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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
_________________________________
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number: 333-109381
HAIGHTS CROSS COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE NO. 13-4087398
(State of Incorporation) (I.R.S. Employer Identification No.)
10 NEW KING STREET, SUITE 102
WHITE PLAINS, NY 10604
(Address of principal executive offices) (Zip Code)
(914) 289-9400
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ].
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12 b-2 of the Exchange Act.)
Yes [ ] No [X].
1
HAIGHTS CROSS COMMUNICATIONS, INC.
QUARTERLY REPORT FOR THE
QUARTER ENDED MARCH 31, 2004
TABLE OF CONTENTS
PAGE
----
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Operations for the Three Months Ended
March 31, 2004 and 2003 (unaudited).......................................................... 3
Consolidated Balance Sheets as of March 31, 2004 (unaudited) and December 31, 2003.............. 4
Condensed Consolidated Statements of Cash Flows for the Three Months Ended
March 31, 2004 and 2003 (unaudited).......................................................... 5
Notes to Consolidated Financial Statements...................................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................................................. 14
Item 3. Quantitative and Qualitative Disclosures about Market Risk.............................. 26
Item 4. Controls and Procedures................................................................. 26
Signatures...................................................................................... 27
2
PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
HAIGHTS CROSS COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED MARCH 31,
-------------------------------
2004 2003
------------ ------------
(IN THOUSANDS)
Revenue $ 39,563 $ 38,127
Costs and expenses:
Cost of goods sold 11,972 11,916
Marketing and sales 9,084 8,227
Fulfillment and distribution 3,061 2,735
General and administrative 5,147 5,053
Restructuring charges 354 522
Amortization of pre-publication costs 2,594 1,954
Depreciation and amortization of property
and equipment 581 476
------------ ------------
Total costs and expenses 32,793 30,883
------------ ------------
Income from operations 6,770 7,244
Other (income) expenses:
Interest expense 11,417 4,518
Interest income (134) -
Amortization of deferred financing
costs 799 301
Other expense 2 -
------------ ------------
Total other expenses 12,084 4,819
------------ ------------
Income (loss) before discontinued
operations (5,314) 2,425
Discontinued operations:
Loss from operations of discontinued
operations - (150)
------------ ------------
Net income (loss) (5,314) 2,275
Preferred stock dividends and accretion (621) (4,574)
------------ ------------
Net loss available to common stockholders $ (5,935) $ (2,299)
============ ============
See accompanying notes.
3
HAIGHTS CROSS COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
MARCH 31, DECEMBER 31,
2004 2003
--------------- ---------------
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA)
ASSETS
Cash and cash equivalents $ 77,747 $ 32,389
Accounts receivable, net 19,282 16,459
Inventory, net 22,884 22,150
Direct response advertising costs - current portion, net 4,054 2,431
Prepaid royalties 4,905 2,908
Prepaid expenses and other current assets 2,313 5,342
--------------- ---------------
Total current assets 131,185 81,679
Pre-publication costs, net 28,297 28,197
Direct response advertising costs, net 6,697 6,504
Property and equipment, net 7,190 7,098
Goodwill 125,005 125,005
Deferred financing costs, net 16,525 13,944
Other assets 3,136 3,095
--------------- ---------------
Total assets $ 318,035 $ 265,522
=============== ===============
LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' DEFICIT
Current liabilities:
Accounts payable and accrued liabilities $ 14,261 $ 18,449
Accrued interest 2,865 6,742
Deferred subscription revenue 13,696 13,272
Current portion of long term debt 1,000 1,000
--------------- ---------------
Total current liabilities 31,822 39,463
Long term liabilities:
Senior secured term loan $ 98,500 $ 98,750
11-3/4% senior notes 140,000 140,000
12-1/2% senior discount notes 75,106
Series B Senior preferred stock, redeemable, $.001 par value,
6,000,000 shares authorized, 2,000,230 shares issued and
outstanding as of March 31, 2004 (approximate aggregate
liquidation value of $98,315, as of March 31, 2004) 96,221 -
Deferred gain on Series B cancellation 4,934 -
--------------- ---------------
Total long term liabilities 414,761 238,750
Commitments
Redeemable preferred stock:
Series B Senior preferred stock, redeemable, $.001 par value,
6,000,000 shares authorized, 2,400,000 shares issued and
outstanding as of December 31, 2003 - 109,364
Series A preferred stock, redeemable, $.001 par value, 30,000
authorized, 22,476 shares issued and outstanding (approximate
aggregate liquidation value as of March 31, 2004 of $31,622) 33,675 34,299
--------------- ---------------
Total redeemable preferred stock 33,675 143,663
Stockholders' deficit:
Common stock, $.001 par value, 30,000,000 shares authorized,
20,000,000 shares issued and outstanding 20 20
Accumulated other comprehensive income 365 299
Accumulated deficit (162,608) (156,673)
--------------- ---------------
Total stockholders' deficit (162,223) (156,354)
--------------- ---------------
Total liabilities, redeemable preferred stock and
stockholders' deficit $ 318,035 $ 265,522
=============== ===============
See accompanying notes.
4
HAIGHTS CROSS COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS ENDED MARCH 31,
-------------------------------------------
2004 2003
--------------- ---------------
(IN THOUSANDS)
OPERATING ACTIVITIES
Net cash provided by (used in) operating activities: $ (8,112) $ 756
--------------- ---------------
INVESTING ACTIVITIES
Additions to pre-publication costs (2,681) (3,526)
Additions to property and equipment (673) (858)
Proceeds from sale of businesses - 6,749
--------------- ---------------
Net cash (used in) provided by investing activities: (3,354) 2,365
--------------- ---------------
FINANCING ACTIVITIES
Proceeds from senior credit facility - 9,000
Repayment of senior credit facility - (8,812)
Repayment of senior secured term loan (250) -
Proceeds from 12-1/2% senior discount notes 73,653 -
Purchase of Series B senior preferred stock (13,999) -
Additions to deferred financing costs (2,945) -
--------------- ---------------
Net cash provided by financing activities: 56,459 188
--------------- ---------------
Effect of exchange rate changes on cash 365 -
Net change in cash and cash equivalents 45,358 3,309
Cash and cash equivalents at beginning of period 32,389 2,701
--------------- ---------------
Cash and cash equivalents at end of period $ 77,747 $ 6,010
=============== ===============
SUPPLEMENTAL DISCLOSURE
Cash paid during the period for:
Interest $ 9,729 $ 2,341
See accompanying notes.
