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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 April 30, 2003 or
|_| Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from
__________________________to
Commission File Number: 0-15827
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 by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
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, 14,907,146 shares as of June 11, 2003
1
SHARPER IMAGE CORPORATION
FORM 10-Q
For the Quarter Ended April 30, 2003
INDEX
PART I. FINANCIAL INFORMATION Page
ITEM 1. Condensed Financial Statements (unaudited)
Balance Sheets as of April 30, 2003,
January 31, 2003 and April 30, 2002 (as restated) 3
Statements of Operations
for the three months ended April 30, 2003 and 2002 (as restated) 4
Statements of Cash Flows
for the three months ended April 30, 2003 and 2002 (as restated) 5
Notes to Condensed Financial Statements 6-9
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10-24
ITEM 3. Quantitative and Qualitative Disclosure about Market Risk 25
ITEM 4. Controls and Procedures 25
PART II. OTHER INFORMATION
ITEM 6. Exhibits and Reports on Form 8-K 26-28
SIGNATURE PAGE 29
CERTIFICATIONS 30-33
2
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SHARPER IMAGE CORPORATION
CONDENSED BALANCE SHEETS
(Unaudited)
April 30, January 31, April 30,
2003 2003 2002
Dollars in thousands, except per share amounts (Note A) As Restated (Note F)
---------- -------- --------------------
ASSETS
Current Assets:
Cash and equivalents $ 36,012 $ 55,633 $ 32,459
Accounts receivable, net of allowance for doubtful
accounts of $905, $967 and $1,043 13,469 12,597 8,677
Merchandise inventories 77,262 74,756 60,371
Prepaid catalog costs 3,365 1,869 3,608
Prepaid expenses, deferred taxes and other 17,012 13,658 10,366
---------- ---------- -----------
Total Current Assets 147,120 158,513 115,481
Property and equipment, net 52,836 52,165 45,818
Deferred taxes and other assets 4,636 3,749 4,478
---------- ---------- -----------
Total Assets $ 204,592 $ 214,427 $ 165,777
========== ========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 20,465 $ 26,597 $ 19,453
Accrued expenses 16,847 14,996 15,187
Accrued compensation 4,810 8,614 4,158
Reserve for refunds 12,737 12,498 5,638
Deferred revenue 21,235 19,113 17,875
Income taxes payable 474 6,472 -
Current portion of notes payable - - 177
---------- ---------- -----------
Total Current Liabilities 76,568 88,290 62,488
Notes payable - - 1,987
Other liabilities 9,707 8,753 5,810
Commitments and Contingencies - - -
---------- ---------- -----------
Total Liabilities 86,275 97,043 70,285
---------- ---------- -----------
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
12,669,585, 12,638,952 and 12,145,553 shares 127 126 121
Additional paid-in capital 50,204 49,950 43,821
Retained earnings 67,986 67,308 51,550
---------- ---------- -----------
Total Stockholders' Equity 118,317 117,384 95,492
---------- ---------- -----------
Total Liabilities and Stockholders' Equity $ 204,592 $ 214,427 $ 165,777
========== ========== ===========
See notes to condensed financial statements.
3
SHARPER IMAGE CORPORATION
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended
Dollars in thousands, except per share amounts April 30,
---------
2003 2002
---- ----
As restated
(Note F)
REVENUES:
Net Sales $ 117,017 $ 91,572
Delivery 2,735 2,282
List rental and licensing 46 232
----------- -----------
119,798 94,086
----------- -----------
COST AND EXPENSES:
Cost of products 51,106 39,695
Buying and occupancy 13,021 10,989
Advertising 25,565 20,193
General, selling and administrative 28,900 23,040
----------- -----------
118,592 93,917
----------- -----------
OTHER INCOME AND EXPENSE:
Interest income 99 153
Interest expense (51) (66)
Other income - 99
Other expense (105) (102)
----------- -----------
(57) 84
----------- -----------
Earnings Before Income Tax Expense 1,149 253
Income tax expense 471 104
----------- -----------
Net Earnings $ 678 $ 149
=========== ===========
Net Earnings Per Share-basic $ 0.05 $ 0.01
=========== ===========
Net Earnings Per Share-diluted $ 0.05 $ 0.01
=========== ===========
Weighted Average Number of Shares - basic 12,653,000 12,052,000
Weighted Average Number of Shares - diluted 13,300,000 12,897,000
See notes to condensed financial statements.
4
SHARPER IMAGE CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
April 30,
---------
Dollars in thousands 2003 2002
---- ----
As restated
(Note F)
Cash was Used for Operating Activities:
Net earnings $ 678 $ 149
Adjustments to reconcile net earnings to net cash
used for operating activities:
Depreciation and amortization 4,216 3,514
Tax benefit from stock option exercises 117 696
Deferred rent expenses and landlord allowances 121 72
Loss on disposal of equipment 97 19
Deferred income taxes 719 545
Change in operating assets and liabilities:
Accounts receivable (872) (579)
Merchandise inventories (2,506) (9,690)
Prepaid catalog costs (1,496) 3,472
Prepaid expenses and other assets (4,246) (3,518)
Accounts payable (6,132) 2,942
Accrued expenses and reserve for refunds (1,714) (278)
Deferred revenue and other liabilities 2,241 (445)
Income taxes payable (5,998) (523)
----------- ----------
Cash Used for Operating Activities (14,775) (4,320)
----------- ----------
Cash was Used for Investing Activities:
Property and equipment expenditures (4,984) (4,835)
----------- ----------
Cash Used for Investing Activities (4,984) (4,835)
----------- ----------
Cash was Provided by Financing Activities:
Proceeds from issuance of common stock, including
stock options exercised 138 544
Principal payments on notes payable and revolving credit facility - (43)
----------- ----------
Cash Provided by Financing Activities 138 1,197
----------- ----------
Net Decrease in Cash and Equivalents (19,621) (7,958)
----------- ----------
Cash and Equivalents at Beginning of Period 55,633 40,417
----------- ----------
Cash and Equivalents at End of Period $ 36,012 $ 32,459
=========== ==========
Supplemental Disclosure of Cash Paid for:
Interest $ 52 $ 68
Income Taxes $ 9,245 $ 506
See notes to condensed financial statements.
