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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the quarterly period ended July 31, 2002 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: 0-15827
SHARPER IMAGE CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 94-2493558
(State of Incorporation) (I.R.S. Employer Identification No.)
650 Davis Street, San Francisco, California 94111
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (415) 445-6000
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 the number of shares outstanding of each of the issuer's classes of
Common Stock, as of the latest practicable date.
Common Stock, $0.01 par value, 12,319,319 shares as of September 11, 2002
1
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SHARPER IMAGE CORPORATION
CONDENSED BALANCE SHEETS
(Unaudited)
July 31, January 31, July 31,
2002 2002 2001
Dollars in thousands, except per share amounts (Note A)
-------- -------- --------
ASSETS
Current Assets:
Cash and equivalents $ 16,371 $ 40,417 $ 9,807
Accounts receivable, net of allowance for doubtful
accounts of $819, $1,082 and $665 11,013 8,098 8,822
Merchandise inventories 70,792 50,151 59,532
Deferred catalog costs 3,503 3,844 4,002
Prepaid expenses and other 11,590 10,648 12,003
-------- -------- --------
Total Current Assets 113,269 113,158 94,166
Property and equipment, net 48,091 44,862 40,102
Deferred taxes and other assets 4,376 4,318 6,410
-------- -------- --------
Total Assets $165,736 $162,338 $140,678
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable and accrued expenses $ 44,046 $ 41,773 $ 33,596
Deferred revenue 17,985 16,982 13,390
Income taxes payable -- 807 243
Current portion of notes payable 181 174 167
-------- -------- --------
Total Current Liabilities 62,212 59,736 47,396
Notes payable 1,940 2,033 2,121
Other liabilities 6,127 5,826 4,769
Commitments and contingencies -- -- --
-------- -------- --------
70,279 67,595 54,286
-------- -------- --------
Total Liabilities
Stockholders' Equity:
Preferred stock, $0.01 par value:
Authorized 3,000,000 shares: Issued and outstanding, none -- -- --
Common stock, $0.01 par value:
Authorized 25,000,000 shares: Issued and outstanding,
12,213,144, 11,970,684 and 11,892,839 shares 122 120 119
Additional paid-in capital 44,182 42,582 41,978
Retained earnings 51,153 52,041 44,295
-------- -------- --------
Total Stockholders' Equity 95,457 94,743 86,392
-------- -------- --------
Total Liabilities and Stockholders' Equity $165,736 $162,338 $140,678
======== ======== ========
See notes to condensed financial statements.
2
SHARPER IMAGE CORPORATION
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Six Months Ended
Dollars in thousands, except per share amounts July 31, July 31,
-------------------------------- --------------------------------
2002 2001 2002 2001
------------ ------------ ------------ ------------
REVENUES:
Sales $ 112,391 $ 89,938 $ 213,971 $ 165,747
Less: returns and allowances 12,833 9,703 24,091 18,038
------------ ------------ ------------ ------------
Net Sales 99,558 80,235 189,880 147,709
Other revenue 2,850 2,562 5,364 4,847
------------ ------------ ------------ ------------
102,408 82,797 195,244 152,556
------------ ------------ ------------ ------------
COSTS AND EXPENSES:
Cost of products 45,272 39,634 84,437 72,865
Buying and occupancy 10,923 9,089 21,411 17,660
Advertising 21,137 17,580 41,330 30,447
General, selling, and administrative 26,159 22,705 49,673 42,794
------------ ------------ ------------ ------------
103,491 89,008 196,851 163,766
------------ ------------ ------------ ------------
OPERATING LOSS (1,083) (6,211) (1,607) (11,210)
------------ ------------ ------------ ------------
OTHER INCOME:
Interest income 90 130 243 557
Interest expense (62) (72) (129) (137)
Other income (expense), net (9) (4) (11) 40
------------ ------------ ------------ ------------
19 54 103 460
------------ ------------ ------------ ------------
Loss Before Income Tax
Benefit (1,064) (6,157) (1,504) (10,750)
Income Tax Benefit (436) (2,463) (616) (4,300)
------------ ------------ ------------ ------------
Net Loss $ (628) $ (3,694) $ (888) $ (6,450)
============ ============ ============ ============
Net Loss Per Share
- Basic $ (0.05) $ (0.31) $ (0.07) $ (0.54)
============ ============ ============ ============
- Diluted $ (0.05) $ (0.31) $ (0.07) $ (0.54)
============ ============ ============ ============
Weighted Average Number of Shares -
Basic 12,189,000 11,887,000 12,122,000 11,897,000
Diluted 12,189,000 11,887,000 12,122,000 11,897,000
3
SHARPER IMAGE CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Six Months Ended
July 31,
-----------------------------
Dollars in thousands 2002 2001
-------- --------
Cash was Provided by (Used for) Operating Activities:
Net loss $ (888) $ (6,450)
Adjustments to reconcile net loss to net cash used for operations:
Depreciation and amortization 6,895 4,862
Deferred rent expenses and landlord allowances 126 127
Loss on disposal of equipment 30 12
Changes in:
Merchandise inventories (20,641) 2,427
Accounts receivable (2,915) 900
Deferred catalog costs, prepaid expenses and other assets (756) (3,753)
Accounts payable and accrued expenses 2,253 (21,419)
Deferred revenue, income taxes payable and other liabilities 468 (9,618)
-------- --------
Cash Used for Operating Activities (15,428) (32,912)
-------- --------
Cash was Used for Investing Activities:
Property and equipment expenditures (10,134) (8,502)
-------- --------
Cash Used for Investing Activities (10,134) (8,502)
-------- --------
Cash was Provided by (Used for) Financing Activities:
Proceeds from issuance of common stock, including
stock options exercised 1,602 267
Repurchase of common stock -- (987)
Principal payments on notes payable (86) (78)
-------- --------
Cash Provided by (Used for) Financing Activities 1,516 (798)
-------- --------
Net Decrease in Cash and Equivalents (24,046) (42,212)
-------- --------
Cash and Equivalents at Beginning of Period 40,417 52,019
-------- --------
Cash and Equivalents at End of Period $ 16,371 $ 9,807
======== ========
Supplemental Disclosure of Cash Paid for:
Interest $ 129 $ 133
Income Taxes $ 698 $ 7,979
See notes to condensed financial statements.
4
SHARPER IMAGE CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
Three-month and six-month periods ended July 31, 2002 and 2001
(Unaudited)
NOTE A- Financial Statements
The accompanying unaudited condensed financial statements have been prepared
from the records of the Sharper Image Corporation (the "Company") without audit
and, in the opinion of management, include all adjustments (consisting of only
normal recurring accruals) necessary to present fairly the financial position at
July 31, 2002 and 2001; the results of operations for the three and six months
ended July 31, 2002 and 2001; and changes in cash flows for the six months ended
July 31, 2002 and 2001. The balance sheet at January 31, 2002, presented herein,
has been derived from the audited financial statements of the company for the
fiscal year then ended.
Certain information and disclosures normally included in the notes to the annual
financial statements prepared in accordance with accounting principles generally
accepted in the United States of America have been omitted from these interim
financial statements. Accordingly, these interim financial statements should be
read in conjunction with the financial statements and notes thereto included in
the Company's 2001 Annual Report.
The Company's business is highly seasonal, reflecting the general pattern
associated with the retail industry of peak sales and earnings during the
Holiday shopping season. A substantial portion of the Company's total revenues
and all or most of the Company's net earnings usually occurs in the fourth
quarter ending January 31. The Company, as is typical in the retail industry,
generally experiences lower revenues and net operating results during the other
quarters and has incurred and may continue to incur losses in these quarters.
The results of operations for interim periods are not necessarily indicative of
the results for the full fiscal year.
Certain reclassifications have been made to prior periods' financial statements
in order to conform to current period presentations.
