacturing (1,648) (1,576) (128) (136)
_______ _______ _______ _______
Consolidated $ 6,949 $ 6,320 $ 780 $ 524
======= ======= ======= =======
NOTE 3: COMMITMENTS AND CONTINGENCIES
In addition to the matters set forth below, the Company is involved in
other litigation matters arising in the ordinary course of business. It is
the opinion of management that none of such matters, at March 31, 2003,
would likely, if adversely determined, have a material adverse effect on
the Company's financial position, results of operations or cash flows.
The United States Court of Appeals for the Ninth Circuit entered an
order on April 29, 2002 that, among other things, reversed the judgment of
the United States District Court granting summary judgment in favor of New
Image Laboratories, Inc. ("New Image") against the Company on New Image's
contract claim for a price adjustment and on New Image's claim of breach of
the implied covenant of good faith and fair dealing. In addition, the
Ninth Circuit's opinion affirmed the lower court's ruling that on the
present record New Image is not entitled to (i) damages equal to the
diminution in the value of the Company's common stock price between the
scheduled and actual disbursement dates or (ii) any attorney's fees. As a
consequence of the Ninth Circuit's decision, the judgment granting New
Image all 125,000 shares of the Company's common stock being held in escrow
has been reversed and the case has been remanded back to the United States
District Court for further proceedings. On May 28, 2002, New Image filed a
14
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED MARCH 31, 2003 AND 2002
NOTE 3: COMMITMENTS AND CONTINGENCIES (continued)
Motion for Rehearing with the Ninth Circuit Court of Appeals and on June
26, 2002, the Court denied the petition for rehearing. A pretrial hearing
has been scheduled for June 16, 2003 in connection with the remaining
claims of the parties to the litigation.
On November 1, 2001, a private label customer filed a lawsuit against
the Company alleging causes of action for breach of contract, declaratory
judgment, and trademark infringement. The Company denied the allegations
and has counter-sued the customer. The counterclaim seeks unspecified
compensatory damages, interest, attorneys fees, costs and other relief on
the breach of contract and anticipatory breach claims and, in excess of
$400,000 on an account stated claim. On April 16, 2003, the District Court
of Appeals for the 4th District of Florida reversed a ruling by the lower
trial court granting the customer a temporary injunction. The customer has
moved for a rehearing of the issue. At this time, the Company is unable to
predict the outcome of this matter.
In November 2001, the Company filed a claim with the U.S. Department
of Transportation ("DOT") in the 13th Judicial Circuit Court of
Hillsborough County, Florida, in connection with the DOT's widening of
Interstate Highway 4, which the Company alleged will result in the loss of
an adjacent rental facility utilized by one of the Company's subsidiaries.
At a hearing held on August 2, 2002, the Company was successful in
asserting a position that would allow for damages to be paid to the Company
by the DOT. Court ordered mediation held in May 2003 has not been
completed and it is still anticipated that the Company could receive a
material damage award. After consultation with legal counsel at this time,
the Company is presently unable to accurately predict the amount or type of
recovery that will result therefrom.
In November 2002, a stockholder filed a lawsuit in the Circuit Court
for the 17th Circuit of Florida in and for Broward County, styled Joan
Rosoff v. Frank F. Ferola, Shouky Shaheen, Leonard A. Genovese, Curtis
Carlson, John DePinto, Thomas M. D'Ambrosio and The Stephan Co., Case
Number 0222253, against the Company alleging certain breaches of fiduciary
duties and responsibilities. The Company has filed a motion to dismiss the
lawsuit and believes it has meritorious defenses.
Other than the above, there has been no material change in the status
of any other pending litigation since the Company's last filing of Form
10-K with the Securities and Exchange Commission for the year ended
December 31, 2002.
As previously reported, on April 16, 2002, the Company announced that
the previously-formed Special Committee (consisting of two outside
directors) had accepted a bid by a management led group. This initial bid
15
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003 AND 2002
NOTE 3: COMMITMENTS AND CONTINGENCIES (continued)
was to purchase all of the Company's common stock at $4 per share in cash,
which offer was later revised to $4.50 per share with $3.25 to be paid in
cash, and $1.25 to be paid by a 42-month, unsecured debt instrument
providing for interest at an annual rate of 4 1/2%. To fund its payment
obligations thereunder, the management group, utilizing its best efforts,
intends to establish a separate payment fund in an amount equal to 50% of
the aggregate principal and interest amount due under the debt instrument.