5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The unaudited interim consolidated financial statements contained herein consist
of the accounts of Haights Cross Communications, Inc. (the "Company"), a
Delaware corporation formed in January 1997 to create and build an education and
library publishing business, and its subsidiaries. The Company is a holding
company that conducts all of its operations through its direct and indirect
subsidiaries.
The Company is a creator and publisher of high quality education and library
materials. Products include K-12 curriculum-based student books, workbooks and
study guides, test preparation publications, teacher materials, audiobooks,
library books for children and young adults, and continuing professional
education materials. The Company markets its products primarily to school
administrators, educators, librarians and other professionals. Products are
distributed via market-specific field and telesales representatives, direct mail
and web/e-commerce to the North American market, and to the rest of the world
via licensing and distribution arrangements.
Our business is subject to modest seasonal fluctuations. Our revenue and income
from operations have historically been higher during the second and third
calendar quarters. In addition, our quarterly results of operations have
fluctuated in the past, and can be expected to continue to fluctuate in the
future, as a result of many factors, including general economic trends; the
traditional cyclical nature of educational material sales; school, library, and
consumer purchasing decisions, unpredictable funding of schools and libraries by
Federal, state, and local governments, consumer preferences and spending trends;
the need to increase inventories in advance of our primary selling season; and
timing of introductions of new products.
The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
for interim financial information. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements. The unaudited interim consolidated financial
statements reflect all adjustments (consisting of normal recurring adjustments)
that are, in the opinion of management, necessary for a fair statement of the
consolidated results for the interim periods presented. The consolidated results
of operations of interim periods are not necessarily indicative of results for a
full year. All material intercompany accounts and transactions have been
eliminated upon consolidation. These financial statements should be read in
conjunction with the consolidated financial statements and related notes for the
fiscal year ended December 31, 2003. Certain prior year amounts have been
reclassified to conform to the current year presentation.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make certain
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities as of the date
of the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results may differ from those estimates.
2. RECENT ACCOUNTING PRONOUNCEMENTS
On May 15, 2003, the FASB issued Statement of Financial Accounting Standards No.
150, Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity ("SFAS No. 150"). SFAS No. 150 establishes standards for
classifying and measuring as liabilities certain financial instruments that
embody obligations of the issuer and have characteristics of both liabilities
and equity. Instruments that are indexed to and potentially settled in an
issuer's own shares that are not within the scope of SFAS No. 150 remain subject
to existing guidance.
6
The adoption of SFAS No. 150 requires that the Company's Series B Senior
preferred stock be classified as debt in the Company's consolidated balance
sheet because it is redeemable at a fixed and determinable date. Dividends and
accretion related to the Series B Senior preferred stock, which previously had
been recorded below net income (loss) as a charge in determining net income
(loss) available to common stockholders' has been charged to interest expense in
the accompanying consolidated statement of operations since the January 1, 2004
adoption of this standard. While the Company's Series A preferred stock is
redeemable beginning in the year 2019, such redemption is at the option of the
holders and is not mandatory, therefore SFAS No. 150 is not applicable to our
Series A preferred stock.
3. DISCONTINUED OPERATIONS
The results of operations of discontinued operations have been classified as
discontinued operations in the accompanying consolidated statements of
operations. On March 31, 2003, and May 30, 2003, in two separate transactions,
the Company sold the assets of its subsidiary Andrews Communications, LLC
(including its divisions Oakstone Legal & Business Publishing and Andrews
Publishing) for gross proceeds of $7,991,000 and net proceeds of $7,550,000. On
May 30, 2003, in conjunction with the second transaction, a loss of $911,000 was
recorded on the sale. Andrews Communications, LLC published legal newsletters,
books, reports, and related publications to attorneys, law firms, employment
professionals, and others.
For the three months ended March 31, 2003, Andrews Communications, LLC had
revenue of $1,550,000, and loss from operations of discontinued operations of
$150,000.
4. COMPREHENSIVE LOSS
Assets and liabilities of the Company's wholly-owned international subsidiary,
WF Howes located in the United Kingdom, are translated at their respective
period-end exchange rates and revenues and expenses are translated at average
currency exchange rates for the period. The resulting foreign currency
translation adjustments from assets and liabilities are included as "Accumulated
other comprehensive loss" and are reflected as a separate component of
stockholders' deficit.
The following table sets forth the calculation of comprehensive loss for the
periods indicated:
Three Months Ended March 31,
2004 2003
------------ ------------
Net (loss) income $ (5,314) $ 2,275
Add: foreign currency translation adjustment 365 -
------------ -------------
$ (4,949) $ 2,275
============ =============
5. INVENTORY
The following table sets forth the components of inventory for the periods
indicated:
MARCH 31, DECEMBER 31,
2004 2003
-------------- --------------
(UNAUDITED)
Supplies $ 885,000 $ 1,015,000
Work-in-process 574,000 642,000
Finished goods 23,115,000 22,137,000
-------------- --------------
24,574,000 23,794,000
Less allowance for obsolescence 1,690,000 1,644,000
-------------- --------------
$ 22,884,000 $ 22,150,000
============== ==============
6. FINANCING ARRANGEMENTS
On August 20, 2003, Haights Cross Operating Company ("HCOC") entered into a
$30,000,000 four-year and nine-month senior secured revolving credit facility,
and a $100,000,000 five-year senior secured term loan and issued $140,000,000 of
11-3/4% senior notes due 2011. HCOC used the net proceeds of these transactions
to repay indebtedness under its old senior secured credit facility and to redeem
its then outstanding 13.0% senior subordinated notes due 2009.
7
In connection with this refinancing transaction, HCOC incurred an early
redemption premium of $9,236,000 which was paid to the senior subordinated note
holders. As part of the redemption transaction, the Company also cancelled 1,880
warrants for Series A preferred stock with an assigned value of $1,880,000 and
1,692,169 warrants for common stock held by the senior subordinated note
holders.
Since December 10, 1999, DLJ Merchant Banking Partners II, L.P. and its
affiliates (the "DLJ Parties") have held shares of the Company's Series B Senior
preferred stock and warrants to purchase shares of the Company's Series A
preferred stock and common stock. In addition, the DLJ Parties have been parties
to an investors agreement with the Company pursuant to which DLJ Merchant
Banking Partners II, L.P. had the right to designate one member of the Company's
board of directors and such director had the right to approve various
transactions, including the incurrence, assumption or guarantee by the Company
of any indebtedness for borrowed money. On January 22, 2004, the DLJ Parties
sold substantially all of their shares and warrants to third parties. In
connection with such sale, the investors agreement was amended to eliminate the
DLJ Parties' board designation right and the related director approval rights,
and the DLJ Parties' board designee resigned from the Company's board of
directors. In addition, the DLJ Parties returned to the Company for cancellation
104,770 shares of Series B Senior preferred stock having a liquidation value of
$5,000,000, warrants to purchase 778 shares of Series A preferred stock having a
value of $778,000, and warrants to purchase 743,148 shares of common stock. The
Company reversed $904,000 of discount and fees associated with the return of the
Series B Senior preferred stock. The net gain resulting from this transaction
has been deferred and classified as a liability in the accompanying consolidated
balance sheet. The deferred gain will be amortized against interest expense
through December 10, 2011, the Series B Senior preferred stock mandatory
redemption date.