NOTE B-Revolving Loan and Notes Payable
The Company has a revolving secured credit facility (the "credit facility") with
The CIT Group/Business Credit, Inc. (CIT) with an expiration date of September
2004. The credit facility allows the Company borrowings and letters of credit up
to a maximum of $33 million for the period from October 1 through December 31,
and $20 million for other times of the year based on inventory levels. The
credit facility is secured by the Company's inventory, accounts receivable,
general intangibles and certain other assets. Borrowings under this facility
bear interest at either the prime rate plus a margin or at LIBOR plus a margin,
based on the Company's financial performance. The credit facility contains
certain financial covenants pertaining to interest coverage ratio and net worth
and contains limitations on operating leases, other borrowings, dividend
payments and stock repurchases. At July 31, 2002, we had no amounts outstanding
on our credit facility and letter of credit commitments outstanding under the
credit facility were $12.8 million.
5
In addition, the credit facility provides for term loans for capital
expenditures ("Term Loans") up to $2.0 million. Amounts borrowed under the Term
Loans bear interest at a variable rate of either prime rate plus a margin or at
LIBOR plus a margin based on the Company's financial performance. Each Term Loan
is to be repaid in 36 equal monthly principal installments. As of July 31, 2002,
there were no outstanding Term Loans on this facility.
NOTE C-Earnings (Loss) Per Share
Basic earnings per share is computed as net income available to common
stockholders divided by the weighted average number of common shares outstanding
for the period. Diluted earnings per share reflects the potential dilution that
could occur from common shares to be issued through stock options.
Three Months Ended Six Months Ended
July 31, July 31,
2002 2001 2002 2001
------------ ------------ ------------ ------------
Net loss $ (628,000) $ (3,694,000) $ (888,000) $ (6,450,000)
Average shares of common stock
outstanding during the period 12,189,000 11,887,000 12,122,000 11,897,000
============ ============ ============ ============
Basic Loss per Share $ (0.05) $ (0.31) $ (0.07) $ (0.54)
============ ============ ============ ============
Average shares of common stock
outstanding during the period 12,189,000 11,887,000 12,122,000 11,897,000
Add:
Incremental shares from assumed
Exercise of stock options -- -- -- --
------------ ------------ ------------ ------------
12,189,000 11,887,000 12,122,000 11,897,000
============ ============ ============ ============
Diluted Loss per Share $ (0.05) $ (0.31) $ (0.07) $ (0.54)
============ ============ ============ ============
The potential effects of stock options were excluded from the diluted earnings
per share for the three and six-month periods ended July 31, 2002 and 2001
because their inclusion in net loss periods would be anti-dilutive to the
earnings per share calculation. Options to purchase 3,119,536 and 2,512,317
shares of common stock were outstanding as of July 31, 2002 and 2001,
respectively.
Of these options, 1,574,256 and 783,450 stock options for the three months ended
July 31, 2002 and 2001 respectively, and 1,503,131 and 766,588 stock options for
the six months ended July 31, 2002 and 2001 respectively, were excluded from
dilutive earnings per share calculation because the Company was in a net loss
position and there inclusion would have been anti-dilutive.
Had the Company been in a net income position, stock options 27,400 and 154,434
for the three months ended July 31, 2002 and 2001, respectively and stock
options of 51,400 and 154,434 for the six months ended July 31, 2002 and 2001,
respectively, would have been excluded from the diluted earnings per share
calculation because the option exercise price exceeded the average stock price
for those periods.
6
NOTE D-Recent Accounting Standard
In July 2001, the Financial Accounting Standards Board issued SFAS No. 141,
"Business Combinations" (effective July 1, 2001) and SFAS No. 142, "Goodwill and
Other Intangible Assets" (effective for the Company on February 1, 2002). SFAS
No. 141 prohibits pooling-of-interests accounting for acquisitions. SFAS No. 142
specifies that goodwill and certain intangible assets will no longer be
amortized but instead will be subject to periodic impairment testing. The
adoption of the new standards did not have an impact on the Company's financial
position or results of operations.
In October 2001, the Financial Accounting Standards Board issued SFAS No. 144
"Accounting for the Impairment or Disposal of Long-Lived Assets." This statement
supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of," and the accounting and reporting
provisions of APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions," for the disposal of
a segment of a business. SFAS No. 144 became effective for the Company on
February 1, 2002. Adoption of this standard did not have a material effect on
the Company's financial position or results of operations.
In June 2002, the Financial Accounting Standards Board issued SFAS No. 146,
Accounting for Costs Associated with Exit or Disposal Activities, which
addresses accounting for restructuring and similar costs. SFAS No. 146
supersedes previous accounting guidance, principally Emerging Issues Task Force
Issue No. 94-3. The Company will adopt the provisions of SFAS No. 146 for
restructuring activities initiated after December 31, 2002. SFAS No. 146
requires that the liability for costs associated with an exit or disposal
activity be recognized when the liability is incurred. Under Issue 94-3, a
liability for an exit cost was recognized at the date of the Company's
commitment to an exit plan. SFAS No. 146 also establishes that the liability
should initially be measured and recorded at fair value. Accordingly, SFAS No.
146 may affect the timing of recognizing future restructuring costs as well as
the amounts recognized.
7
NOTE E-Segment Information
The Company classifies its business interests into three reportable segments:
retail stores, catalog and direct marketing, and Internet. The accounting
policies of the segments are the same as those described in the summary of
significant accounting policies in Note A of the 2001 Annual Report. The Company
evaluates performance and allocates resources based on operating contribution,
which excludes unallocated corporate general and administrative costs and income
tax expense or benefit. The Company's reportable segments are strategic business
units that offer essentially the same products and utilize common merchandising,
distribution, and marketing functions, as well as common information systems and
corporate administration. The Company does not have intersegment sales, but the
segments are managed separately because each segment has different channels for
selling the product.
Financial information for the Company's business segments is as follows:
Three Months Ended Six Months Ended
July 31, July 31,
----------------------------- -----------------------------
2002 2001 2002 2001
--------- --------- --------- ---------
Dollars in thousands
Revenues:
Stores $ 58,403 $ 48,493 $ 108,429 $ 88,305
Catalog and Direct Marketing 24,774 19,090 52,484 35,892
Internet 12,199 9,904 23,681 19,612
Other 7,032 5,310 10,650 8,747
--------- --------- --------- ---------
Total Revenues $ 102,408 $ 82,797 $ 195,244 $ 152,556
--------- --------- --------- ---------
Operating Contributions:
Stores $ 4,103 $ 899 $ 7,308 $ 2,726
Catalog and Direct Marketing 2,696 981 6,287 2,171
Internet 1,182 743 3,079 990
Unallocated (9,045) (8,780) (18,178) (16,637)
--------- --------- --------- ---------
Loss Before Income Tax Benefit $ (1,064) $ (6,157) $ (1,504) $ (10,750)
--------- --------- --------- ---------
8
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
The condensed balance sheets of the Company as of July 31, 2002 and 2001 and the
related condensed statements of operations for the three-month and six-month
periods, and statement of condensed cash flows for the six-month periods then
ended have been reviewed by the Company's independent accountants, Deloitte &
Touche LLP, whose report covering their review of the financial statements is
presented herein.
9
INDEPENDENT ACCOUNTANTS' REPORT
Board of Directors
Sharper Image Corporation
San Francisco, California
We have reviewed the accompanying condensed balance sheets of Sharper Image
Corporation as of July 31, 2002 and 2001, and the related condensed statements
of operations for the three-month and six-month periods, and cash flows for the
six-month periods then ended. These financial statements are the responsibility
of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with auditing standards generally accepted in the United States of
America, the objective of which is the expression of an opinion regarding the
financial statements taken as a whole. Accordingly, we do not express such an
opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to the accompanying condensed financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the balance sheet of Sharper Image
Corporation as of January 31, 2002, and the related statements of operations,
stockholders' equity and cash flows for the year then ended (not presented
herein); and in our report dated March 25, 2002, we expressed an unqualified
opinion on those financial statements. In our opinion, the information set forth
in the accompanying condensed balance sheet as of January 31, 2002 is fairly
stated, in all material respects, in relation to the balance sheet from which it
has been derived.