5
SHARPER IMAGE CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
Three-month periods ended April 30, 2003 and 2002
(Unaudited)
NOTE A - Financial Statements
The condensed balance sheets at April 30, 2003 and 2002 (as restated), and the
related condensed statements of operations and cash flows for the three-month
periods ended April 30, 2003 and 2002 (as restated) have been prepared by
Sharper Image Corporation (the "Company"), without audit. In the opinion of
management, the condensed financial statements include all adjustments (which
include only normal recurring adjustments) necessary to present fairly the
financial position, results of operations and cash flows as of April 30, 2003
and 2002, and for the three-month periods then ended. The balance sheet at
January 31, 2003, presented herein, has been derived from the audited balance
sheet of the Company.
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 2002 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 occur 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 these interim periods are not necessarily
indicative of the results for the full fiscal year.
NOTE B - Employee Stock Compensation
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock-Based Compensation", establishes a fair value method of accounting for
stock options and other equity instruments. SFAS No. 123 requires the disclosure
of pro forma income and earnings per share as if the Company had adopted the
fair value method. For determining pro forma earnings per share, the fair value
of the stock options and employees' purchase rights were estimated using the
Black-Scholes option pricing model. The Company's calculations are based on a
multiple option approach and forfeitures are recognized as they occur. Had
compensation cost for these stock option and stock purchase plans been
determined based on the fair value at the grant dates for awards under those
plans consistent with the methods of SFAS No. 123, the Company's net earnings
(loss) and net earnings (loss) per share would have been reduced to the pro
forma amounts indicated below:
6
Three Months Ended April 30,
----------------------------
2003 2002
---- ----
Net earnings, as reported $678,000 $149,000
Deduct: Total stock-based employee compensation
expense determined under fair value based method for
all awards, net of related tax effect 367,000 421,000
Pro forma net earnings (loss) $311,000 $(272,000)
Basic net earnings (loss) per weighted average share:
As reported $ 0.05 $ 0.01
Pro forma $ 0.02 $ (0.02)
Diluted net earnings (loss) per weighted average share:
As reported $ 0.05 $ 0.01
Pro forma $ 0.02 $ (0.02)
NOTE C - Earnings 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
April 30,
---------
2003 2002
---- ----
Net earnings $ 678,000 $ 149,000
Average shares of common stock
outstanding during the period 12,653,000 12,052,000
============ ===========
Basic Earnings per Share $ 0.05 $ 0.01
============ ===========
Average shares of common stock
outstanding during the period 12,653,000 12,052,000
Add:
Assumed options exercised due to
exercise price being less than average
market price net of assumed stock repurchases 647,000 845,000
------------ -----------
Diluted weighted average number
of shares outstanding 13,300,000 12,897,000
============ ===========
Diluted Earnings per Share $ 0.05 $ 0.01
============ ===========
7
NOTE D- Revolving Loan and Notes Payable
The Company has a revolving secured credit facility with The CIT Group/Business
Credit, Inc. (CIT) with an expiration date of September 2004. The credit
facility allows 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 of 0.0% to 0.5% or at LIBOR plus a margin of 1.5% to 2.25%,
which margins are based on the Company's financial performance. The credit
facility limited the Company's capital expenditures to $12.5 million for fiscal
2003, with the ability to carry forward one-half of any unused portion to the
following year and requires it to maintain an interest coverage ratio of not
less than 2.5. The credit facility contains certain financial covenants
pertaining to net worth and contains limitations on operating leases, other
borrowings, dividend payments and stock repurchases. At April 30, 2003, there
were no amounts outstanding on the Company's revolving credit facility. As of
April 30, 2003, letter of credit commitments outstanding under the credit
facility were $2.9 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 of
0.5% to 1.0% or at LIBOR plus a margin plus a margin of 2.5% to 3.0% which
margins are based on our financial performance. Each Term Loan is to be repaid
in 36 equal monthly principal installments. As of April 30, 2003, there were no
borrowings on this facility.
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 2002 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
April 30,
Dollars in thousands 2003 2002
---- ----
Revenues:
Stores $ 65,785 $ 50,026
Catalog and Direct Marketing 32,860 28,510
Internet 16,904 11,932
Other 4,249 3,618
----------- ----------
Total Revenues $ 119,798 $ 94,086
----------- ----------
Operating Contributions:
Stores $ 4,282 $ 3,205
Catalog and Direct Marketing 5,889 4,043
Internet 2,389 2,164
Unallocated (11,411) (9,159)
----------- ----------
Earnings Before Income Tax Expense $ 1,149 $ 253
----------- ----------
8
NOTE F - Restatement
Subsequent to the issuance of the Company's financial statements as of and
for the quarter ended April 30, 2002, the Company's management determined that
three errors existed in previously issued financial statements. First, for its
sales on direct marketing shipments, revenues were adjusted to reflect the
adoption of SAB 101, "Revenue Recognition in Financial Statements," in the first
quarter of fiscal 2000. As such, revenues were adjusted to reflect recognition
at the time of customer receipt versus time of shipment. Second, costs paid for
package design costs, which had been capitalized and recognized over a two-year
period, were corrected to be expensed as incurred. Finally, the method for
calculating diluted weighted average shares oustanding in the earnings per share
calculation was corrected to include the reduction in shares outstanding
resulting from the anticipated repurchases of stock using proceeds of future
income tax benefits associated with unexercised stock options. As a result, the
accompanying financial statements have been restated from the amounts previously
reported. A summary of the effects of the restatement is as follows:
Dollars in thousands As of April 30, 2002
--------------------
As Previously Reported As Restated
---------------------- -----------
Property and equipment, net $46,191 $45,818
Prepaid expenses, deferred taxes and
others 10,224 10,366
Retained earnings 51,781 51,550
Total stockholders' equity 95,723 95,492
Dollars in thousands, except per share amounts Three Months Ended April 30, 2002
---------------------------------
As Previously Reported As Restated
---------------------- -----------
Revenues $ 92,836 $ 94,086
Cost of products 39,165 39,695
General, selling and administrative 23,013 23,040
Earnings (loss) before income tax expense (benefit) (440) 253
Income tax expense (benefit) (180) 104
Net earnings (loss) (260) 149
Basic earnings (loss) per common equivalent share $ (0.02) $ 0.01
======== =======
Diluted earnings (loss) per common equivalent share $ (0.02) $ 0.01
======== =======
NOTE G - Subsequent Event
On May 7, 2003, the Company and certain selling stockholders affiliated with
Richard Thalheimer completed a public offering of the Company's common stock. Of
the 2.5 million shares of common stock sold in the offering, the Company sold
1.9 million shares at a price to the public of $19.50. On May 13, 2003, the
Company and the selling stockholders closed the sale of an additional 312,400
shares of common stock subject to the underwriters' over-allotment option. Of
these shares, the Company sold 237,424 shares. The Company received proceeds
from the public offering of $39.4 million, net of underwriters discounts and
offering expenses.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
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 report on Form 10-K as
filed with the Securities and Exchange Commission. The statements contained in
this Form 10-Q that are not purely historical are forward-looking statements
within the meaning of the federal securities laws. Such forward-looking
statements may include but are not limited to statements regarding our future
products and enhancements, 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 Form 10-Q.