On February 2, 2004, the Company completed an offering of 12-1/2% senior
discount notes and received net proceeds of $73,653,000. The Company used a
portion of the proceeds from the sale of the Company's 12-1/2% senior discount
notes to repurchase 295,000 outstanding shares of Series B Senior preferred
stock at a price equal to 99% of its liquidation value of $14,140,000. In
connection with this repurchase, 467 Series A preferred stock warrants having a
value of $467,000 and 451,666 common stock warrants were returned to the Company
for cancellation. The Company reversed $548,000 of discount and fees associated
with the return of the Series B Senior preferred stock. The Company intends to
use the remaining proceeds to fund future acquisitions and for general corporate
purposes.
7. RESTRUCTURING CHARGES
Restructuring charges generally consist of employee termination benefits, costs
incurred to consolidate facilities or relocate employees, or costs to terminate
contracts, such as operating leases.
During the fourth quarter of 2002, the Company initiated an operations
consolidation project under which it consolidated the warehousing and order
fulfillment functions of its Triumph Learning, Chelsea House and
Sundance/Newbridge subsidiaries at a new warehouse facility. The customer
service functions of Triumph Learning and Sundance/Newbridge were also combined.
The objective of the consolidation was to reduce payroll costs and avoid
expected increases in lease costs, while providing faster and more accurate
order and delivery services. In January 2003, the Company signed the lease for
the new warehouse facility and overall completion of the project occurred in
March 2004. In connection with this effort, the Company recorded a total
restructuring charge of $2,430,000. In accordance with Statement of Financial
Accounting Standards No. 146, Accounting for Costs Associated with Exit or
Disposal Activities, these costs were not accrued as of December 31, 2002.
Operations consolidation project restructuring activity by type for the
three months ended March 31, 2004 (unaudited) is as follows:
ACCRUED ACCRUED
RESTRUCTURING RESTRUCTURING
AMOUNT LIABILITY AS OF RESTRUCTURING LIABILITY AS OF
EXPECTED TO BE DECEMBER 31, EXPENSE CASH PAID MARCH 31,
INCURRED 2003 IN 2004 IN 2004 REVERSALS 2004
-------- ---- ------- ------- --------- ----
Severance and related......... $ 600,000 $ 103,000 $ 244,000 $ 174,000 $ -- $ 173,000
Lease terminations costs...... 730,000 155,000 -- 44,000 -- 111,000
Relocation and other.......... 1,100,000 33,000 110,000 96,000 -- 47,000
----------- ----------- ------------ ------------ ---------- -----------
$ 2,430,000 $ 291,000 $ 354,000 $ 314,000 $ -- $ 331,000
=========== =========== ============ ============ ========== ===========
8
The Company has expensed inception to date for this project $827,000,
$523,000 and $1,144,000 for severance and related, lease termination costs and
relocation and other, respectively.
Operations consolidation project restructuring activity by segment for the
three months ended March 31, 2004 (unaudited) is as follows:
ACCRUED
RESTRUCTURING ACCRUED
AMOUNT LIABILITY AS OF RESTRUCTURING RESTRUCTURING
EXPECTED TO BE DECEMBER 31, EXPENSE CASH PAID LIABILITY AS OF HEADCOUNT
INCURRED 2003 IN 2004 IN 2004 REVERSALS MARCH 31, 2004 REDUCTION
-------- ---- ------- ------- --------- --------------- ---------
Sundance/Newbridge.... $ 750,000 $ 93,000 $ -- $ 44,000 $ -- $ 49,000 3
Chelsea House......... 1,000,000 198,000 354,000 270,000 -- 282,000 17
Triumph Learning...... 560,000 -- -- -- -- -- 13
Corporate............. 120,000 -- -- -- -- -- 1
------------- ----------- ------------ ------------- ----------- ------------ --
$ 2,430,000 $ 291,000 $ 354,000 $ 314,000 $ -- $ 331,000 34
============= =========== ============ ============= =========== ============ ==
The Company has expensed inception to date for this project $639,000,
$1,257,000, $479,000 and $119,000 at Sundance/Newbridge, Chelsea House, Triumph
Learning and Corporate, respectively.
8. SEGMENT REPORTING
The Company is a creator, publisher and marketer of products for the education
and library publishing markets. The Company has five operating business segments
which are regularly reviewed by the chief operating decision-maker in making
decisions about allocating resources and assessing performance.
The information presented below includes certain expense allocations between the
corporate parent and the operating business segments and is therefore not
necessarily indicative of the results that would be achieved had these been
stand-alone businesses. Corporate general and administrative expense consists of
general corporate administration expense not allocated to the operating business
segments. Corporate capital expenditures includes capital expenditures of
discontinued and held for sale operations.