The management group bid is subject to various conditions, including
obtaining adequate financing. The management group is currently negotiating
with lenders to obtain financing necessary for the transaction. There is no
assurance that the group will be able to obtain such financing on
acceptable terms or that the transaction will be consummated.
In late 2001 and during 2002 the Special Committee received from
Curtis Rudolph, a shareholder of the Company, an indication of his interest
in acquiring the Company; however, no offer was forthcoming. In November
2002, Mr. Rudolph initiated an action in Florida state court (Broward
County, Florida) seeking to obtain a review of certain "books and records"
of the Company to which he claimed he was entitled as a shareholder of the
Company. The Company had previously denied him access to those books and
records due to his unwillingness to sign a non-disclosure agreement
relating to the Company's non-public information in the standard form
required of other potential bidders for the Company. In January 2003,
pursuant to a settlement agreement with the Company, Mr. Rudolph agreed to
execute the non-disclosure agreement.
By letter dated January 13, 2003, Mr. Rudolph reiterated his interest
in making a proposal to acquire the Company. On or about February 14,
2003, Mr. Rudolph submitted an unexecuted proposal to acquire substantially
all of the assets and assume certain liabilities of the Company. The
Special Committee rejected this proposal as it was unexecuted, contained
certain unacceptable terms, was subject to unacceptable conditions, and was
structured as an asset purchase rather than a stock purchase. In
particular, the asset purchase structure presented substantial negative tax
consequences to the Company and its shareholders and was deemed
impractical. Under the circumstances, the Special Committee determined Mr.
Rudolph's proposal to not be in the best interests of the Company's
shareholders. The Board of Directors, through its Special Committee, has
continued to negotiate with Mr. Rudolph, but no further offer has been
forthcoming.
On April 30, 2003, the Board of Directors approved a definitive merger
agreement (the "Agreement") pursuant to which Stephan (the "Company") will
be acquired by Gunhill Enterprises, Inc., a wholly-owned subsidiary of
Eastchester Enterprises, Inc. Eastchester Enterprises, Inc. is owned by
16
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003 AND 2002
NOTE 3: COMMITMENTS AND CONTINGENCIES (continued)
Frank F. Ferola, Thomas M. D'Ambrosio, John DePinto and Shouky A. Shaheen
together with their affiliates (the "Acquisition Group"). The Company
entered into the Agreement following approval by its Board of Directors
based in part upon the unanimous recommendation of the Special Committee
comprised of non-management and disinterested directors of the Company's
Board of Directors. The Special Committee has received an opinion from
SunTrust Robinson Humphrey that the "Merger Consideration" is fair from a
financial point of view to the stockholders other than the Acquisition
Group.
By the terms of the merger agreement with the Acquisition Group, the
Special Committee is expressly authorized to engage, until May 30, 2003, in
discussions and negotiations, and to share information, with third parties
who may be interested in acquiring the Company in order to seek a
potentially superior acquisition proposal. If a superior proposal is not
received during this 30-day period, and the Special Committee concludes
thereafter that its failure to provide information to, or engage in
discussions with, third parties who are interested in acquiring the
Company, would be inconsistent with its fiduciary duties to Stephan's
stockholders, then the Special Committee may thereafter continue to provide
information to, and engage in discussions and negotiations with, such
interested parties. Under specified circumstances, Stephan has the right to
terminate the Agreement and to enter into an agreement with a party
proposing a competing transaction which is deemed superior to the
transaction proposed by the Acquisition Group.
Completion of the merger is subject to customary closing conditions,
including stockholder approval, and the Agreement does include a financing
contingency. Stephan stockholder approval will be solicited by means of a
joint proxy/registration statement, which will be mailed by Stephan to
stockholders upon completion of the required Securities and Exchange
Commission filing and review process.
Independent legal counsel and investment banking advisors have been
retained to advise the Special Committee in connection with the
transaction. After incurring approximately $225,000 of expenses through
March 31, 2003, it is estimated that the remaining costs associated with
this process will be in excess of $450,000.