Additionally, statements concerning future matters such as the development of
new products or enhancements, possible changes in legislation and other
statements regarding matters that are not historical are forward-looking
statements. All forward-looking statements in this Form 10-Q are based upon
information available to us as of the date hereof, and we assume no obligation
to revise or update any such forward-looking statements in order to reflect any
event or circumstance that may arise after the date of this Form 10-Q. Actual
results could differ materially from our current expectations. Factors that
could cause or contribute to such differences include, but are not limited to
those set forth under "Factors Affecting Future Operating Results" below in this
Quarterly Report, and elsewhere in this Quarterly Report.
10
The discussion and analysis gives effect to the restatement of previously issued
financial statements. See Note F to the condensed financial statements for
further discussion.
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
April 30,
---------
Percentage of Total Revenues 2003 2002
---- ----
Revenues:
Net store sales 54.9% 53.2%
Net catalog and direct marketing sales 27.5 30.3
Net Internet sales 14.1 12.7
Net wholesale sales 1.2 1.2
List rental and licensing 0.0 0.2
Delivery 2.3 2.4
----- -----
Total Revenues 100.0% 100.0%
Costs and Expenses:
Cost of products 42.7 42.2
Buying and occupancy 10.9 11.7
Advertising 21.3 21.4
General, selling and administrative 24.1 24.5
Other income (expense) - 0.1
----- -----
Earnings before income tax expense 1.0 0.3
Income tax expense 0.4 0.1
----- -----
Net Earnings 0.6% 0.2%
===== =====
The following table sets forth the components of total revenues for the periods
indicated.
Three Months Ended
April 30,
---------
2003 2002
---- ----
Revenues (dollars in thousands)
Net store sales $ 65,785 $ 50,026
Net catalog and direct marketing sales 32,860 28,510
Net Internet sales 16,904 11,932
Net wholesale sales 1,468 1,104
--------- ---------
Total Net Sales 117,017 91,572
List rental and licensing 46 232
Delivery 2,735 2,282
--------- ---------
Total Revenues $ 119,798 $ 94,086
========== ==========
11
Revenues
Net sales for the three-month period ended April 30, 2003 increased $25.4
million, or 27.8%, from the comparable three-month period of the prior year.
Returns and allowances for the three-month period ended April 30, 2003, were
11.1% of sales, same as the comparable prior year period. The increase in net
sales for the three-month period ended April 30, 2003 compared to the same
period last year was primarily attributable to increases in net sales from
stores of $15.8 million; catalog and direct marketing of $4.3 million; and
Internet operations of $5.0 million.
The increase in total revenues for the first quarter of fiscal 2003, as compared
to the first quarter of fiscal 2002 was due primarily to the popularity of our
Sharper Image Design proprietary products and Sharper Image brand products,
which continues to be a key factor in the increases in net sales in all selling
channels. Sharper Image Design proprietary products and private label products
increased from approximately 78% of net sales in the first quarter of fiscal
2002 to approximately 80% in the first quarter of fiscal 2003. We believe that
the continued development and introduction of new and popular products is a key
strategic objective and important to our future success. Also contributing to
the increase in total revenues was a comparable store sales increase of 18.6%
and the opening of 16 new stores since the first quarter of fiscal 2002. We
believe the increased investment in our advertising initiatives in fiscal 2002
and the first quarter of fiscal 2003, including the significant increase in
television infomercial advertising and single product mailers highlighting
primarily selected Sharper Image Design products, contributed to the higher
revenues in all selling channels.
For the three-month period ended April 30, 2003, as compared with the same
period last year, net store sales increased $15.8 million, or 31.5% while
comparable store sales increased by 18.6%. The increase in net store sales for
the three-month period ended April 30, 2003 was primarily attributable to the
popularity of Sharper Image Design proprietary and Sharper Image brand products,
the increased television infomercial advertising and the opening of 16 new
stores, partially offset by the closing of two stores at lease maturity since
April 30, 2002. The increase in net store sales for the three-month period ended
April 30, 2003 as compared with the same prior year period reflects a 11.2%
increase in average revenue per transaction and a 20.2% increase in total store
transactions.
Comparable store sales is not a measure that has been defined under generally
accepted accounting principles. We define comparable store sales as sales from
stores where selling square feet did not change by more than 15% in the previous
12 months and which have been open for at least 12 months. Stores generally
become comparable once they have 24 months of comparable sales for our annual
calculation. We believe that comparable store sales, which excludes the effect
of a change in the number of stores open, provides a more useful measure of the
performance of our store sales channel than does the absolute change in
aggregate net store sales.