9
The results of operations and other data for the five operating segments and the
corporate parent for the three months ended March 31, 2004 and 2003 (unaudited)
are as follows:
TOTAL TOTAL
EDUCATION LIBRARY
SUNDANCE/ TRIUMPH PUBLISHING RECORDED CHELSEA PUBLISHING
NEWBRIDGE LEARNING OAKSTONE GROUP BOOKS HOUSE GROUP CORPORATE CONSOLIDATED
--------- -------- -------- ---------- -------- ------- ---------- --------- ------------
(in thousands)
THREE MONTHS ENDED
MARCH 31, 2004
(UNAUDITED)
Revenue $ 8,342 $ 7,917 $ 3,887 $20,146 $16,606 $ 2,811 $19,417 $ - $39,563
Cost of goods sold 2,080 1,593 1,102 4,775 6,441 756 7,197 - 11,972
Marketing and sales 2,676 1,707 1,284 5,667 2,887 530 3,417 - 9,084
Fulfillment and distribution 877 466 410 1,753 1,046 262 1,308 - 3,061
General and administrative 717 1,122 550 2,389 1,343 799 2,142 970 5,501
Amortization of
pre-publication costs 712 441 95 1,248 811 535 1,346 - 2,594
Depreciation and
amortization on
property and equipment 177 23 124 324 172 30 202 55 581
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (loss) from
operations $ 1,103 $ 2,565 $ 322 $ 3,990 $ 3,906 $ (101) $ 3,805 $(1,025) $ 6,770
======= ======= ======= ======= ======= ======= ======= ======= =======
Interest expense $ 413 $ 803 $ 480 $ 1,696 $ 1,157 $ 900 $ 2,057 $ 7,664 $11,417
Capital expenditures -
pre-publication costs 794 450 63 1,307 756 618 1,374 - 2,681
Capital expenditures -
property and equipment 236 38 32 306 266 82 348 19 673
THREE MONTHS ENDED
MARCH 31, 2003
(UNAUDITED)
Revenue $ 7,986 $ 6,951 $ 3,861 $18,798 $15,799 $ 3,530 $19,329 $ - $38,127
Cost of goods sold 2,018 1,650 1,077 4,745 6,331 840 7,171 - 11,916
Marketing and sales 2,364 1,542 1,160 5,066 2,510 651 3,161 - 8,227
Fulfillment and distribution 579 489 376 1,444 991 300 1,291 - 2,735
General and administrative 1,144 856 443 2,443 1,182 692 1,874 1,258 5,575
Amortization of
pre-publication costs 480 330 91 901 620 433 1,053 - 1,954
Depreciation and
amortization on
property and equipment 103 27 103 233 149 24 173 70 476
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (loss) from
operations $ 1,298 $ 2,057 $ 611 $ 3,966 $ 4,016 $ 590 $ 4,606 $(1,328) $ 7,244
======= ======= ======= ======= ======= ======= ======= ======= =======
Interest expense $ 642 $ 939 $ 568 $ 2,149 $ 1,519 $ 894 $ 2,413 $ (44) $ 4,518
Capital expenditures -
pre-publication costs 1,089 431 44 1,564 1,079 883 1,962 - 3,526
Capital expenditures -
property and equipment 510 3 54 567 244 40 284 7 858
9. SUBSEQUENT EVENTS (UNAUDITED)
On April 15, 2004, the Company acquired the business of Buckle Down Publishing
Company, a publisher of test preparation materials for high-stakes state tests.
The consideration for the acquisition was $24,000,000 in cash, which is subject
to a post-closing working capital adjustment, and $3,500,000 face amount of our
newly authorized Series C preferred stock, of which shares with a face amount of
$2,000,000 were deposited in an escrow account to
10
secure the seller's indemnification obligations. The Buckle Down business will
be operated as a division of our Triumph Learning subsidiary and will be
included in that segment.
On April 19, 2004, the Company announced its intention to sell its Oakstone
Publishing unit. The Company hopes to complete the sale during the third quarter
of 2004. Commencing in the second quarter of 2004, the unit will be accounted
for and reported as a discontinued operation in the consolidated statements of
operations and as a business held for sale in the consolidated balance sheets.
11
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
SAFE HARBOR STATEMENT. This quarterly report contains "forward-looking
statements". Forward-looking statements include statements concerning our plans,
objectives, goals, strategies, future events, future sales or performance,
capital expenditures, financing needs, plans or intentions relating to
acquisitions, business trends and other information that is not historical
information. When used in this quarterly report, the words "estimates,"
"expects," "anticipates," "projects," "plans," "intends," "believes,"
"forecasts" and variations of such words or similar expressions are intended to
identify forward-looking statements. All forward-looking statements, including,
without limitation, management's examination of historical operating trends, are
based upon our current expectations and various assumptions. Our expectations,
beliefs and projections are expressed in good faith and we believe there is a
reasonable basis for them. However, there can be no assurance that management's
expectations, beliefs and projections will result or be achieved.
There are a number of risks and uncertainties that could cause our actual
results to differ materially from the forward-looking statements contained in
this quarterly report, including, among others, the following:
- market acceptance of new education and library products,
particularly reading, literature, language arts,
mathematics, science and social studies programs;
- the seasonal and cyclical nature of education and library
sales;
- changes in funding in school systems throughout the
nation, which may result in cancellation of planned
purchases of education and library products and shifts in
timing of purchases;
- changes in the competitive environment, including those
which could adversely affect our cost of sales;
- changes in the relative profitability of products sold;
- regulatory changes that could affect the purchase of
education and library products;
- changes in the strength of the retail market for
audiobooks and market acceptance of newly-published
titles;
- delays and unanticipated expenses in developing new
programs and other products or in developing new
technology products, and market acceptance and use of
online instruction and assessment materials;
- the potential effect of a continued weak economy on sales
of education and library products;
- the risk that our well-known authors will depart and write
for our competitors; and
- the effect of changes in accounting, regulatory and/or tax
policies and practices.
There may be other factors not presently known to us or which we currently
consider to be immaterial that may cause our actual results to differ materially
from the forward-looking statements. The forward-looking statements in this
quarterly report are made as of the date of this quarterly report.
12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - UNAUDITED
OPERATING GROUPS
We have organized our businesses into two operating groups: the Education
Publishing Group and the Library Publishing Group.
EDUCATION PUBLISHING GROUP. Our Education Publishing Group publishes
supplemental reading materials for the kindergarten through 9th grade market,
state-specific test preparation materials for K-12 high stakes competency tests
and continuing medical education products for doctors. Our Education Publishing
Group also markets non-proprietary, supplemental reading products and literature
for the K-12 market. This group is comprised of three segments:
Sundance/Newbridge, Triumph Learning and Oakstone.
LIBRARY PUBLISHING GROUP. Our Library Publishing Group publishes audiobooks for
adults and children as well as literary, biographical and topical books
published in series for public and school libraries. Our Library Publishing
Group also markets non-proprietary audiobooks to public and school libraries.
This group is comprised of two segments: Recorded Books and Chelsea House.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make certain
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities as of the date
of the financial statements and the reported amounts of revenue and expenses
during the reporting period. Actual results may differ from those estimates.
Changes in facts, circumstances and market conditions may result in revised
estimates.
The critical accounting policies described herein are those that are, in
management's opinion, most important to the presentation of our consolidated
financial condition and results of operations.
REVENUE AND EXPENSE RECOGNITION
In accordance with industry practice, we recognize revenue from books and other
non-subscription sales when the product is shipped to the customer. Product
shipment terms are FOB shipping point and collectability is reasonably assured
at the time of shipment. Subscription revenue is deferred and recognized as the
subscription is fulfilled. Revenue is recognized net of provisions for estimated
returns. These estimated return provisions are based upon historical experience
and other industry factors including management's expectations. Actual return
experience is monitored and any significant change from management's
expectations results in an adjustment in the reserve rates utilized to estimate
returns.