/s/ Deloitte & Touche LLP
- -------------------------
San Francisco, CA
August 14, 2002
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
This report (including without limitation the statements contained in this
Management's Discussion and Analysis of Financial Condition and Results of
Operations) contains forward-looking statements (within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934) regarding the Company and our business, financial condition, results of
operations and prospects. Words such as "expects," "anticipates," "intends,"
"plans," "believes," "seeks," "estimates" and similar expressions or variations
of such words are intended to identify forward-looking statements, but are not
the exclusive means of identifying forward-looking statements in this report.
Additionally, statements concerning future matters such as the development of
new products or enhancements, store expansions, possible changes in legislation
or economic conditions and other statements regarding matters that are not
historical are forward-looking statements.
The forward-looking statements in this report are based on current expectations,
estimates, forecasts and projections about the industry in which we operate and
the beliefs and assumptions of our management. Consequently, forward-looking
statements are inherently subject to risks and uncertainties, and actual results
and outcomes may differ materially from the results and outcomes discussed in
the forward-looking statements. Factors that could cause or contribute to such
differences in results and outcomes include, but are not limited to those set
forth in the Management's Discussion and Analysis of Financial Condition and
Results of Operations and under the Factors Affecting Future Operating Results
as well as those discussed elsewhere in this report. Readers are urged not to
place undue reliance on these forward-looking statements, which speak only as of
the date of this report. We undertake no obligation to revise or update any
forward-looking statements in order to reflect any event or circumstance that
may arise after the date of the report.
The following information should be read in conjunction with the historical
financial information and the notes thereto included in Item 1 of this Quarterly
Report on Form 10-Q and Management's Discussion and Analysis of Financial
Condition and Results of Operations contained in our annual report on Form 10-K
for the fiscal year ended January 31, 2002 as filed with the Securities and
Exchange Commission.
11
RESULTS OF OPERATIONS
The following table sets forth the results of operations expressed as a
percentage of total revenues for the periods indicated.
Three Months Ended Six Months Ended
July 31, July 31,
-------- --------
Percentage of Total Revenues 2002 2001 2002 2001
- ---------------------------- ---- ---- ---- ----
Revenues:
Net store sales 57.0% 58.5% 55.5% 57.9%
Net catalog and direct marketing sales 24.2 23.1 26.9 23.5
Net Internet sales 11.9 12.0 12.1 12.9
Net wholesale sales 4.1 3.3 2.7 2.6
List rental and licensing 0.2 0.3 0.2 0.3
Delivery 2.6 2.8 2.6 2.8
-------- --------- -------- --------
Total Revenues 100.0% 100.0% 100.0% 100.0%
Costs and Expenses:
Cost of products 44.2 47.9 43.3 47.8
Buying and occupancy 10.7 11.0 11.0 11.5
Advertising 20.6 21.2 21.2 20.0
General, selling
and administrative 25.5 27.4 25.4 28.0
Other Income - (0.1) (0.1) (0.3)
-------- --------- -------- --------
Loss Before Income Taxes (1.0) (7.4) (0.8) (7.0)
Income Tax Benefit (0.4) (2.9) (0.3) (2.8)
-------- --------- -------- --------
Net Loss (0.6)% (4.5)% (0.5)% (4.2)%
======== ========= ======== ========
The following table sets forth the components of total revenues for the periods
indicated.
Three Months Ended Six Months Ended
July 31, July 31,
-------- --------
2002 2001 2002 2001
---- ---- ---- ----
Revenues (dollars in thousands)
- --------
Net store sales $ 58,403 $ 48,493 $ 108,429 $ 88,305
Net catalog and direct marketing sales 24,774 19,090 52,484 35,892
Net Internet sales 12,199 9,904 23,681 19,612
Net wholesale sales 4,182 2,748 5,286 3,900
------------ ------------- ------------ -------------
Total Net Sales 99,558 80,235 189,880 147,709
List rental and licensing 214 232 446 480
Delivery 2,636 2,330 4,918 4,367
------------ ------------- ------------ -------------
Total Revenues $ 102,408 $ 82,797 $ 195,244 $ 152,556
============ ============= ============ =============
12
Revenues
Net sales for the second quarter increased $19,323,000, or 24.1%, from
the comparable three-month period of the prior year. Net sales for the six-month
period ended July 31, 2002 increased $42,171,000 or 28.6%, from the comparable
period last year. Returns and allowances for the three-month and six-month
periods ended July 31, 2002, were 11.4% and 11.3% of sales, as compared with
10.8% and 10.9% of sales for the comparable prior year periods. The increase in
net sales for the three and six-month period ended July 31, 2002 compared to the
same periods last year was primarily attributable to increases in net sales from
stores of $9,910,000 and $20,124,000; catalog and direct marketing net sales of
$5,684,000 and $16,592,000; Internet operations of $2,295,000 and $4,069,000;
and wholesale of $1,434,000 and $1,386,000, respectively.
The popularity of our Sharper Image Design proprietary products and
private label products continues to be a key factor in the year over year
increases in net sales in all selling channels. We believe that the continued
development and introduction of new and popular products is a key strategic
objective and important to our future success. Sharper Image Design proprietary
products and private label products increased from 69.0% of net sales in the
comparable first six months of fiscal 2001 to 75.3% for the period ended July
31, 2002. We believe the increased investment in our advertising initiatives in
fiscal 2001 and the first six months of fiscal 2002 was another key contributing
factor to the higher revenues in all selling channels, and that these
initiatives are broadening our customer base, which is an important factor in
our future revenue growth, although there can be no assurances of the continued
success of these and future advertising initiatives. This advertising strategy,
including the significant increase in television infomercial advertising and
single product mailers, highlighting selected Sharper Image Design proprietary
products contributed to improved sales in all sales channels. Another key factor
contributing to the increase in net sales was the opening of 20 new stores since
July 31, 2001.
For the three-month and six-month periods ended July 31, 2002, as
compared with the same periods last year, net store sales increased $9,910,000,
or 20.4%, and $20,124,000, or 22.8%, while comparable store sales increased by
5.3% and 8.9%, respectively. The increase in net store sales for the three and
six-month periods ended July 31, 2002 were primarily attributable to the
popularity of Sharper Image Design proprietary and private label products, the
increased television infomercial and single product mailer advertising and the
opening of 20 new stores, partially offset by the closing of one store at lease
maturity since July 31, 2001. The increase in net store sales for the
three-month period ended July 31, 2002 reflects a 14.0% increase in total store
transactions and a 6.0% increase in average revenue per transaction, compared
with the same prior year period. Total store transactions increased 14.4% for
the six-months ended July 31, 2002, and average revenue per transaction
increased by 7.5%, compared with the same prior year period.
Comparable store sales is not a measure that has been defined under
generally accepted accounting principles. The Company defines comparable store
sales as sales from stores whose selling square feet did not change by more than
15% in the previous 12 months and which have been open at least 12 full months.
Stores generally become comparable in their 13th full month of operation.
For the three and six-month periods ended July 31, 2002, as compared
with the same period of the prior year, net catalog and direct marketing sales,
which includes sales generated from catalog mailings, single product mailers,
print advertising and television infomercials, increased $5,684,000 or 29.8%,
and $16,592,000 or 46.2%, respectively. The net sales increase from these direct
marketing activities for the three month period ended July 31, 2002, as compared
to the same period last year, was due primarily to a 12% increase in television
infomercial advertising, 223% increase in single product mailers circulated, a
2% increase in Sharper Image catalogs circulated and a 4% increase in Sharper
13
Image catalog pages. For the three-month period ended July 31, 2002, the
increase in net catalog and direct marketing sales reflects a 9.7% increase in
transactions, and an increase of 17.3% in average revenue per order. The net
sales increase from these direct marketing activities for the six month period
ended July 31, 2002, as compared to the same period last year, was due primarily
to a 44% increase in television infomercial advertising, 163% increase in single
product mailers circulated, a 2% increase in Sharper Image catalogs circulated
and a 5% increase in Sharper Image catalog pages. For the six-month period ended
July 31, 2002, the increase in net catalog and direct marketing sales reflects a
19.4% increase in transactions, and an increase of 20.5% in average revenue per
order.