For the three-month period ended April 30, 2003, net catalog and direct
marketing sales, which includes sales generated from catalog mailings, single
product mailers, print advertising and television infomercials, increased $4.3
million, or 15.3%, as compared with the same period last year. The net sales
increase from these direct marketing activities was due primarily to a 22.6%
increase in catalog circulation, 25.0% increase in pages circulated, a 14.5%
increase in television infomercial advertising highlighting selected Sharper
Image Design products and a 180.3% in single product mailers circulated, as
compared with the same prior year period. The increase in net catalog and direct
marketing sales for the first quarter of fiscal 2003 reflects a 22.9% increase
in transactions, partially offset by a decrease of 4.8% in average revenue per
transaction as compared with the same prior year period.
For the three-month period ended April 30, 2003, Internet sales from our
sharperimage.com Web site, which includes the Sharper Image auction site,
increased $5.0 million, or 41.7% from the same period last year. This increase
was attributable to a 33.5% increase in advertising, a 1.8% increase in average
revenue per transaction and an increase of 42.2% in transactions as compared to
the same quarter last year. Excluding auction sales, Internet sales increased
47.1%, transactions increased 39.0%, and average revenue per transaction
increased 5.8%
12
for the first quarter of fiscal 2003. 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.
Average revenue per transaction is calculated by dividing the amount of gross
sales, exclusive of delivery revenue and sales taxes, per channel by the gross
number of transactions in that channel.
Cost of Products
Cost of products for the three-month period ended April 30, 2003 increased $11.4
million, or 28.8%, from the comparable prior year period. The increase in cost
of products is due to the higher sales volume compared to the same period last
year which was partially offset by the lower relative cost of products for our
Sharper Image Design proprietary and Sharper Image brand products. The gross
margin rate for the first quarter of fiscal 2003 was 57.3%, compared to 57.7% in
the same period of the prior year. The decrease in the gross margin rate was
primarily due to delivery expense in excess of delivery income collected.
Delivery expense was higher due to, the increase in single product mailers,
which offer free shipping when an order is placed, the free three-day shipping
on the delivery of our selection of massage chairs, and additional delivery
charges incurred when shipping product from our existing distribution centers to
the East Coast. Sharper Image Design proprietary products and Sharper Image
brand products as a percentage of total revenues increased to approximately 80%
in first quarter of fiscal 2003 as compared to approximately 78% in the first
quarter of fiscal 2002.
Our gross margin rate fluctuates with the changes in our merchandise mix,
primarily Sharper Image Design proprietary and Sharper Image brand products,
which changes as we make new items available in various categories or introduce
new proprietary products. The variation in merchandise mix from category to
category from year to year is characteristic of our sales results being driven
by individual products rather than by general lines of merchandise.
Additionally, the auction sites and other selected promotional activities, such
as free shipping offers, will, in part, tend to offset the rate of increase in
our gross margin rate. Our gross margins may not be comparable to those of other
retailers, since some retailers include the costs related to their distribution
network in cost of products while we, and other retailers, exclude them from
gross margin and include them instead in general, selling and administrative
expenses. We cannot accurately predict future gross margin rates, although our
goal is to continue to increase sales of Sharper Image Design proprietary and
Sharper Image brand products to capitalize on the higher margins realized on
these products.
Buying and Occupancy
Buying and occupancy costs for the three-month period ended April 30, 2003
increased $2.0 million, or 18.5%, from the comparable prior year period. The
increase reflects the occupancy costs associated with the 16 new stores opened
since April 30, 2002 and rent increases associated with lease renewals,
partially offset by the occupancy costs of the two Sharper Image stores closed
at lease maturity since April 30, 2002. Buying and occupancy costs as a
percentage of total revenues decreased to 10.9% for the first quarter of 2003
from 11.7% for the first quarter of 2002. Our goal is to continue to grow the
number of new stores by 15%-20% on an annual basis, but we cannot assure you we
will achieve this goal.
Advertising
Advertising for the three-month period ended April 30, 2003 increased $5.4
million, or 26.6%, from the comparable prior year period. The increase in
advertising was primarily attributable to a 14.5% increase in television
infomercial advertising, a 22.6% increase in the number of Sharper Image
catalogs mailed, a 25.0% increase in catalog pages circulated, a 180.3% in the
number of single product mailers circulated and a 33.5% increase in internet
advertising (primarily revenue share programs). Additionally, we continued our
other multimedia advertising initiatives, which included radio and newspaper
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. Advertising expenses as a percentage of total revenues decreased to
21.3% in the first quarter of fiscal 2003 from 21.5% in the first quarter of
fiscal 2002. Although there is usually a declining marginal benefit obtained by
increasing advertising
13
expenditures, we monitor the effectiveness of our advertising in order to
achieve a reasonable return on our investment in advertising.
During the first quarter ended April 30, 2003, we increased the circulation of
our single product mailer, which highlights our most popular Sharper image
Design products. We believe that the single product mailer will continue to
extend our brand name by prospecting future Sharper Image customers at a reduced
cost in comparison to mailing a Sharper Image catalog. We also increased our
television media spending on infomercials highlighting selected Sharper Image
Design products and expanded our multimedia advertising initiatives of direct
marketing, radio and newspaper.
We believe that the expansion of our multimedia advertising initiatives
contributed to the sales increases for the first fiscal quarter of 2003 and will
continue be an important factor in our future revenue growth. As a result,
advertising expenses are anticipated to be higher in fiscal 2003 than in fiscal
2002.
General, Selling and Administrative Expenses
General, selling and administrative (GS&A) expenses for the three-month period
ended April 30, 2003 increased $5.9 million, or 25.4%, from the comparable prior
year period. Contributing to the increase was $1.2 million due primarily to
variable expenses from increased sales and selling expenses related to the 16
new stores opened since April 30, 2002, partially offset by the reduced selling
expenses of two stores closed at lease maturity since April 30, 2002. Also
contributing to the increase was $0.6 million related to technological system
enhancements made in our operational areas, $0.4 million due to increases in
health benefits and company-wide insurance premiums and $0.4 million for
distribution shipping costs incurred for product delivery to our stores. GS&A
expenses for the first quarter of fiscal 2003 decreased as a percentage of total
revenues to 24.1% from 24.5% in the first quarter of fiscal 2002.