Cost of goods sold is recognized when the related revenue is recognized and
primarily consists of paper, audio tape, printing, binding and duplication and
author royalty expenses.
PRE-PUBLICATION COSTS
We capitalize the costs associated with the development of our new products.
These costs primarily include author fees under work-for-hire agreements
(excluding royalties), the costs associated with artwork, photography and master
tapes, other external creative costs, internal editorial staff costs and
pre-press costs that are directly attributable to the products. These costs are
tracked at the product title or product series level and are amortized beginning
in the month the product is introduced to market. These costs are amortized over
the estimated life cycle of the book or product, based upon the sales
performance of similarly existing products that are sold in the same business
segment, for periods ranging from two to five years. The amortization rate is
determined by the expected annual performance during the life cycle and,
accordingly, in many cases an accelerated amortization method is utilized. Costs
determined to be unrecoverable are written off. A write-off occurs most often
when sales of a product are lower than
13
anticipated or when a later version of the product is released. In addition,
life cycles are constantly monitored for changes in length or rate of sales
during the life cycle. When changes are significant the amortization rate and
period are adjusted.
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill represents the excess of net acquisition cost over the estimated fair
value of net assets acquired of purchased companies. On January 1, 2002, we
adopted Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets." Under SFAS No. 142, intangible assets considered to have
indefinite lives, such as goodwill, are no longer amortized to expense but are
periodically evaluated for impairment at the reporting unit level. Intangible
assets with finite lives continue to be amortized to expense over their useful
lives.
Under SFAS No. 142, goodwill is subject to an annual impairment test as well as
an interim test if an event occurs or circumstances change between annual tests
indicating that the asset might be impaired. The impairment test is a two-step
process. First, the fair value of the reporting unit is compared to its carrying
value. If the fair value is less than the carrying value, a second step is
performed. In the second step, an implied goodwill value is determined by
deducting the fair value of all tangible and intangible net assets of the
reporting unit from the fair value of the reporting unit. If implied fair value
of the goodwill, as calculated, is less than the carrying amount of the
goodwill, an impairment charge is taken for the difference. For purposes of
estimating the fair value of the reporting unit, we use a discounted cash flow
approach, since our common stock is not publicly traded and a quoted market
price is unavailable.
DIRECT RESPONSE ADVERTISING COSTS
Direct response advertising costs are incurred to solicit sales from potential
new customers who can be shown to have responded specifically to an advertising
campaign that results in probable future economic benefits. We have two types of
direct response advertising costs: direct mail and catalogs. We are able to
track the revenue, costs and profitability from these advertising efforts at the
campaign level. Both the direct mail and catalog campaign costs are capitalized
and the net recoverability is evaluated on a product-by-product basis at the
campaign level. The life and amortization rate are determined by historical
experience from similar products at the same business. Generally, greater than
90% of direct mail costs are amortized in the first year, with all costs being
amortized over lives ranging from 12-18 months. The sole exception to this
policy is the direct mail costs relating the Oakstone subscription business
which are amortized on an accelerated basis over the estimated life of the
subscriber for up to five years. For these subscription products, the life is
based on the original subscription period plus subsequent renewal periods. The
rate of amortization is based on the expiration and cancellation rate of
subscribers for similar subscription products.
Catalog costs are amortized on an accelerated basis over the estimated life of
the catalog, generally between one and eighteen months with greater than 90% of
catalog costs being amortized in the first year. The life and amortization rate
is based on the sales experience of similar catalogs at the same business
segment. Amortization of direct response advertising costs is included in
marketing and sales expense in the accompanying consolidated statements of
operations. If a direct mail solicitation or catalog is determined to be
unprofitable, all remaining capitalized costs are written-off at that time.
INVENTORY AND RELATED OBSOLESCENCE
Inventory consists primarily of books, which are valued at the lower of cost or
market, as determined by the first-in, first-out method. Obsolescence reserves
on slow-moving or excess merchandise are recorded, where applicable, based upon
regular reviews of inventories on-hand and estimated future demand. If a book is
taken out of print, superseded by a later version or ceases to sell, it is
considered obsolete and all related inventory amounts are written-off. If
quantities of a book exceed expected future demand based on historical sales of
that title, the excess inventory is also written off.
14
STOCK-BASED COMPENSATION
We have a stock option plan, pursuant to which stock options for a fixed number
of shares of common stock are granted to employees with an exercise price equal
to or greater than the fair value of the shares at the date of grant. The
exercise prices of options issued under the plan are determined by our board of
directors using commonly employed valuation methods. Awards under the plan
generally vest over three years, although vesting may also be on performance.
We account for stock options by following the fair value method under Statement
of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation." Under the fair value method, compensation expense for options is
measured at the grant date based on the value of the award as determined using
the minimum value option valuation model and is recognized over the vesting
period of the grant.
INCOME TAXES
We account for income taxes pursuant to the provisions of Statement of Financial
Accounting Standards No. 109, "Accounting for Income Taxes." Under SFAS No. 109,
deferred tax assets and liabilities are recorded to reflect the future tax
consequences attributable to the effects of differences between carrying amounts
of existing assets and liabilities for financial reporting and for income tax
purposes. A history of generating taxable income is required in order to
substantiate the recording of a net tax asset. Because we have not yet generated
taxable income, we have placed a 100% valuation allowance on our net tax
benefits. We will re-evaluate the deferred tax valuation allowance based on
future earnings.
LONG-TERM DEBT AND REDEEMABLE CAPITAL STOCK
We have had and continue to have significant obligations pursuant to which
interest and/or dividends are accrued and not paid in cash. These obligations
consist of the old senior subordinated notes (which have been redeemed in full)
and our Series A preferred stock and Series B Senior preferred stock.
We issued warrants to purchase shares of our common stock and Series A preferred
stock in connection with the issuance of our old senior subordinated notes due
2009 and our Series B Senior preferred stock. Accounting Principles Board
Opinion No. 14 "Accounting for Convertible Debt and Debt Issued with Stock
Purchase Warrants", requires that the portion of the proceeds of the old senior
subordinated notes due 2009 and Series B Senior preferred stock that is
allocable to the warrants should be accounted for as paid-in capital. The
allocation is based on the relative fair values of the old senior subordinated
notes due 2009, Series B Senior preferred stock, common stock warrants and
Series A preferred stock warrants at the time of issuance. The resulting
discounts on the old senior subordinated notes due 2009 were recorded initially
as a reduction to the carrying amount of such notes and were amortized as a
component of interest expense over the life of such notes. In connection with
the August 20, 2003 refinancing transaction, all outstanding warrants to
purchase shares of Series A preferred stock and warrants to purchase shares of
common stock issued with such notes were canceled.