For the three and six-month periods ended July 31, 2002, Internet sales from our
sharperimage.com Web site, which includes the Sharper Image auction site,
increased $2,295,000, or 23.2% and $4,069,000, or 20.7%, respectively, from the
same periods last year. The Internet net sales increase for the three months
ended July 31, 2002 was attributable to a 6.7% increase in average revenue per
transaction, and a 2.7% increase in transactions, as compared to the same period
last year. Excluding auction sales for this period, Internet sales increased
43.0%, transactions increased 16.5% and average revenue per transaction
increased 22.7%. The Internet net sales increase for the six months ended July
31, 2002 was attributable to a 20.7% increase in average revenue per
transaction, and a 1.0% increase in Internet transactions, as compared to the
same period of the prior year. Excluding auction sales for this period, Internet
sales increased 40.1%, transactions increased 17.1% and average revenue per
transaction increased 19.6%.
We believe the variances between Internet net sales including auction sales, and
Internet net sales excluding auction sales, were primarily attributable to our
decision to raise bid prices and to reduce the number of products offered on our
auction site, which resulted in achieving the goal of improving the gross margin
rate and gross margin dollars from auctions, although we cannot assure you that
such improvements will continue. We continue to utilize the auction site to
increase our Internet business, broaden our customer base and manage
inventories, including closeouts, repackaged and refurbished items.
For the three- and six-month periods ended July 31, 2002, wholesale sales
increased $1,434,000, or 52.2%, and $1,386,000, or 35.5%, respectively, from the
same periods of the prior year. The increase is primarily attributable to
several new test programs entered into during the three-month period ended July
31, 2002.
Cost of Products
Cost of products for the three-month and six-month periods ended July 31, 2002
increased $5,638,000, or 14.2%, and increased $11,572,000, or 15.9%, from the
comparable prior year periods. The increase in cost of products for the three
and six-month periods are due to the higher sales volume compared to the same
period last year which was partially offset by the lower cost of products
related to the increase in sales of Sharper Image Design proprietary and private
label products. The gross margin rate for the three and six-month periods ended
July 31, 2002, was 55.7% and 56.7%, respectively, which was 3.7 and 4.6
percentage points higher than the comparable periods of the prior year. The
increase in gross margin rate was due to increased sales of Sharper Image Design
proprietary and private label products, which generally carry higher margins
than branded products. Sharper Image Design proprietary and private label
products percentage of net sales, exclusive of wholesale, increased to 75.3%
from 69.0% for the six-month period ended July 31, 2002, as compared to the same
prior year period.
14
Our gross margin rate fluctuates with the changes in our merchandise mix,
primarily Sharper Image Design proprietary and private label products, which is
affected by new items available in various categories or introduced by us. The
variation in merchandise mix from category to category from year to year
reflects the characteristic that we are driven by individual products as opposed
to general lines of merchandise. Additionally, the auction sites and other
selected promotional activities, such as free shipping offers, in part, tend to
offset the rate of increase in our gross margin rate.
It is impossible to predict future gross margin rates accurately, although our
goal is to continue to increase sales of Sharper Image Design proprietary
products and other exclusive private label products, as these products generally
carry higher margins than branded products and may be less susceptible to price
comparisons by customers. The popularity of these proprietary and private label
products contributed to the 3.7 and 4.6 percentage point increase in the gross
margin rate for the three and six-month periods ended July 31, 2002. We believe
that the introduction of new proprietary and private label products at gross
margins that are anticipated to be in excess of the average of those currently
being realized should continue to have a positive impact on our gross margin
rate for 2002, but we cannot assure you that we will successfully introduce
those products, or that proprietary and private label products will continue to
have gross margins in excess of the average gross margin. To the extent that the
sales of popular proprietary products continues to be a higher proportion of
total sales, this could have a positive impact on the gross margin rate for
fiscal 2002 and in the future, although we cannot assure you such increase in
gross margin will occur.
Buying and Occupancy
Buying and occupancy costs for the three-month and six-month periods ended July
31, 2002 increased $1,834,000, or 20.2%, and $3,751,000, or 21.2% from the
comparable prior year periods. The increase reflects the occupancy costs
associated with the 20 new stores opened since July 31, 2001 and rent increases
associated with lease renewals, partially offset by the occupancy costs of the
one Sharper Image store closed at lease maturity since July 31, 2001. Buying and
occupancy costs as a percentage of total revenues decreased to 10.7% from 11.0%
for the three-month period ended July 31, 2002, and decreased to 11.0% from
11.5% for the six-month period ended July 31, 2002. Our goal is to continue to
grow the number of new stores by 10%-15% on an annual basis, but we cannot
assure you we will achieve this goal.
Advertising
Advertising for the three-month and six-month periods ended July 31, 2002
increased $3,557,000, or 20.2%, and $10,883,000, or 35.7%, from the comparable
prior year periods. The increase in advertising expense for the three-month
period ended July 31, 2002 was primarily attributable to a 12% increase in
television infomercial advertising, a 223% increase in the number of
single-product mailers circulated, a 4% increase in the number of Sharper Image
catalogs pages and a 2% increase in the number of Sharper Image catalogs
circulated. During the three-month period we increased the circulation of our
single-product mailers and we will continue to monitor the effectiveness of this
type of advertising in order to get an appropriate return on investment.
Advertising expenses as a percentage of total revenues decreased to 20.6% from
21.2% for three-month period ended July 31, 2002. The increase in advertising
expense for the six month period ended July 31, 2002 was primarily attributable
to a 44% increase in television infomercial advertising, a 163% increase in the
number of single-product mailers circulated, a 5% increase in the number of
Sharper Image catalogs pages and a 2% increase in the
15
number of Sharper Image catalogs circulated. Advertising expenses as a
percentage of total revenues increased to 21.2% from 20.0% for six-month period
ended July 31, 2002.
During the three- and six-month periods, we continued our other multimedia
advertising initiatives, which included radio, television and print advertising,
among others. Although we believe they contributed to the increase in sales in
the stores, catalog and direct marketing and Internet channels, there can be no
assurance of the continued success of these advertising initiatives.
During the three- and six-month period ended July 31, 2002, we increased our
television media spending on infomercials highlighting selected Sharper Image
Design products. The broad appeal of our Sharper Image Design products in
conjunction with the higher gross margin rates allowed us to achieve our return
on investment goal, which represents a benchmark ratio of net sales to media
expense, on this type of advertising expenditure in the first half of 2002.
Advertising expense as a percentage of total net sales, excluding television
infomercial net sales and expenses, was 15.6% and 16.0%, respectively, for the
three months ended July 31, 2002 and 2001, and 14.4% and 13.8%, respectively,
for the six months ended July 31, 2002 and 2001.
We believe that the expansion of our multimedia advertising initiatives of
direct marketing, television and radio contributed to the sales increases for
the first six months of fiscal 2002 and will continue be an important factor in
our future revenue growth. As a result, advertising costs, which include
television infomercial, catalog circulation, catalog pages, and other marketing
activities, are anticipated to be higher in fiscal 2002. Additionally, the
higher cost of postage on various direct marketing mailers, including the
catalog and single product mailers, has contributed to advertising cost
increases, which we believe may be partially offset by anticipated savings from
lower paper costs during fiscal 2002.