Other Income and Expense
The decrease in interest income is primarily due to a reduction in the interest
rate earned on invested balances. The increase in other expense relates to an
increase in loss on the disposal of assets.
Liquidity and Capital Resources
We met our short-term liquidity needs and our capital requirements in the
three-month period ended April 30, 2003 with cash generated by operations, trade
credit and existing cash balances.
Net cash used for operating activities totaled $14.8 million for the first
quarter of fiscal 2003, an increase of $10.5 million from the first quarter of
fiscal 2002. The increase in net cash used for operating activities is primarily
due to an increase in vendor and tax payments.
Net cash used in investing activities, primarily capital expenditures for new
stores, tooling costs for proprietary products and technological upgrades to our
operational infrastructure, totaled $5.0 million in the first quarter of fiscal
2003 compared to $4.8 million in the same period of fiscal 2002. During the
first quarter of fiscal 2003, we opened one new store and closed one store at
its lease maturity.
Net cash provided by financing activities totaled $0.1 million during the first
quarter ended April 30, 2003, which was the result of $0.1 million in proceeds
from the issuance of common stock in connection with our stock option plan.
We have a revolving secured 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 of 0.0%-0.5% or at LIBOR plus a margin of 1.5% to 2.25%, which margins
are based on our financial performance. The
14
credit facility limited our capital expenditures to $12.5 million for fiscal
2003, with the ability to carry forward one-half of any unused portion to the
following year and requires us to maintain an interest coverage ratio of not
less than 2.5. The credit facility contains certain financial covenants
pertaining to net worth and contains limitations on operating leases, other
borrowings, dividend payments and stock repurchases. At April 30, 2003, we had
no amounts outstanding on our revolving credit facility. As of April 30, 2003,
letter of credit commitments outstanding under the credit facility were $2.9
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 of
0.5% to 1.0% or at LIBOR plus a margin plus a margin of 2.5% to 3.0% which
margins are based on our financial performance. Each Term Loan is to be repaid
in 36 equal monthly principal installments. As of April 30, 2003, there were no
borrowings on this facility.
During the three-month period ended April 30, 2003, we opened one new store
located at The Shoppes at Grande Prairie in Peoria, Illinois. We closed one
store at lease maturity. For the remainder of fiscal 2003, we are on plan to
achieve our goal of a 15%-20% growth in the number of new stores opened and to
remodel approximately 5-8 stores at lease maturity. Total capital expenditures
are estimated to be approximately $25 million to $30 million for fiscal 2003.
On May 7, 2003, we and certain selling stockholders affiliated with Richard
Thalheimer completed a public offering of our common stock. Of the 2.5 million
shares of common stock sold in the offering, we sold 1.9 million shares at a
price to the public of $19.50. On May 13, 2003, we and the selling stockholders
closed the sale of an additional 312,400 shares of common stock subject of the
underwriters' over-allotment option. Of these shares, we sold 237,424 shares. We
received proceeds from the public offering of $39.4 million, net of underwriters
discounts and offering expenses. We intend to use the proceeds for working
capital and general corporate purposes, including expanding the number of our
stores, remodeling existing stores, increasing our distribution capabilities and
strengthening our information technology infrastructure.
We believe we will be able to fund our cash needs for the remainder of fiscal
2003 and fiscal 2004 through existing cash balances, cash generated from
operations, trade credit, and the cash generated from the proceeds of our
follow-on stock offering.
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. This report (including without limitation the following Factors
Affecting Future Operating Results) 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
15
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. Although forward-looking statements
in this report reflect the good faith judgment of our management, such
statements can only be based on facts and factors we currently know about.
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 discussed below and in "Management's Discussion
and Analysis of Financial Condition and Results of Operations" 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.
If we fail to continuously offer new merchandise that our customers find
attractive, the demand for our products may be limited.
In order to meet our strategic goals, we must successfully offer our
customers new, innovative and high quality products on a continuous basis. 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. Some products or a group of related products can
produce sales volumes that are significant to our total sales volume in a
particular period.
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.
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 we do not maintain sufficient inventory levels, or if we are unable to
deliver our products to our customers in sufficient quantities, our
operating results will be adversely affected.
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 the peak holiday selling seasons. If we fail to achieve
these goals, we may be unable to meet customer demand, and our future results
will 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.
A substantial portion of our sales during any given period of time may be
generated by a particular product or line of products and if sales of
those products or line of products decrease, our stock price may be
adversely affected.
During fiscal 2002, the sales of our air purification line of products
constituted a substantial portion of our total revenues. Although not as
substantial, the sales from our home and portable stereo system and massage
product lines constituted a significant portion of our total revenues. We
believe that sales from these product lines will continue to constitute a
substantial portion of our sales during fiscal 2003, although we cannot assure
you that sales of these product lines will continue to increase or will continue
at this level.
16
Our future growth will be substantially dependent on the continued
increase in sales 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 reduce consumer spending on discretionary retail
products such as the ones we offer.
Consumer spending patterns, particularly discretionary spending for
products such as ours, are affected by, among other things, prevailing economic
conditions, stock market volatility, threats of war, acts of terrorism, wage
rates, interest rates, inflation, taxation, consumer confidence and consumer
perception of economic conditions. General economic, political and market
conditions, such as recessions, may adversely affect our business results and
the market price of our common stock. The terrorist attacks on New York City and
Washington, D.C. on September 11, 2001, had a negative effect on an already
slowing economy and on consumer confidence. Our business has been and could
continue to be negatively affected by the poor economic conditions which
negatively impact the retail industry 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. 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 internally design and develop our
Sharper Image Design products.
We have invested significant resources in and are increasingly
dependent on the success of the Sharper Image Design products that we design and
develop. These products have typically generated higher gross margins than other
products and our merchandising strategy emphasizes these products. 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 volumes that are significant to our total sales volume in a particular
period. In order to be successful, we must continue to design and develop
products that meet the demands of our customers, as well as create customer
demand for these products. If we are unable to successfully design and develop
these products, our operating results may be adversely affected.