Since December 10, 1999, DLJ Merchant Banking Partners II, L.P. and its
affiliates (the "DLJ Parties") have held shares of our Series B Senior preferred
stock and warrants to purchase shares of our Series A preferred stock and common
stock. In addition, the DLJ Parties have been parties to an investors agreement
with us pursuant to which DLJ Merchant Banking Partners II, L.P. had the right
to designate one member of our board of directors and such director had the
right to approve various transactions, including the incurrence, assumption or
guarantee by us of any indebtedness for borrowed money. On January 22, 2004, the
DLJ Parties sold substantially all of their shares and warrants to third
parties. In connection with such sale, the investors agreement was amended to
eliminate the DLJ Parties' board designation right and the related director
approval rights, and the DLJ Parties' board designee resigned from our board of
directors. In addition, the DLJ Parties returned to us for cancellation 104,770
shares of Series B Senior preferred stock having a liquidation value of $5.0
million, warrants to purchase 778 shares of Series A preferred stock having a
value of $0.8 million, and warrants to purchase 743,148 shares of common stock.
We reversed $0.9 million of discount and fees associated with the return of the
Series B Senior preferred stock. The net gain resulting from this transaction
has been deferred and classified as a liability in the accompanying consolidated
balance sheet. The deferred gain will be amortized against interest expense
through December 10, 2011, the Series B Senior preferred stock mandatory
redemption date.
15
On February 2, 2004, we completed an offering of 12-1/2% senior discount notes
and received net proceeds of $73.7 million. We used a portion of the proceeds
from the sale to repurchase 295,000 outstanding shares of Series B Senior
preferred stock at a price equal to 99% of its carrying value of $14.1 million.
In connection with this repurchase, 467 Series A preferred stock warrants having
a value of $0.5 million and 451,666 common stock warrants were returned to us
for cancellation. We reversed $0.5 million of discount and fees associated with
the return of the Series B Senior preferred stock. We intend to use the
remaining proceeds to fund future acquisitions and for general corporate
purposes.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 2004 COMPARED TO THREE MONTHS ENDED MARCH 31, 2003
REVENUE
Revenue increased $1.4 million, or 3.8%, to $39.6 million for the three months
ended March 31, 2004, from $38.1 million for the three months ended March 31,
2003.
EDUCATION PUBLISHING GROUP. Revenue from the Education Publishing Group
increased $1.3 million, or 7.2%, to $20.1 million for the three months ended
March 31, 2004, from $18.8 million for the three months ended March 31, 2003.
Sundance/Newbridge's revenue increased $0.4 million, or 4.5%, to $8.3 million
for the three months ended March 31, 2004, from $8.0 million for the three
months ended March 31, 2003. A significant contributor to these higher revenues
was the new Reading Powerworks product. Revenue at Triumph Learning increased
$1.0 million, or 13.9%, to $7.9 million for the three months ended March 31,
2004 from $7.0 million for the three months ended March 31, 2003. This increase
was due to strong sales of state specific test-prep products in four states.
Oakstone's revenue remained flat at $3.9 million for the three months ended
March 31, 2004 compared to the three months ended March 31, 2003.
LIBRARY PUBLISHING GROUP. Revenue from the Library Publishing Group
increased $0.1 million, or 0.5%, to $19.4 million for the three months ended
March 31, 2004, from $19.3 million for the three months ended March 31, 2003.
Revenue at Recorded Books increased $0.8 million, or 5.1%, to $16.6 million for
the three months ended March 31, 2004 from $15.8 million for the three months
ended March 31, 2003 resulting from increases in the school, library, consumer
and other channels partially offset by small declines in the retail and Audio
Adventures channels. Revenue at Chelsea House decreased $0.7 million, or 20.4%,
to $2.8 million for the three months ended March 31, 2004, from $3.5 million for
the three months ended March 31, 2003 due to continued softness in library
spending on traditional materials.
COST OF GOODS SOLD
Cost of goods sold increased $0.1 million, or 0.5%, to $12.0 million for the
three months ended March 31, 2004 from $11.9 million for the three months ended
March 31, 2003. The gross margin as a percentage of revenue for the three months
ended March 31, 2004 increased to 69.7% from 68.7% for the three months ended
March 31, 2003.
EDUCATION PUBLISHING GROUP. Cost of goods sold for the Education Publishing
Group increased slightly to $4.8 million for the three months ended March 31,
2004 from $4.7 million for the three months ended March 31, 2003, while the
gross margin increased to 76.3% from 74.8% period over period. At
Sundance/Newbridge, the cost of goods sold increased slightly to $2.1 million
from $2.0 million and the gross margin increased to 75.1% from 74.7% quarter
over quarter. Cost of goods sold for Triumph Learning decreased slightly to $1.6
million from $1.7 million while the gross margin increased to 79.9% from 76.3%
quarter over quarter. Cost of goods sold at Oakstone was $1.1 million for both
periods, the gross margin declined to 71.6% from 72.1% period over period.
LIBRARY PUBLISHING GROUP. Cost of goods sold for the Library Publishing
Group was $7.2 million for both periods and gross margin was 62.9% for both
periods. The cost of goods sold for Recorded Books increased $0.1 million, or
1.7%, to $6.4 million from $6.3 million while the gross margin for Recorded
Books increased to 61.2% from 59.9%. Cost of goods sold for Chelsea House
remained unchanged at $0.8 million while the gross margin dropped to 73.1% from
76.2% period over period.
16
SELLING, GENERAL & ADMINISTRATIVE EXPENSE
Selling, general and administrative expense is comprised of marketing and sales,
fulfillment and distribution, general and administrative and restructuring
charges on the accompanying consolidated statements of operations. Selling,
general and administrative expense increased $1.1 million, or 6.7%, to $17.6
million for the three months ended March 31, 2004 from $16.5 million for the
three months ended March 31, 2003, which is generally attributable to additional
sales commission and fulfillment costs resulting from our revenue growth for the
period as well as the addition of new in-house sales reps in several businesses.
Selling, general and administrative expense as a percentage of revenue increased
to 44.6% for the three months ended March 31, 2004 from 43.4% for the three
months ended March 31, 2003.
EDUCATION PUBLISHING GROUP. Selling, general and administrative expense for
the Education Publishing Group increased $0.9 million, or 9.6%, to $9.8 million
for the three months ended March 31, 2004 from $9.0 million for the three months
ended March 31, 2003. Selling, general and administrative expense for
Sundance/Newbridge increased $0.2 million due to higher marketing costs,
commissions based on the increased sales and the addition of in-house sales
reps. Selling, general and administrative expense for Triumph Learning and
Oakstone increased $0.4 million and $0.3 million, respectively, due to increased
marketing costs.