As a result of the length of time for the going private transaction to
be consummated, the Company has not submitted any matters to a vote of its
security holders since the Company's September 1, 2000 Annual Meeting. In
accordance with the rules and regulations of the American Stock Exchange
(AMEX), the Company was required to promptly notify its stockholders and
AMEX, in writing, indicating the reasons for the failure to have a meeting
17
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003 AND 2002
NOTE 3: COMMITMENTS AND CONTINGENCIES (continued)
and to use good faith efforts to ensure that an annual meeting is held as
soon as reasonably practicable. In addition, the current composition of
the Board of Directors and the current composition of the Audit Committee
are in violation of AMEX rules. The continuing non-compliance with these
AMEX rules could subject the Company to civil penalties, in addition to the
possibility that the stock of the Company could be removed from listing.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
For the three months ended March 31, 2003, net sales were $6,949,000,
compared to $6,320,000 for the three months ended March 31, 2002, an
increase of $629,000. Gross profit for the three months ended March 31,
2003 was $3,025,000, compared to gross profit of $2,779,000 achieved for
the corresponding three-month period in 2002. Operating income of $805,000
for the three months ended March 31, 2003 was $264,000 higher than the
$541,000 achieved in the three months ended March 31, 2002. Income before
the cumulative effect of a change in accounting principle for the three
months ended March 31, 2003 was $480,000, compared to $327,000 achieved in
the comparable period for 2002. As a result of the application of SFAS No.
142, net income for the three months ended March 31, 2003 was $480,000
compared to a net loss of $6,435,000 for the three months ended March 31,
2002. Basic and diluted earnings per share before the cumulative effect of
a change in accounting principle were $.11 for the three months ended March
31, 2003, compared to $.08 for the three months ended March 31, 2002 but
after taking into consideration the impact of the application of SFAS No.
142, the per share amount for the first quarter of 2002 was a net loss of
$1.50.
The Company experienced an overall 10% increase in consolidated net
sales in the three-month period ended March 31, 2003 compared with the same
period in 2002. The Professional segment achieved a modest 2.5% increase
in net sales primarily due to increases in net sales of Image products and
hard goods, offset by a decline in net sales of Sorbie and New Era.
As indicated in previous filings, the Company experienced a broad-
based increase in net retail sales for the first quarter of 2003 due to a
higher demand for Quinsana Medicated Talc, a branded retail item, as a
result of the war in the Middle East. As a result, net sales of this brand
in the first quarter of 2003 were in excess of total net sales for the
entire prior year, however, there can be no assurances that this trend will
continue, or that continuing market pricing pressures will not arise with
18
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003 AND 2002
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
respect to these sales. As a result of the increase in net sales, coupled
with increases in other retail brands, the Retail segment experienced a
$549,000, or 32% increase over net sales for the three-months ended March
31, 2002. Net sales from private label manufacturing and other sales
showed a slight increase from the corresponding three-month period in 2002.
Gross profit for the three months ended March 31, 2003 increased
approximately 9% over the corresponding period in 2002; however, the gross
profit margin for the three months ended March 31, 2003 declined slightly,
from 43.97% for the three months ended March 31, 2002 to 43.53% for the
three months ended March 31, 2003.
Selling, general and administrative expenses for the three months
ended March 31, 2003 decreased slightly, by $18,000, from a restated
$2,238,000 to $2,220,000, when compared to the corresponding three-month
period of 2002. The prior year's quarter ended March 31, 2002 was restated
to give effect to a reduction in amortization expense as a result of the
implementation of SFAS No. 142, effective as of January 1, 2002.
Interest expense for the three months ended March 31, 2003 decreased
approximately $34,000 when compared to the corresponding three-month period
of 2002 as a direct result of lower interest rates and a decreased level of
outstanding indebtedness. It is anticipated that interest expense will
continue to decline. Interest income for the three months ended March 31,
2003 decreased approximately $27,000 when compared to the corresponding
three-month period of 2002, also as a result of lower interest rates.
Although the Company had more cash invested in 2003, it received lower
interest rates on its investments as overall interest rates continue to
decline.
Other income is comprised of royalty fees received from the licensing
of Frances Denney products.
The provision for income taxes increased approximately $103,000, to
$300,000 for the three months ended March 31, 2003, from the $197,000
incurred in the corresponding period in 2002, as a result of higher income
before the cumulative effect of a change in accounting principle. The
income tax rate was relatively consistent, with an effective rate of 38.4%
for the three months ended March 31, 2003 compared to 37.6% for the three
months ended March 31, 2002. As a result of the implementation of SFAS No.
142, the Company recorded a tax benefit of $1,662,911 for the quarter ended
March 31, 2002.