We rely on foreign sources of production and our business would be adversely
affected if our suppliers are not able to meet our demand and
alternative sources are not available.
We must ensure that the products we design and develop are
manufactured cost-effectively. We rely solely on a select group of contract
manufacturers, most of whom 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 trade restrictions,
local business practice and political issues, including issues relating to
compliance with domestic or international labor standards, currency
fluctuations, work stoppages, economic uncertainties, including inflation and
government regulations, and other uncertainties. If we are unable to
successfully 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
24% of the net merchandise purchases in fiscal 2002 and is expected to provide a
comparable percentage in the future. 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.
17
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 compete with many other companies for production facilities and
import quota capacity. 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.
We depend on our vendors' ability to timely deliver sufficient quantities of
products and our business can be harmed by work stoppages or other
interruptions to delivery of products.
All products we purchase from our 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 on a timely basis and 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.
Our ability to protect our proprietary technology, which is vital to our
business, particularly our air purification products, is uncertain and
our inability to protect these rights could impair our competitive
advantage and cause us to incur substantial expense to enforce our
rights.
Our success, competitive position and amount of potential future
income will depend in part on our ability to obtain patent protection relating
to the technologies and products we are currently developing and that we may
develop in the future. Our policy is to seek patent protection and enforce the
intellectual property rights we own and license. We cannot assure you that
patent applications we submit and have submitted will result in patents being
issued. Of our 26 utility patents, we currently have three utility patents, as
well as the license rights to use a fourth utility patent, and multiple design
patents that are related to our air purification line of products. The licensed
utility patent is due to expire in December 2005, and the earliest expiration
date of the other utility patents related to our air purification line of
products is 2018.
We cannot assure you that a third party will not infringe upon or
design around any patent issued or licensed to us, including the patents and
license agreement related to our air purification line of products, or that
these patents will otherwise be commercially viable. Litigation to establish the
validity of patents, to defend against patent infringement claims of others and
to assert patent infringement claims against others can be expensive and
time-consuming even if the outcome is favorable to us. If the outcome is
unfavorable to us, we may be required to pay damages, stop production and sales
of infringing products or be subject to increased competition from similar
products. We have taken and may, in the future, take steps to enhance our patent
protection, but we cannot assure you that these steps will be successful or
that, if unsuccessful, our patent protection will be adequate.
We also rely upon trade secrets, know-how, continuing technological
innovations and licensing opportunities to develop and maintain our competitive
position. We attempt to protect our proprietary technology in large part by
confidentiality agreements with our employees, consultants and other
contractors. We cannot assure you, however, that these agreements will not be
breached, that we will have adequate remedies for any breach or that competitors
will not know of or independently discover our trade secrets.
Our quarterly operating results and comparable store sales 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
18
most of our net earnings occur during our fourth quarter ending on January 31.
The fourth quarter accounted for more than 40% of total revenues in both fiscal
2002 and 2001. In addition, the fourth quarter accounted for all of our net
earnings in fiscal 2001 and substantially all of our net earnings in fiscal
2002. 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 our first three quarters of the fiscal year 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, like 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 comparable store sales also fluctuate significantly and can
contribute to fluctuations in our quarterly operating results. Our comparable
store sales are affected by a variety of factors, including customer demand in
different geographic regions, our ability to efficiently source and distribute
products, changes in our product mix, competition and advertising.
Our comparable store sales have fluctuated significantly in the past
and we believe that such fluctuations may continue. Our historic comparable net
store sales changes from the prior fiscal year were as follows:
Fiscal year Percentage increase (decrease)
----------- ------------------------------
1998 5.3
1999 12.3
2000 29.0
2001 (16.0)
2002 13.6
2003 (First three months) 18.6
Comparable store sales are defined as sales from stores where selling
square feet did not change by more than 15% in the previous 12 months and which
have been open for at least 12 full months. Stores generally become comparable
once they have 24 months of comparable sales for our annual calculation. We
cannot assure you that our comparable store sales results will 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 our
common stock to decrease.
We are dependent on the success of our advertising and direct marketing efforts
and our profitability will be adversely affected by increased costs
associated with these efforts.
Our revenues depend in part on our ability to effectively market and
advertise our products through The Sharper Image catalog and direct marketing
operations. Increases in advertising, paper or postage costs may limit our
ability to advertise without reducing our profitability. If we decrease our
advertising efforts due
19
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. Our
advertising expenditures increased by approximately $13.8 million or 25.3% in
fiscal 2001 from the prior fiscal year, and $28.9 million, or 42.2%, in fiscal
2002 from the prior fiscal year. While we believe that increased expenditures on
these and other media have resulted in increased revenues during fiscal 2002, we
cannot assure you that this trend will continue in the future. If our
advertising is ineffective and our increased advertising expenditures do not
result in increased sales volumes, our sales and profits will be adversely
affected. 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.
Our business will be harmed if we are unable to successfully implement our
growth strategy.
Our growth strategy primarily includes the following components:
o increase Sharper Image Design and private label product
offerings;
o broaden our customer base;
o open new stores; and
o broaden our sales and marketing channels
Any failure on our part to successfully implement any or all of our
growth strategies would likely have a material adverse effect on our financial
condition, results of operations and cash flows. We believe our past growth has
been attributable in large part to our success in meeting the merchandise,
timing and service demands of an expanding customer base with changing
demographic characteristics, but there is no assurance that we will be able to
continue to have such success.
The expansion of our store operations could result in increased expenses with no
guarantee of increased profitability.
We plan to increase our number of stores by 15%-20% annually. We may
not be able to attain our target new store openings, and any of our new stores
that we open may not be profitable, either of which could have an adverse impact
on our financial results. Our ability to expand by opening new stores 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 availability of sufficient funds for expansion
Even though we continue to expand our store base, we have remained
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.
20
In order to continue our expansion of stores, 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.