General, Selling and Administrative Expenses
General, selling and administrative (GS&A) expenses for the three-month and
six-month periods ended July 31, 2002 increased $3,454,000, or 15.2%, and
$6,879,000, or 16.1%, from the comparable prior year periods. The increase was
primarily due to increases in variable expenses from increased net sales and
overall selling expenses related to the 20 new stores opened since July 31,
2001, partially offset by the reduced selling expenses of one store closed at
lease maturity since July 31, 2001. The increase was also due to our continued
development of Sharper Image Design proprietary products and the technological
system enhancements made in operational areas of our Company. GS&A expenses for
the three-month period ended July 31, 2002 decreased as a percentage of total
revenues to 25.5% from 27.4%. For the six-month period ended July 31, 2002 GS&A
expenses decreased as a percentage of total revenues to 25.4% from 28.0%. The
decline in the GS&A percentage is the result of our continual review of GS&A
expenses and infrastructure combined with better leverage of fixed costs on an
expanding sales base.
Other Income
Other income, net, for the three and six-month periods ended July 31, 2002,
decreased $35,000 and $357,000 from the comparable prior year periods, primarily
due to the decrease in interest income earned due to the reduction in interest
rate earned on invested balances.
16
Liquidity and Capital Resources
We met our short-term liquidity needs and our capital requirements in the
six-month period ended July 31, 2002 with cash generated by operations, trade
credits and existing cash balances.
Net cash used for operating activities totaled $15,428,000 for the first six
months of fiscal 2002, as compared to $32,912,000 for the first six months of
fiscal 2001. The improvement in net cash used for operating activities of
$17,484,000 is primarily due to the decrease in the net loss and the timing of
vendor and tax payments. The improvement was partially offset by the increased
merchandise inventory levels due to the 20 new stores opened since July 31, 2001
and the gradual build up of inventory in anticipation of a possible West Coast
Longshoreman's labor union strike. The improvement was also partially offset by
the increase in accounts receivable balances due to the increase in our
wholesale sales.
Net cash used in investing activities, primarily capital expenditures for new
stores, design and tooling costs for Sharper Image proprietary products and
technological upgrades to our operational infrastructure, totaled $10,134,000 in
the first six months of fiscal 2002 compared to $8,502,000 in the same period of
fiscal 2001. During the first six months of fiscal 2002, we opened nine new
stores and closed one store at its lease maturity.
Net cash provided by financing activities totaled $1,516,000 during the first
six months of fiscal 2002, which was the result of $1,602,000 in proceeds from
the issuance of common stock in connection with our stock option plan, partially
offset by $86,000 related to payments on our mortgage loan and revolving credit
facility.
We have a credit facility with The CIT Group/Business Credit, Inc. (CIT) with an
expiration date of September 2004. The credit facility allows us borrowings and
letters of credit up to a maximum of $33 million for the period from October 1
through December 31, and $20 million for other times of the year based on
inventory levels. The credit facility is secured by our inventory, accounts
receivable, general intangibles and certain other assets. Borrowings under this
facility bear interest at either the prime rate plus a margin or at LIBOR plus a
margin, based on our financial performance. The credit facility contains certain
financial covenants pertaining to interest coverage ratio and net worth and
contains limitations on operating leases, other borrowings, dividend payments
and stock repurchases. At July 31, 2002, we had no amounts outstanding on our
credit facility and letter of credit commitments outstanding under the credit
facility were $12.8 million.
In addition, the credit facility provides for term loans for capital
expenditures ("Term Loans") up to $2.0 million. Amounts borrowed under the Term
Loans bear interest at a variable rate of either prime rate plus a margin or at
LIBOR plus a margin based on the Company's financial performance. Each Term Loan
is to be repaid in 36 equal monthly principal installments. As of July 31, 2002,
there were no outstanding Term Loans on this facility.
During the six-month period ended July 31, 2002, we opened nine new stores
located at the Garden State Plaza in Paramus, New Jersey, Baybrook Mall in
Friendswood, Texas, Willowbrook Mall in Houston, Texas, Woodbury Common in
Central Valley, New York, in Downtown Los Gatos, California, Park Place in
Tucson, Arizona, Aspen Grove in Littleton, Colorado, Montgomery Mall in
Bethesda, Maryland, and Marlton Square Shopping Center in Marlton, New Jersey.
We closed one store at its lease maturity. For the remainder of fiscal 2002, we
plan to reach our goal of a 10-15% increase in the number of new stores opened
and to remodel approximately five to eight stores
17
at lease maturity. Total capital expenditures are estimated to be approximately
$16 million to $20 million for fiscal 2002.
We believe we will be able to fund our cash needs for the remainder of fiscal
2002 through existing cash balances, cash generated from operations, trade
credits and our credit facility.
Seasonality
Our business is highly seasonal, reflecting the general pattern associated with
the retail industry of peak sales and earnings during the Holiday shopping
season. In the past years, a substantial portion of our total revenues and all
or most of our net earnings occur in the fourth quarter ending January 31. We,
as is typical in the retail industry, generally experience lower revenues and
operating results during the other quarters and have incurred and may continue
to incur losses in these quarters. The results of operations for these interim
periods are not necessarily indicative of the results for the full fiscal year.
Factors Affecting Future Operating Results
The following factors, in addition to the other information contained in this
report, should be considered carefully in evaluating our Company and our
prospects.
If we fail to offer merchandise that our customers find attractive, our business
and operating results will be harmed
In order to meet our strategic goals, we must successfully offer to our
customers new, innovative and high quality products. Our product offerings must
be affordable, useful to the customer, well made, distinctive in design, and not
widely available from other retailers. We cannot predict with certainty that we
will successfully offer products that meet these requirements in the future.
If other retailers, especially department stores or discount retailers,
offer the same products or products similar to those we sell, or if our products
become less popular with our customers, our sales may decline or we may decide
to offer our products at lower prices. If customers buy fewer of our products or
if we have to reduce our prices, our revenues and earnings will decline.
In addition, we must be able to deliver our merchandise in sufficient
quantities to meet the demands of our customers and deliver this merchandise to
customers in a timely manner. We must be able to maintain sufficient inventory
levels, particularly during peak selling seasons. Our future results would be
adversely affected if we are not successful in achieving these goals.
Our success depends on our ability to anticipate and respond to
changing product trends and consumer demands in a timely manner. Our products
must appeal to a broad range of consumers whose preferences we cannot predict
with certainty and may change between sales seasons. If we misjudge either the
market for our products or our customers' purchasing habits, our sales may
decline, our inventories may increase or we may be required to sell our products
at lower prices. This would have a negative effect on our business.
If sales of a significant product decrease, our stock price maybe adversely
affected
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During the first six months of fiscal 2002, the sales of an individual
product contributed significantly to our total revenues. Sales of this product
was approximately 21% of our total revenues for the first six months of fiscal
2002. Although management believes that this product will continue to constitute
a significant portion of our sales during the last six months of fiscal 2002, we
cannot assure you that sales of this product will continue to increase or will
continue at this level.
Our future growth will be substantially dependent on the continued
increase in growth of existing core and new products, while at the same time
maintaining or increasing our current gross margin rates. We cannot predict
whether we will be able to increase the growth of existing core and new products
or successfully introduce new products, increase our revenue level, or maintain
or increase our gross margin rate in future periods. Failure to do so may
adversely affect our stock price.
Poor economic conditions may hurt our business
Certain economic conditions that affect the level of consumer spending
on our products include the following:
o general business conditions;
o stock market volatility;
o consumer confidence in future economic conditions;
o natural catastrophes;
o acts of terrorism;
o threats of war
o interest rates; and
o taxation.
Our business has been and could continue to be negatively affected by
the recession and poor economic conditions, and any related decline in consumer
demand for discretionary items such as our products. We face uncertainty in the
degree to which the continuing poor performance in the retail industry and the
current economic slowdown will negatively affect demand for our products from
our existing and potential customers. If the economic conditions in the United
States and globally do not improve, or if we experience a worsening in the
global economic slowdown, we may continue to experience material adverse impacts
on our business, operating results and financial condition. We may not be able
to accurately anticipate the magnitude of these effects on future quarterly
results.