19
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003 AND 2002
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
LIQUIDITY & CAPITAL RESOURCES
Cash and cash equivalents increased $642,000 to $11,428,000 as of
March 31, 2003 from $10,786,000 as of December 31, 2002. Total cash of
$17,903,000 includes $6,475,000 of cash invested in certificates of deposit
pledged as collateral for a bank loan. Accounts receivable increased
$850,000 and inventories increased by approximately $403,000 from the
amounts at December 31, 2002 as the result of an increase in sales, and in
particular, as a result of the increase in net sales of the Quinsana
Medicated Talc as indicated above.
Total current assets at March 31, 2003 were $21,997,000 compared to
$20,284,000 at December 31, 2002. Working capital increased $530,000 when
compared to December 31, 2002, in spite of an increase in the current
portion of long term debt of approximately $747,000 as a result of the
final payment due to the Colgate-Palmolive Company in January 2004.
The Company does not anticipate any significant capital expenditures
in the near term and management believes that there is sufficient cash on
hand and working capital to satisfy upcoming requirements, including any
funds that may be needed in connection with the going-private transaction.
The Company does not have any off-balance sheet financing or similar
arrangements.
NEW FINANCIAL ACCOUNTING STANDARDS
See Note 1 to the Financial Statements included in Part I, Item 1 for
a discussion of new financial accounting standards.
DISCUSSION OF CRITICAL ACCOUNTING POLICIES
The preparation of consolidated financial statements in conformity
with accounting principles generally accepted in the United States of
America ("generally accepted accounting principles") requires management to
make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the
date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results would
differ significantly from those estimates if different assumptions were
used or unexpected events transpire. Please see Item 7 in the Company's
Form 10-K for the year ended December 31, 2002 filed with the Securities
and Exchange Commission.
20
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003 AND 2002
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company does not participate in derivative or other financial
instruments for which fair value disclosure would be required under SFAS
No. 107. In addition, the Company does not invest in securities that would
require disclosure of market risk, nor does it have floating rate loans or
foreign currency exchange rate risks.
ITEM 4. CONTROLS AND PROCEDURES
(a) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES: Based upon an
evaluation of the Company's disclosure controls and procedures, which was
completed as of March 31, 2003 (the "Evaluation Date"), the Company's
principal executive officer and chief financial officer have concluded that
the disclosure controls and procedures in place were effective as of the
Evaluation Date.
(b) CHANGES IN INTERNAL CONTROLS: To the best of the Company's
knowledge and belief, there have been no significant changes in the
Company's internal controls or in other factors that could significantly
affect these controls subsequent to the Evaluation Date.
21
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
MARCH 31, 2003 AND 2002
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 3 to the Financial Statements included in Part I, Item 1 for
a discussion of legal proceedings.
Other than the above, there has been no material change in the status
of any other pending litigation since our last periodic report.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
Exhibit 99.1 Certification by the Chief Executive Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
Exhibit 99.2 Certification by the Chief Financial Officer
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 during the quarter ended March 31, 2003
None.
22
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
THE STEPHAN CO.
/s/ Frank F. Ferola
_____________________________________
Frank F. Ferola
President and Chief Executive Officer
May 15, 2003
/s/ David A. Spiegel
____________________________________
David A. Spiegel
Principal Financial and
Accounting Officer
May 15, 2003
23
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Frank F. Ferola, certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Stephan Co.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the Registrant as of, and for, the periods presented in this
quarterly report;
4. The Registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-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 quarterly 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
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly 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 officer and I have disclosed, based on
our most recent evaluation, to the Registrant's auditors and the audit
committee of Registrant's board of directors (or persons performing the
equivalent function):
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
24
CERTIFICATION OF CHIEF EXECUTIVE OFFICER (continued)
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officer and I have indicated in this
quarterly 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/ Frank F. Ferola
__________________________________
Frank F. Ferola
Chief Executive Officer
May 15, 2003
25
CERTIFICATION OF CHIEF FINANCIAL OFFICER
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, David A. Spiegel, certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Stephan Co.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the Registrant as of, and for, the periods presented in this
quarterly report;
4. The Registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-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 quarterly 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
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly 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 officer and I have disclosed, based on
our most recent evaluation, to the Registrant's auditors and the audit
committee of Registrant's board of directors (or persons performing the
equivalent function):
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
26
CERTIFICATION OF CHIEF FINANCIAL OFFICER (continued)
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officer and I have indicated in this
quarterly 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/ David A. Spiegel
__________________________________
David A. Spiegel
Chief Financial Officer
May 15, 2003
27