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 financing in excess
of that available under our current credit 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 which could have significant cost increases
and could have unpredictable results.
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, produce and deliver
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. Increases in costs of mailing,
paper or printing would increase costs and would adversely impact our earnings
if we were unable to pass such increases directly on to our customers or offset
such increases by raising prices or by implementing more efficient printing,
mailing, delivery and order fulfillment systems. 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 that period. Additionally,
effective June 30, 2002, the U.S. Postal Service increased its rates. This
increase has impacted the cost of mailing
21
catalogs and single-product mailers to our customers, and to the extent that we
use the U.S. Postal Service for the fulfillment of orders, our delivery expense
will also increase. In addition, postal rate increases may result in competitive
increases by other delivery services, which we may use from time to time.
Furthermore, both the U.S. Postal Service and other delivery services may raise
their rates further in the future.
The majority of our distribution and fulfillment operations are located in our
own facility in Little Rock, Arkansas and any disruption of this
center's operations could hurt our ability to make timely delivery of
our products.
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 result in late delivery of products and make it difficult
to meet customer demand for our products.
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 facilities, particularly during busy periods such as the holiday
shopping season. We cannot assure you 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.
We experience intense competition in the rapidly changing retail markets and if
we are unable to compete effectively, we may not be able to maintain
profitability.
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 and offer the
convenience of one-stop shopping. Specialty retailers, such as electronics
stores, may offer only a certain category of products but often offer a wider
range of selection within a particular category of product. Discount stores may
offer analogous products at lower price points. We offer a more limited range of
products compared to our competitors, and if we are unable to anticipate the
preferences of our customers and effectively market and distinguish The Sharper
Image brand or if we experience increased competition, our business and
operating results could be adversely affected.
The U.S. 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 that we will anticipate and successfully respond to changes in
the retail industry and e-commerce sectors.
We maintain a liberal merchandise return policy, which allows customers to
return most merchandise, and as a result, excessive merchandise
returns could harm our business.
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 our merchandise mix or other factors will not cause
22
actual returns to exceed return allowances. Any significant increase in
merchandise returns that exceed our allowances could have a material adverse
effect on our future results.
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 operations 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.
If we lose our key personnel, we may not be able to successfully develop and
merchandise our products.
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, financial condition and operating results. We
maintain key man life insurance on Mr. Thalheimer in the amount of $15 million.
The terms of Mr. Thalheimer's employment are governed by an employment
agreement. Our future performance will depend upon our ability to attract and
retain qualified management, merchandising and sales personnel. There can be no
assurance that the members of our existing management team will be able to
manage our company or our growth or that we will be able to attract and hire
additional qualified personnel as needed in the future.
We are effectively controlled by a single shareholder who exerts considerable
influence over our business affairs and may make business decisions
which may not be in your best interest.
As of June 11, 2003, Richard Thalheimer beneficially owned
approximately 22% of our common stock. 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. From February 1, 2003 to April 30,
2003, the price per share of our common stock has ranged from a high of $21.10
to a low of $14.51. We believe that among other factors, any of the following
factors could cause the price of our common stock to fluctuate substantially:
o monthly fluctuations in our comparable store sales;
o announcements by other retailers;
o the trading volume of our common stock in the public market;
o general economic conditions;
23
o financial market conditions;
o acts of terrorism; and
o threats of war
Our charter documents, Delaware law, our stockholders rights plan and other
agreements may make a takeover of us 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 plan 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.
24
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 0.43% (10% from the bank's
reference rate) during the period ending April 30, 2003, 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
Evaluation of Disclosure Controls and Procedures.
(a) Based on the Company's evaluation as of a date within 90 days of the filing
date of this report, the principal executive officer and principal financial
officer have concluded that the Company's disclosure controls and procedures (as
defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of
1934, as amended (the "Exchange Act")) are effective to ensure that information
required to be disclosed by the Company in reports that we file or submit under
the Exchange Act is recorded, processed, summarized and reported within the time
periods specified in Securities and Exchange Commission rules and forms.
Changes in Internal Controls.
(b) There were no significant changes in the Company's internal controls or in
other factors that could significantly affect these controls subsequent to the
date of the Company's evaluation, including any corrective actions with regard
to significant deficiencies and material weaknesses.
25
PART II
OTHER INFORMATION
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 Amended and Restated Bylaws.
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.)
10.1 Amended and Restated Stock Option Plan (as amended through September
25, 1998). (Incorporated by reference to Registration Statement on
Form S-8 filed on January 19, 1996 (Registration No. 33-3327) and
Exhibit to Definitive Proxy Statement on Schedule 14A filed April 29,
1999.)
10.2 1994 Non-Employee Director Stock Option Plan dated October 7, 1994 (as
amended through September 25, 1998). (Incorporated by reference to
Registration Statement on Form S-8 filed on January 19, 1996
(Registration No. 33-3327) and Exhibit to Definitive Proxy Statement
on Schedule 14A filed April 29, 1999.)
10.3 Cash or Deferred Profit Sharing Plan, as amended. (Incorporated by
reference to Exhibit 10.2 to Registration Statement on Form S-1
(Registration No. 33-12755).)
10.4 Cash or Deferred Profit Sharing Plan Amendment No. 3. (Incorporated by
reference to Exhibit 10.15 to Form 10-K for fiscal year ended January
31, 1988.)
10.5 Cash or Deferred Profit Sharing Plan Amendment No. 4. (Incorporated by
reference to Exhibit 10.16 to Form 10-K for fiscal year ended January
31, 1988.)
10.6 Form of Stock Purchase Agreement dated July 26, 1985 relating to
shares of Common Stock purchased pursuant to exercise of employee
stock options. (Incorporated by reference to Exhibit 10.3 to
Registration Statement on Form S-1 (Registration No. 33-12755).)
10.7 Form of Stock Purchase Agreement dated December 13, 1985 relating to
shares of Common Stock purchase pursuant to exercise of employee stock
options. (Incorporated by reference to Exhibit 10.4 to Registration
Statement on Form S-1 (Registration No. 33-12755).)