Our success depends in part on our ability to design, develop, obtain and timely
deliver our proprietary products
We are increasingly dependent on the success of the proprietary
products that we design and develop for our customers. Some of these products or
a group of related products, which are affected by customers' demands and the
level of our marketing and advertising efforts, can produce sales volume that is
significant to a particular reporting period's total sales volume. We must
design and develop products that meet the demands of our customers as well as
create customer demand for newly introduced products. We must also manufacture
these products cost-effectively.
We rely solely on a select group of contract manufacturers, most of who
are located in Asia (primarily China), to produce these products in sufficient
quantities to meet customer demand and to obtain and deliver these products to
our customers in a timely manner. These arrangements are subject to the risks of
relying on products manufactured outside the United States, including political
unrest and
19
trade restrictions, currency fluctuations, work stoppages, economic
uncertainties including inflation and government regulations, and other
uncertainties. If we are unable to successfully design and develop or to obtain
and timely deliver sufficient quantities of these products, our operating
results may be adversely affected.
We had a single supplier located in Asia that provided approximately
16% of the net merchandise purchases in fiscal 2001 and is likely to provide a
higher percentage in fiscal 2002. If we were unable to obtain products from this
supplier on a timely basis or on commercially reasonable terms, our operating
results may be adversely affected. Also, the arrangement with this supplier is
subject to the risks of products manufactured outside the United States,
including political unrest and trade restrictions, currency fluctuations, work
stoppages, economic uncertainties including inflation government regulations,
and other uncertainties.
We depend on our vendors' ability to timely deliver sufficient quantities of
products
Our performance depends on our ability to purchase our products in
sufficient quantities at competitive prices and on our vendors' ability to make
and deliver high quality products in a cost-effective, timely manner. Some of
our smaller vendors have limited resources, limited production capacities and
limited operating histories. We have no long-term purchase contracts or other
contracts that provide continued supply, pricing or access to new products and
any vendor or distributor could discontinue selling to us at any time. We cannot
assure you that we will be able to acquire the products we desire in sufficient
quantities or on terms that are acceptable to us in the future. In addition, we
cannot assure you that our vendors will make and deliver high quality products
in a cost-effective, timely manner. We may also be unable to develop
relationships with new vendors.
All products we purchase from vendors in Asia must be shipped to our
distribution centers by freight carriers and we cannot assure you that we will
be able to obtain sufficient freight capacity at favorable rates. Our inability
to acquire suitable products in a cost-effective, timely manner or the loss of
one or more key vendors or freight carriers could have a negative effect on our
business. On July 1, 2002, the labor contract between the International
Longshore and Warehouse Union (ILWU) and the Pacific Maritime Association
expired and has not been renewed. This contract affects all of the ports on the
Western Coast of the United States. The members of the ILWU are primarily
responsible for the removal of cargo from container loaded shipping vessels and
are working under a daily extension of the contract. Many of our shipments from
Asia move through these West Coast U.S. ports. If there is a work stoppage or
strike, the timely delivery of our products will be jeopardized and will
negatively impact our sales. During the second quarter of fiscal 2002, we began
a gradual buildup of merchandise inventory in anticipation of a possible work
stoppage by the ILWU and have put into place contingency plans. The contingency
plans will not offset the significant impact a strike would have on the company.
The contingency plans include increased usage of airfreight transportation,
which will have a negative impact on the company's future earnings.
Because we purchase merchandise from foreign entities and use foreign
manufacturers on a contract basis for Sharper Image Design products and other
private label products, we are subject to risks resulting from fluctuations in
the economic conditions in foreign countries. The majority of our vendors and
manufacturers are located in various countries in Asia, and as a result, our
business may be particularly impacted by changes in the political, social,
legal, and economic conditions in these
20
countries. Additionally, weather and product transportation problems could
affect our ability to maintain adequate inventory levels and adversely affect
our future results.
We are subject to inquiries from regulatory agencies
In the normal course of business, our products are the subject of inquiries from
regulatory agencies. We cannot predict the occurrence or outcome of any such
inquiries and the outcome of such inquiry or review could have a material
adverse affect on sales and may reduce our profitability. Furthermore, our
success in developing Sharper Image Design proprietary products may increase
these inquiries, as we are solely responsible for handling regulatory compliance
issues with our proprietary products.
Our quarterly operating results are subject to significant fluctuations and
seasonality
Our business is seasonal, reflecting the general pattern of peak sales
and earnings for the retail industry during the Holiday shopping season.
Typically, a substantial portion of our total revenues and all or most of our
net earnings occur during our fourth quarter ending on January 31. During our
2001 and 2000 fiscal years, our total revenues for the fourth quarter ending
January 31 accounted for more than 40% of total revenues for the full fiscal
year. We cannot predict with certainty whether the fourth quarter of 2002 will
account for such a large percentage of our total revenues. In anticipation of
increased sales activity during the fourth quarter, we incur significant
additional expenses, including significantly higher inventory costs and the
costs of hiring a substantial number of temporary employees to supplement our
regular store staff. If for any reason our sales were to be substantially below
those normally expected during the fourth quarter, our annual operating results
would be adversely affected. Due to this seasonality, our operating results for
any one period may not be indicative of our operating results for the full
fiscal year.
We generally experience lower revenues and net operating results during
the other quarters and have historically and may continue to experience losses
in these quarters. Our quarterly results of operations may fluctuate
significantly as a result of a variety of factors, including, among other
things, the timing of new store openings, net sales contributed by new stores,
increases or decreases in comparable store sales, changes in our merchandise mix
and net catalog sales.
In addition, similar to other retailers, we typically make
merchandising and purchasing decisions well in advance of the Holiday shopping
season. As a result, poor economic conditions or differences from projected
customer demand for our products during the fourth quarter could result in lower
revenues and earnings.
Our vital computer and communications hardware and software systems are
vulnerable to damage and interruption which could harm our business
Our success, in particular our ability to successfully receive and
fulfill Internet orders and provide high-quality customer service, largely
depends upon the efficient and uninterrupted operation of our computer and
communications hardware and software systems. We use internally managed systems
for our Web site and some aspects of transaction processing, including customer
information and order verifications. Our systems and operations are vulnerable
to damage or interruption from earthquake, fire, flood and other natural
disasters, terrorist attacks, power loss, computer systems failures, Internet
and telecommunications or data network failure, operator negligence, improper
operation by or supervision of employees, physical and electronic loss of data
21
or security breaches, misappropriation and similar events, fluctuations and
failures in the business of Internet service providers on which we rely, and
computer viruses.
In addition, we maintain our servers at the site of a third party
located in Santa Clara, California. We cannot control the maintenance and
operation of this site, which is also susceptible to similar disasters and
problems. We also cannot control the business or operations of Internet service
providers, which are susceptible to failure as a result of industry-wide
business fluctuations. Because our strategies depend in part on maintaining our
reputation for superior levels of customer service, any system failure that
causes an interruption in our service or a decrease in responsiveness could harm
our relationships with our customers and result in reduced revenues.
We are dependent on the success of our advertising and marketing efforts
Our revenues depend in part on our ability to effectively market and
advertise our products through The Sharper Image catalog and other advertising
vehicles. Increases in advertising, paper or postage costs may limit our ability
to advertise without reducing our profitability. If we decrease our advertising
efforts due to increased advertising costs, restrictions placed by regulatory
agencies, or for any other reason, our future operating results may be
materially adversely affected. We are also utilizing and constantly testing
other advertising media, such as television infomercials, radio, and single
product mailings, and significantly increased our advertising expenditures in
fiscal 2001. While we believe that increased expenditures on these and other
media have resulted in increasing revenues during the first half of fiscal 2002,
we cannot assure you that this trend will continue in the future. We expect to
continue to spend on advertising and marketing at increased levels in the
future, but may not continue to produce a sufficient level of sales to cover
such expenditures, which would reduce our profitability.