LIBRARY PUBLISHING GROUP. Selling, general and administrative expense for
the Library Publishing Group increased $0.5 million, or 8.6%, to $6.9 million
for the three months ended March 31, 2004 from $6.3 million for the three months
ended March 31, 2003. Selling, general and administrative expense for Recorded
Books increased $0.6 million, due to the addition of in-house sales reps and to
costs incurred with continued implementation of a new ERP system, while selling,
general and administrative expense at Chelsea House remained unchanged at $1.6
million.
CORPORATE. Our corporate level general and administrative expense decreased
$0.3 million, or 22.9%, to $1.0 million for the three months ended March 31,
2004 from $1.3 million for the three months ended March 31, 2003. The decrease
was primarily due to an open management position not filled during the first
quarter of 2004.
INTEREST EXPENSE
Interest expense increased $6.9 million, to $11.4 million for the three months
ended March 31, 2004 from $4.5 million for the three months ended March 31,
2003. This increase was related to the adoption of SFAS No. 150 as of January 1,
2004 which required our Series B Senior preferred stock dividends and accretion
to be included in interest expense, and the issuance of our 12-1/2% senior
discount notes on February 2, 2004. Our total outstanding debt increased from
$201.5 million as of March 31, 2003 to $417.9 million as of March 31, 2004. This
is primarily related to the adoption of SFAS No. 150 which required our Series B
Senior preferred stock to be included in total debt as of January 1, 2004, and
the issuance of our 12-1/2% senior discount notes.
Cash interest expense increased $3.5 million to $5.9 million for the three
months ended March 31, 2004 from $2.3 million for the three months ended March
31, 2003. The increase in cash interest was the result of the August 20, 2003
refinancing transaction where our old paid-in-kind interest bearing senior
subordinated notes were retired, and were replaced with a senior secured term
loan and 11-3/4% senior notes bearing cash interest. Our cash interest bearing
outstanding debt was $239.5 million as of March 31, 2004 compared to $142.5
million as of March 31, 2003.
17
Interest expense consists of the following:
THREE MONTHS ENDED MARCH 31,
------------------------------------
2004 2003
-------------- --------------
(UNAUDITED)
Interest expense:
Senior secured term loan $ 1,710,000 $ --
11-3/4% senior notes 4,068,000 --
12-1/2% senior discount notes - non-cash 1,453,000 --
Series B Senior preferred stock - non-cash 4,110,000 --
Secured bank loan -- 2,341,000
Subordinated notes - non-cash -- 2,177,000
Other 76,000 --
-------------- --------------
Interest expense $ 11,417,000 $ 4,518,000
============== ==============
DISCONTINUED OPERATIONS
In November 2002, we initiated a plan to sell our Andrews Communications, LLC
subsidiary, which included our Andrews Publishing and Oakstone Legal & Business
Publishing divisions. The results of operations of Andrews Communications have
been classified as a discontinued operation in our consolidated statements of
operations. For the three months ended March 31, 2003, Andrews Communications
had revenue of $1.6 million and net income of $0.2 million. On March 31, 2003
and May 30, 2003, in two separate transactions, we sold the assets of Andrews
Communications for gross proceeds of $8.0 million and net proceeds of $7.6
million. On May 30, 2003, in conjunction with the second transaction, we
recorded a loss on sale of $0.9 million. The net proceeds of the sales were used
to pay down debt under our old senior secured credit facility.
NET INCOME (LOSS)
Net loss for the three months ended March 31, 2004, was $5.3 million compared to
net income of $2.3 million for the three months ended March 31, 2003. This
decrease was due primarily to the adoption of SFAS No. 150 in which our Series B
Senior preferred stock dividends and accretion of $4.1 million for the three
months ended March 31, 2004 are now charged to interest expense. Additionally,
amortization of pre-publication costs increased $0.6 million due to the
increased investment in pre-publication costs in the preceding years and
amortization of deferred financing costs increased $0.5 million due to the
increase in deferred financing costs related to our refinancing transaction on
August 20, 2003 and February 2, 2004. The remaining $2.4 million decrease was a
result of increases in operating costs.
LIQUIDITY AND CAPITAL RESOURCES
For the past several years, we have relied primarily on borrowings under
our old senior secured credit facility and the benefits of the paid-in-kind
interest on our old senior subordinated notes due 2009 and our preferred stock
for our working capital, capital expenditures, acquisition needs and debt
service requirements. On August 20, 2003, we entered into a $30.0 million
four-year and nine-month senior secured revolving credit facility and a $100.0
million five-year senior secured term loan, and we issued $140.0 million in
aggregate principal amount eight-year 11-3/4% senior notes. The proceeds from
the 2003 refinancing transaction were used to repay the old senior secured
credit facility and old senior subordinated notes due 2009 and to pay fees
associated with the transaction. On February 2, 2004, we completed an offering
of 12-1/2% Senior discount notes. A portion of the proceeds from the offering
were used to repurchase 295,000 outstanding shares of Series B Senior preferred
stock. The Company intends to use the remaining proceeds to fund future
acquisitions and for general corporate purposes. As of March 31, 2004, our
available borrowing capacity under the senior secured revolving credit facility,
limited by certain restrictive covenants and financial ratio requirements, was
approximately $17.7 million.
18
Cash and cash equivalents increased by $45.4 million for the three months ended
March 31, 2004, to $77.7 million, from $32.3 million on December 31, 2003 due
primarily to receipt of the net proceeds from our issuance of 12-1/2% senior
discount notes on February 2, 2004.
While we cannot assure you that our business will generate sufficient cash flow
from operations, that any revenue growth or operating improvements will be
realized or that future borrowings will be available under the senior secured
revolving credit facility in an amount sufficient to enable us to service our
indebtedness, including the 11-3/4% senior notes and 12-1/2% senior discount
notes, or to fund our other liquidity needs, based on our current level of
operations, we believe that cash flow from operations and available cash,
together with available borrowings under the senior secured revolving credit
facility, will be adequate to meet our future liquidity needs for the next five
years.
CASH FLOWS
Net cash used in operating activities was $8.1 million for the three months
ended March 31, 2004 in comparison to net cash provided of $0.8 million for the
three months ended March 31, 2003. The increase was primarily due to the
increase in cash interest relating to our August 20, 2003 refinancing
transaction and an increase in cash used in current assets and liabilities.