26
10.8 Form of Stock Purchase Agreement dated November 10, 1986 relating to
shares of Common Stock purchased pursuant to exercise of employee
stock options. (Incorporated by reference to Exhibit 10.5 to
Registration Statement on Form S-1 (Registration No. 33-12755).)
10.9 Form of Director Indemnification Agreement. (Incorporated by reference
to Exhibit 10.42 to Registration Statement on Form S-1 (Registration
No. 33-12755).)
10.10 Financing Agreement dated September 21, 1994 between the Company and
CIT Group/Business Credit Inc. (Incorporated by reference to Exhibit
10.12 to Form 10-Q for the quarter ended October 31, 1994.)
10.11 The Sharper Image 401(K) Savings Plan (Incorporated by reference to
Exhibit 10.21 to Registration Statement of Form S-8 (Registration No.
33-80504) dated June 21, 1994).)
10.12 Chief Executive Officer Compensation Plan dated February 3, 1995.
(Incorporated by reference to Exhibit 10.24 to the Form 10-K for the
fiscal year ended January 31, 1995.)
10.13 Split-Dollar Agreement between the Company and Mr. R. Thalheimer, its
Chief Executive Officer dated October 13, 1995, effective as of May
17, 1995. (Incorporated by reference to Exhibit 10.17 to the Form 10-K
for the fiscal year ended January 31, 1996.)
10.14 Assignments of Life Insurance Policy as Collateral, both dated October
13, 1995, effective May 17, 1995. (Incorporated by reference to
Exhibit 10.18 to the Form 10-K for the fiscal year ended January 31,
1996.)
10.15 Amendment to the Financing Agreement dated May 15, 1996 between the
Company and The CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.19 to the Form 10Q for the quarter ended April
30, 1996.)
10.16 CAPEX Term Loan Promissory note dated October 15, 1996 between the
Company and The CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.21 to the Form 10Q for the quarter ended
October 31, 1996.)
10.17 Amendment to the Financing Agreement dated February 13, 1997 between
the Company and The CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.21 to the Form 10-K for the fiscal year ended
January 31, 1997.)
10.18 Amendment to the Financing Agreement dated March 24, 1997 between the
Company and The CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.23 to the Form 10-K for the fiscal year ended
January 31, 1997.)
10.19 Amendment to the Financing Agreement dated April 6, 1998 between the
Company and The CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.25 to the Form 10-K for the fiscal year ended
January 31, 1998.)
10.20 Amendment to the Financing Agreement dated March 23, 2000 between the
Company and The CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.22 to Form 10-K for the fiscal year ended
January 31, 2000.)
10.21 Amendment to the Corporate Headquarters Office Lease Agreement dated
February 9, 2000 between the Company and its landlord, CarrAmerica
Realty Corporation. (Incorporated by reference to Exhibit 20.23 to
Form 10-K for the fiscal year ended January 31, 2000.)
27
10.22 Amendment to the Financing Agreement dated July 18, 2000 between the
Company and The CIT Group/Business Credit, Inc. (Incorporated by
reference to Exhibit 10.23 to Form 10-Q for the quarter ended October
31, 2000.)
10.23 Amendment to the Financing Agreement dated September 29, 2000 between
the Company and The CIT Group/Business Credit, Inc. (Incorporated by
reference to Exhibit 10.24 to Form 10-Q for the quarter ended October
31, 2000.)
10.24 Executive Bonus Plan. (Incorporated by reference to the Definitive
Proxy Statement on Schedule 14A filed May 4, 2001.)
10.25 Amendment to the Split-Dollar Agreement between the Company and
Richard Thalheimer, its Chief Executive Officer dated July 12, 2001
dated July 12, 2001, effective as of March 28, 2001. (Incorporated by
reference to Exhibit 10.24 to Form 10-Q for the quarter ended October
31, 2001.)
10.26 Officer Non-Qualified Deferred Compensation Plan. (Incorporated by
reference to Exhibit 10.27 to Form 10-Q for the quarter ended October
31, 2002.)
10.27 Employment Agreement dated October 21, 2002 between the Company and
Richard Thalheimer. (Incorporated by reference to Exhibit 10.26 to
Form 10-Q for the quarter ended October 31, 2002.)
10.28 Amendment to the Financing Agreement dated March 3, 2003 between the
Company and the CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.28 to Form 10-K for the year ended January 31,
2003.)
99.1 Certification Pursuant To Section 906 Of The Sarbanes-Oxley Act of
2002, Chief Executive Officer.
99.2 Certification Pursuant To Section 906 Of The Sarbanes-Oxley Act of
2002, Chief Financial Officer
(b) Reports on Form 8-K
We filed or furnished the following reports on Form 8-K during the
three months ended April 30, 2003:
1. On April 14, 2003, we filed a current report on Form 8-K
regarding our press release entitled "Sharper Image Reports
Final 2002 Financial Results In Excess Of Preliminary" which
announced increases to diluted and basic earnings per share
from preliminarily reported for fiscal year 2002.
2. On April 18, 2003 we filed a current report on Form 8-K
providing our financial statements, together with the
independent auditors' report, as of January 31, 2003 and 2002
and for the years ended January 31, 2003, 2002 and 2001, and
the related management's discussion and analysis of financial
condition and results of operations, for the purposes of
incorporating by reference such information in its
Registration Statement on Form S-3 (File No. 333-102397),
filed with the SEC on April 18, 2003. (Such Form 8-K has been
superseded in part by Items 7 and 8 of our Annual Report of
Form 10-K for the year ended January 31, 2003.)
28
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: June 16, 2003 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
29
CERTIFICATIONS
I, Richard Thalheimer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Sharper Image
Corporation ("registrant");
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
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.
Date: June 16, 2003
By:/s/ Richard Thalheimer
-----------------------
Chairman and Chief Executive Officer
30
CERTIFICATIONS
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;
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
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.
Date: June 16, 2003
By:/s/ Jeffrey P. Forgan
----------------------
Executive Vice President and Chief Financial Officer
31