We face risks associated with expansion of our store operations
We plan to continue to increase the number of The Sharper Image stores
in the future in order to grow our revenues. Our ability to expand will depend
in part on the following factors:
o the availability of attractive store locations;
o our ability to negotiate favorable lease terms;
o our ability to identify customer demand in different geographic areas;
o general economic conditions; and
o the availability of sufficient funds for expansion.
As we continue to expand, continue to become concentrated in limited
geographic areas. This could increase our exposure to customer demand, weather,
competition, distribution problems, and poor economic conditions in these
regions. In addition, our catalog sales, Internet sales, or existing store sales
in a specific region may decrease as a result of new store openings.
In order to continue our expansion, we will need to hire additional
management and staff for our corporate offices and employees for each new store.
We must also expand our management information systems and distribution systems
to serve these new stores. If we are unable to hire necessary personnel or grow
our existing systems, our expansion efforts may not succeed and our operations
may suffer.
22
Some of our expenses will increase with the opening of new stores. If
store sales are inadequate to support these new costs, our profitability will
decrease. For example, inventory costs will increase as we increase inventory
levels to supply additional stores. We may not be able to manage this increased
inventory without decreasing our profitability. We may need additional financing
in excess of our current credit facility, or an amendment to such facility.
Furthermore, our current credit facility has various loan covenants we must
comply with in order to maintain the credit facility. We cannot predict whether
we will be successful in obtaining additional funds or new credit facilities on
favorable terms or at all.
We rely on our catalog operations
Our success depends in part on the success of our catalog operations.
We believe that the success of our catalog operations depends on the following
factors:
o our ability to achieve adequate response rates to our mailings;
o our ability to continue to offer a merchandise mix that is attractive
to our mail order customers;
o our ability to cost-effectively add new customers;
o our ability to cost-effectively design and produce appealing catalogs;
and
o timely delivery of catalog mailings to our customers.
Catalog production and mailings entail substantial paper, postage,
merchandise acquisition and human resource costs, including costs associated
with catalog development and increased inventories. We incur nearly all of these
costs prior to the mailing of each catalog. As a result, we are not able to
adjust the costs being incurred in connection with a particular mailing to
reflect the actual performance of the catalog. If we were to experience a
significant shortfall in anticipated revenue from a particular mailing, and
thereby not recover the costs associated with that mailing, our future results
would be adversely affected. In addition, response rates to our mailings and, as
a result, revenues generated by each mailing are affected by factors such as
consumer preferences, economic conditions, the timing and mix of catalog
mailings, the timely delivery by the postal system of our catalog mailings and
changes in our merchandise mix, several or all of which may be outside our
control. Further, we have historically experienced fluctuations in the response
rates to our catalog mailings. If we are unable to accurately target the
appropriate segment of the consumer catalog market or to achieve adequate
response rates, we could experience lower sales, significant markdowns or
write-offs of inventory and lower margins, which would adversely affect our
future results. During the third quarter of fiscal 2001, we experienced delays
and non-delivery of several catalog mailings due to the post office closures and
mail interruptions that occurred after the September 11, 2001 terrorist attacks
which had a material negative impact on sales during this period.
Our catalog costs are unpredictable
Historically, a significant portion of our revenues has been generated
from purchases made by customers driven by The Sharper Image catalog. Increases
in the costs of producing and distributing the catalog may reduce the
profitability of our catalog, store and Internet sales. Specifically, we may
experience increases in postage, paper or shipping costs due to factors beyond
our control. As a result, our future results may be adversely affected.
Effective June 30, 2002, we have received an increase in postage rates for
fiscal 2002.
23
The terrorist attacks that took place in the United States on September 11,
2001, and the mail service interruption and post office closures that commenced
in September 2001 are unprecedented events that have created many economic and
political uncertainties, some of which may harm our business and prospects.
The terrorist attacks that took place in the United States on September
11, 2001 have adversely impacted many businesses, including ours, in multiple
ways. The national and global responses to these terrorist attacks and the mail
service interruption and post office closures, many of which are still being
formulated, may materially adversely affect us in ways we cannot predict at
present. Some of the possible material adverse impacts to our business from
these events include, but are not limited to:
o reduced activity in the retail industry;
o fears of or the occurrence of future terrorist attacks;
o possible delays in delivery of and failures to deliver our catalogs;
o increased postage expense for delivery of our catalogs; and
o increased insurance expenses.
We face certain risks relating to customer service
Our ability to provide customer service depends, to a large degree, on
the efficient and uninterrupted operation of our call centers, our contracting
services with third party call centers and our sharperimage.com Web site. Any
material disruption or slowdown in our order processing systems resulting from
labor disputes, telephone or Internet down times, electrical and service
outages, mechanical problems, human error or accidents, fire, earthquakes,
natural disasters, or other events could cause delays in our ability to receive
orders by telephone or over the Internet and distribute orders, and may cause
orders to be lost or to be shipped or delivered late. As a result, customers may
be unable to place orders, cancel orders or refuse to receive goods on account
of late shipments, which would result in a reduction of net sales and could mean
increased administrative and shipping costs. We cannot assure you that telephone
call volumes will not exceed our present telephone system capacity. If this
occurs, we could experience telephone answer delays and delays in placing
orders. Because our strategies depend in part on maintaining our reputation for
superior levels of customer service, any impairment of our customer service
reputation could have an adverse effect on our business.
We face risks associated with our distribution and fulfillment operations
We conduct the majority of our distribution operations and all of our
catalog and Internet order processing fulfillment functions from our owned
facility in Little Rock, Arkansas, a leased facility in Little Rock, Arkansas
and a leased facility in Ontario, California. We also use contract fulfillment
and warehouse facilities for additional seasonal requirements. Any disruption in
the operations at any distribution center, particularly during the Holiday
shopping season, could have a negative effect on our business.
In addition, we rely upon third party carriers for our product
shipments, including shipments to and from all of our stores. As a result, we
are subject to certain risks, including employee strikes and inclement weather,
associated with such carriers' ability to provide delivery services to meet our
shipping needs. We are also dependent on temporary employees to adequately staff
our distribution facility, particularly during busy periods such as the Holiday
shopping season. We cannot assure you
24
that we will continue to receive adequate assistance from our temporary
employees, or that we will continue to have access to sufficient sources of
temporary employees.
Results for our comparable store sales may fluctuate
Our comparable store sales are affected by a variety of factors,
including, among others:
o customer demand in different geographic regions;
o our ability to efficiently source and distribute products;
o changes in our product mix;
o effects of competition; and
o general economic conditions.
Our comparable store sales have fluctuated significantly in the past
and we believe that such fluctuations may continue. Our historic comparable
store net sales changes were as follows:
Percentage
Fiscal Year Increase (Decrease)
----------- -------------------
1999 12.3
2000 29.0
2001 (16.0)
2002 (First six months) 8.9
These historic results are not necessarily indicative of future
results, and we cannot assure you that our comparable store sales results will
not continue to increase in the future. Any reduction in or failure to increase
our comparable store sales results could impact our future operating performance
and cause the price of the common stock to fluctuate.
We experience intense competition in the rapidly changing retail markets
We operate in a highly competitive environment. We principally compete
with a variety of department stores, sporting goods stores, discount stores,
specialty retailers and other catalogs that offer products similar to or the
same as our products. We may increasingly compete with major Internet retailers.
Many of our competitors are larger companies with greater financial resources, a
wider selection of merchandise and greater inventory availability. If we
experience increased competition, our business and operating results could be
adversely affected.
The United States retail industry (the specialty retail industry in
particular) and e-commerce sector are dynamic in nature and have undergone
significant changes over the past several years. Our ability to anticipate and
successfully respond to continuing challenges is critical to our long-term
growth and we cannot assure you we will anticipate and successfully respond to
changes in the retail industry.