Net cash used in investing activities was $3.4 million for the three months
ended March 31, 2004 in comparison to net cash provided of $2.4 million for the
three months ended March 31, 2003. The decrease was due to $6.7 million of net
proceeds received from the sale of our Oakstone Legal & Business division on
March 31, 2003, offset by $1.0 million decrease in capital expenditures during
the first quarter of 2004.
Net cash provided by financing activities was $56.5 million for the three months
ended March 31, 2004 in comparison to net cash provided of $0.2 million for the
three months ended March 31, 2003. The increase was due to $73.7 million of cash
provided from the completion of the 12-1/2% senior discount notes offering on
February 2, 2004, offset by $2.9 million of additions to deferred financing
costs associated with this offering. We also used $14.0 million of the proceeds
from the 12-1/2% senior discount note offering in the repurchase of 295,000
outstanding shares of Series B Senior preferred stock, at a price equal to 99%
of its liquidation value of $14.1 million.
CAPITAL EXPENDITURES
Capital expenditures - pre-publication costs relate to the costs incurred in the
development of new products. For the three months ended March 31, 2004, we had
$2.7 million of pre-publication expenditures compared to $3.5 million during the
three months ended March 31, 2003. We plan expenditures of approximately $15.9
million for pre-publication costs in 2004. This level of spending is intended to
support our core successful products and allow for the development of new
products.
Capital expenditures - property and equipment relate to the purchase of tangible
fixed assets such as computers, software and leasehold improvements. For the
three months ended March 31, 2004, we had $0.7 million of property, building and
equipment expenditures compared to $0.9 million during the three months ended
March 31, 2003. We plan expenditures of approximately $2.4 million for property
and equipment in 2004. This level of spending allows for our planned
implementation of an ERP system at our Recorded Books business, a software
conversion at out shared services facility in Northborough, Massachusetts as
well as general additions to furniture, fixtures and equipment.
SEASONALITY AND QUARTERLY RESULTS OF OPERATIONS
Our business is subject to modest seasonal fluctuations. Our revenue and income
from operations have historically been higher during the second and third
calendar quarters. In addition, our quarterly results of operations have
fluctuated in the past and can be expected to continue to fluctuate in the
future, as a result of many factors, including general economic trends; the
traditional cyclical nature of educational material sales; school, library and
consumer purchasing decisions; the unpredictable funding of schools and
libraries by federal, state, and local governments; consumer preferences and
spending trends; the need to increase inventories in advance of our primary
selling season; and timing of introductions of new products.
The unaudited quarterly information includes all normal recurring adjustments
that management considers necessary for a fair presentation of the information
shown. Because of the seasonality of our business and other factors, results for
any interim period are not necessarily indicative of the results that may be
achieved for the full fiscal year.
19
Item 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
We utilize cash from operations and short-term borrowings to fund our working
capital and investment needs. Cash balances are normally invested in high-grade
securities with terms shorter than three months. Because of the short-term
nature of these investments, changes in interest rates would not materially
affect the fair value of these instruments.
Inflation has not had a significant impact on our operations in the past two
years. We do not expect inflation to have a significant impact on our
consolidation results of operations or financial condition in the foreseeable
future.
Market risks relating to our operations result primarily from changes in
interest rates. However, as most of our indebtedness is at fixed rates we do not
consider the impact of interest rate fluctuations to represent a significant
risk during 2004.
To reduce the impact of increases in interest rates, we may, in the normal
course of business, enter into certain derivative instruments to hedge such
changes.
We have minimal exposure to foreign currency rate fluctuations on our foreign
sales, as currently we have minimal transactions denominated in foreign
currency. As a result, we do not hedge the exposure to these changes, and the
impact on our results of operations from the currency fluctuations for the three
months ended March 31, 2004 and 2003 has been diminimus.
We have available a $30.0 million senior secured revolving credit facility as a
source of financing for our working capital requirements subject to certain
restrictive covenants that can reduce the available aggregate borrowings under
the facility. As of March 31, 2004, our available borrowing capacity under the
senior secured revolving credit facility, limited by such restrictive covenants,
was approximately $17.7 million. Borrowings under this revolving credit
agreement bear interest at variable rates based on LIBOR plus an applicable
spread. As of March 31, 2004, we had no borrowings outstanding under this credit
facility.
Item 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures.
As of March 31, 2004 we evaluated, under the supervision and with the
participation of our management, including our Chief Executive Officer and Chief
Financial Officer, the effectiveness of the design and operation of our
disclosure controls and procedures. In designing and evaluating our disclosure
controls and procedures, we and our management recognize that any controls and
procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives, and our
management necessarily was required to apply its judgment in evaluating and
implementing possible controls and procedures. Based upon that evaluation, our
Chief Executive Officer and Chief Financial Officer have concluded that they
believe that, as of the date of completion of the evaluation, our disclosure
controls and procedures were reasonably effective to ensure that information
required to be disclosed by us in the reports we file or submit under the
Securities Exchange Act of 1934 or under the Indenture, as applicable, is
recorded, processed, summarized and reported, within the time periods specified
in the Securities and Exchange Commission's rules and forms. We will continue to
review and document our disclosure controls and procedures on an ongoing basis,
and may from time to time make changes aimed at enhancing their effectiveness
and to ensure that our systems evolve with our business.
(b) Changes in internal controls over financial reporting.
There was no change in our internal controls over financial reporting that
occurred during the period covered by this report that has materially affected,
or is reasonably likely to materially affect, our internal control over
financial reporting.
20
SIGNATURES
The Company has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
HAIGHTS CROSS COMMUNICATIONS, INC.
Dated: May 14, 2004 BY: /s/ Peter J. Quandt
---------------------------------------------------
Peter J. Quandt
Chairman, Chief Executive Officer and President
(Principal Executive Officer)
Dated: May 14, 2004 /s/ Paul J. Crecca
---------------------------------------------------
Paul J. Crecca
Executive Vice President, Chief Financial Officer
and Treasurer
(Principal Financial and Accounting Officer)
Dated: May 14, 2004 /s/ Mark Kurtz
---------------------------------------------------
Mark Kurtz
Vice President of Finance and Accounting and
Chief Accounting Officer
EXHIBIT NO. EXHIBIT DESCRIPTION
- ----------- ---------------------------------------------------------------------------------------
31.1* Rule 13a-14(a)/15d-14(a) Certification of Peter J. Quandt
31.2* Rule 13a-14(a)/15d-14(a) Certification of Paul J. Crecca
32.1** Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes Oxley Act of 2002
32.2** Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes Oxley Act of 2002
- -------------
* filed herewith
** furnished herewith
22