We may be subject to regulations regarding state sales and use tax on catalog
and Internet sales and other Internet regulation
Our business may be affected by the adoption of regulations or rules
governing the sale of our products, with regard to state sales and use taxes and
the regulation of the Internet. Because we have
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broad store presence, we are currently required to collect taxes for the
majority of our catalog and Internet transactions. However, any unfavorable
change in the state sales and use tax, which affects our catalog and Internet
sales, could adversely affect our business and results of operations. In
addition, the Internet at present is largely unregulated and we are unable to
predict whether significant regulations or taxes will be imposed on Internet
commerce in the near future. We are unable to predict how such regulations could
affect the further development of our Internet business.
Excessive merchandise returns could harm our business
As part of our customer service commitment, we maintain a liberal
merchandise return policy, which allows customers to return most merchandise. We
make allowances for returns of store, catalog and Internet sales in our
financial statements based on historical return rates. We cannot assure you that
actual merchandise returns will not exceed our allowances. In addition, because
our allowances are based on historical return rates, we cannot assure you that
the introduction of new merchandise in our stores or catalogs, the opening of
new stores, the introduction of new catalogs, increased sales over the Internet,
changes in the merchandise mix or other factors will not cause actual returns to
exceed return allowances. Any significant increase in merchandise returns that
exceed our allowances could adversely affect our future results.
We face certain litigation risks
We are party to lawsuits in the normal course of our business.
Litigation can be expensive, lengthy and disruptive to normal business
operations. Moreover, the results of legal proceedings are difficult to predict.
An unfavorable resolution of a particular lawsuit could have a material adverse
effect on our business, results of operations, or financial condition.
We may be subject to risks associated with our products, including product
liability or patent and trademark infringement claims
Our current and future products may contain defects, which could
subject us to product liability claims and product recalls. Although we maintain
limited product liability insurance, if any successful product liability claim
or product recall is not covered by or exceeds our insurance coverage, our
business, results of operation and financial condition would be harmed.
Additionally, third parties may assert claims against us alleging infringement,
misappropriation or other violations of patent, trademark or other proprietary
rights, whether or not such claims have merit. Such claims can be time consuming
and expensive to defend and could require us to cease using and selling the
allegedly infringing products, which may have a significant impact on total
company sales volume, and to incur significant litigation costs and expenses.
We depend on our key personnel
Our success depends to a significant extent upon the abilities of our
senior management, particularly Richard Thalheimer, our founder, Chairman and
Chief Executive Officer. The loss of the services of any of the members of our
senior management or of certain other key employees could have a significant
adverse effect on our business. We maintain key man life insurance on Mr.
Thalheimer in the amount of $15 million. In addition, our performance will
depend upon our ability to attract and retain qualified management,
merchandising and sales personnel. There can be no assurance that Mr. Thalheimer
and the other members of our existing management team will be able to manage our
26
company or our growth or that we will be able to attract and hire additional
qualified personnel as needed in the future.
We are controlled by a single shareholder
As of September 11, 2002, Richard Thalheimer beneficially owned
approximately 34% of all of the outstanding shares of the common stock of the
Company. As a result, Mr. Thalheimer will continue to exert substantial
influence over the election of directors and over our corporate actions.
Our common stock price is volatile
Our common stock is quoted on the NASDAQ National Market, which has
experienced and is likely to experience in the future significant price and
volume fluctuations, which could reduce the market price of our common stock
without regard to our operating performance. We believe that among other
factors, any of the following factors could cause the price of the common stock
to fluctuate substantially:
o quarterly fluctuations in our comparable store sales;
o announcements by other accessory and gift item retailers;
o the trading volume of our common stock in the public market;
o general economic conditions;
o financial market conditions;
o acts of terrorism; and
o threats of war.
Our charter documents, Delaware law, our stockholders rights and other
agreements may make a takeover more difficult
We are a Delaware corporation. The Delaware General Corporation Law
contains certain provisions that may make a change in control of our company
more difficult or prevent the removal of incumbent directors. In addition, our
Certificate of Incorporation and Bylaws and our stockholders rights and other
agreements contain provisions that may have the same effect. These provisions
may have a negative impact on the price of our common stock, may discourage
third-party bidders from making a bid for our company or may reduce any premiums
paid to stockholders for their common stock.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company is exposed to market risks, which include changes in interest rates
and, to a lesser extent, foreign exchange rates. The Company does not engage in
financial transactions for trading or speculative purposes.
The interest payable on the Company's credit facility is based on variable
interest rates and therefore affected by changes in market interest rates. If
interest rates on existing variable debt rose 0.48% (10% from the bank's
reference rate) during the three or six-month periods ending July 31, 2002, the
Company's results from operations and cash flows would not have been materially
affected. In addition, the Company has fixed and variable income investments
consisting of cash equivalents and short-term investments, which are also
affected by changes in market interest rates. The Company does not use
derivative financial instruments in its investment portfolio.
The Company enters into a significant amount of purchase obligations outside of
the U.S. that are settled in U. S. dollars, and therefore, has only minimal
exposure to foreign currency exchange risks. The Company does not hedge against
foreign currency risks and believes that foreign currency exchange risk is
immaterial.
ITEM 4. CONTROLS AND PROCEDURES
Not applicable.
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PART II
OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
The Company's 2002 Annual Meeting of Stockholders (the Annual Meeting) was held
on June 3, 2002.
The following matters were voted on by the stockholders:
1. Election of five Directors. Messrs. Richard J. Thalheimer,
Alan Thalheimer, Gerald Napier, Morton David, and George James were
elected to the Company's Board of Directors. The results of the voting
were as follows: 10,256,102 votes in favor of Richard J. Thalheimer,
with 992,657 votes withheld; 11,215,339 votes in favor of Alan
Thalheimer, with 33,420 votes withheld; 11,229,130 votes in favor of
Gerald Napier, with 19,629 votes withheld; 11,230,599 votes in favor of
Morton David, with 18,160 votes withheld; and 11,229,605 votes in favor
of George James, with 19,154 votes withheld.
2. Ratification of selection of Deloitte & Touche LLP as
independent public accountants for the Company for the fiscal year
ending January 31, 2003. The result of the vote was 11,229,899 in
favor, 17,820 against, and 1,040 abstaining.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3.1 Certificate of Incorporation. (Incorporated by reference to Exhibit 3.1
to Registration Statement on Form S-1 (Registration No. 33-12755).)
3.2 Bylaws. (Incorporated by reference to Exhibit 3.2 to Registration
Statement on Form S-1 (Registration No. 33-12755).)
3.3 Form of Certificate of Designation of Series A Junior participating
Preferred Stock. (Incorporated by reference to Exhibit 3.01 to
Amendment No. 2 to the Registration Statement on Form S-2.)
4.1 Form of Rights Certificate. (Incorporated by reference to Exhibit 4.01
to Amendment No. 2 to the Registration Statement on Form S-2.)
4.2 Form of Rights Agreement dated June 7, 1999. (Incorporated by reference
to Exhibit 4.02 to Amendment No. 2 to the Registration Statement on
Form S-2.)
15.0 Letter Re: Unaudited Interim Financial Information.
99.1 Certification Pursuant To Section 906 Of The Sarbanes-Oxley Act of
2002, Chief Executive Officer.
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99.2 Certification Pursuant To Section 906 Of The Sarbanes-Oxley Act of
2002, Chief Financial Officer.
(b) Reports on Form 8-K
The Company has not filed any reports on Form 8-K for the three months
ended July 31, 2002.
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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.
SHARPER IMAGE CORPORATION
Date: September 16, 2002 by:/s/ Tracy Y. Wan
-----------------
Tracy Y. Wan
President
Chief Operating Officer
by:/s/ Jeffrey P. Forgan
----------------------
Jeffrey P. Forgan
Executive Vice President
Chief Financial Officer
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CERTIFICATIONS
I, Richard Thalheimer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Sharper
Image Corporation;
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; and
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.
Date: September 16, 2002
By:/s/ Richard Thalheimer
-----------------------
Chief Executive Officer
I, Jeffrey P. Forgan, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Sharper
Image Corporation;
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; and
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.
Date: September 16, 2002
By:/s/ Jeffrey P. Forgan
----------------------
Chief Financial Officer
32