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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTIONS 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2003
COMMISSION FILE NUMBER 333-62021
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HOME INTERIORS & GIFTS, INC.
(Exact name of registrant as specified in its charter)
TEXAS 75-0981828
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1649 FRANKFORD ROAD WEST, CARROLLTON, TEXAS 75007-4605
(Address of principal executive offices) (Zip Code)
(972) 695-1000
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 Exchange Act Rule 12b-2). Yes [ ] No [X]
As of August 12, 2003, 15,240,218 shares of the Company's common stock, par
value $0.10 per share, were outstanding.
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1
HOME INTERIORS & GIFTS, INC. AND SUBSIDIARIES
INDEX
PAGE NO.
--------
PART I - FINANCIAL INFORMATION
Item 1. Unaudited Interim Consolidated Financial Statements:
Consolidated Balance Sheets as of December 31, 2002 and
June 30, 2003 ...................................................................... 3
Consolidated Statements of Operations and Comprehensive
Income for the three months and six months ended June 30, 2002 and
2003 ............................................................................... 4
Consolidated Statements of Cash Flows for the six months
ended June 30, 2002 and 2003 ....................................................... 5
Notes to Unaudited Interim Consolidated Financial
Statements ......................................................................... 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ................................................ 17
Item 3. Quantitative and Qualitative Disclosure About
Market Risk ........................................................................ 25
Item 4. Controls and Procedures ...................................................... 25
PART II - OTHER INFORMATION
Item 1. Legal proceedings ............................................................ 26
Item 6. Exhibits and Reports on Form 8-K ............................................. 26
2
ITEM 1. UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS.
HOME INTERIORS & GIFTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2002 AND JUNE 30, 2003
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
(UNAUDITED)
DECEMBER 31, JUNE 30,
2002 2003
------------ ------------
ASSETS
Current assets:
Cash ................................................................. $ 64,116 $ 15,699
Accounts receivable, net ............................................. 13,581 25,568
Inventories, net ..................................................... 55,209 88,916
Deferred income tax .................................................. 8,399 9,935
Other current assets ................................................. 2,997 4,496
------------ ------------
Total current assets ......................................... 144,302 144,614
Property, plant and equipment, net ..................................... 69,482 78,920
Debt issuance costs, net ............................................... 5,067 4,511
Goodwill ............................................................... 11,126 12,695
Other assets, net ...................................................... 621 661
------------ ------------
Total assets ................................................. $ 230,598 $ 241,401
============ ============
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities:
Accounts payable ..................................................... $ 32,844 $ 43,582
Accrued seminars and incentive awards ................................ 22,435 14,529
Royalties payable .................................................... 13,327 6,356
Current portion of related party note payable ........................ 663 663
Current maturities of long-term debt and capital lease
obligations ....................................................... 21,017 7,701
Other current liabilities ............................................ 21,699 33,343
------------ ------------
Total current liabilities .................................... 111,985 106,174
Long-term related party note payable, net of current maturities ........ 1,362 1,362
Long-term debt and capital lease obligations, net of current
maturities ........................................................... 321,874 319,641
Non-current deferred income tax liability .............................. 3,354 2,923
Other liabilities ...................................................... 19,724 19,358
------------ ------------
Total liabilities ............................................ 458,299 449,458
------------ ------------
Commitments and contingencies (see Note 9)
Shareholders' deficit:
Preferred stock, par value $0.01 per share 10,000,000 shares
authorized 96,058.98 shares designated as cumulative 12.5%
Senior Convertible Preferred Stock at a liquidation value of
$1,000 per share, 96,058.98 shares issued and outstanding ......... 94,196 94,196
Common stock, par value $0.10 per share, 75,000,000 shares
authorized, 15,240,218 shares issued and outstanding .............. 1,524 1,524
Additional paid-in capital ........................................... 180,829 183,044
Accumulated deficit .................................................. (503,731) (486,645)
Other ................................................................ (519) (176)
------------ ------------
Total shareholders' deficit .................................. (227,701) (208,057)
------------ ------------
Total liabilities and shareholders' deficit .................. $ 230,598 $ 241,401
============ ============
The accompanying notes are an integral part of these financial statements.
3
HOME INTERIORS & GIFTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2002 AND 2003
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------------- ---------------------------
2002 2003 2002 2003
---------- ---------- ---------- ----------
Net sales ................................................. $ 146,704 $ 151,149 $ 264,724 $ 277,270
Cost of goods sold ........................................ 62,641 66,527 114,113 121,404
---------- ---------- ---------- ----------
Gross profit .............................................. 84,063 84,622 150,611 155,866
Selling, general and administrative:
Selling ................................................. 27,843 26,270 49,204 46,771
Freight, warehouse and distribution ..................... 16,060 18,269 28,977 33,891
General and administrative .............................. 14,116 16,401 26,718 32,041
Loss (gain) on the disposition of assets ................ (361) 289 (361) 293
Stock option expense (credit) ........................... (21) 1,291 93 2,215
---------- ---------- ---------- ----------
Total selling, general and administrative ....... 57,637 62,520 104,631 115,211
---------- ---------- ---------- ----------
Operating income .......................................... 26,426 22,102 45,980 40,655
Other income (expense):
Interest income ......................................... 76 69 124 225
Interest expense ........................................ (6,767) (6,800) (13,265) (13,862)
Other income (expense), net ............................. (1,899) 402 (2,018) 333
---------- ---------- ---------- ----------
Other income (expense), net ..................... (8,590) (6,329) (15,159) (13,304)
---------- ---------- ---------- ----------
Income before income taxes ................................ 17,836 15,773 30,821 27,351
Income taxes .............................................. 6,694 5,920 11,490 10,265
---------- ---------- ---------- ----------
Net income ................................................ 11,142 9,853 19,331 17,086
Other comprehensive income (loss):
Cumulative translation adjustment and other ............. (181) 345 (158) 343
---------- ---------- ---------- ----------
Other comprehensive income (loss) ............... (181) 345 (158) 343
---------- ---------- ---------- ----------
Comprehensive income ...................................... $ 10,961 $ 10,198 $ 19,173 $ 17,429
========== ========== ========== ==========
The accompanying notes are an integral part of these financial statements.
4
HOME INTERIORS & GIFTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2003
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS ENDED
---------------------------
JUNE 30,
---------------------------
2002 2003
------------ ------------
Cash flows from operating activities:
Net income ............................................................. $ 19,331 $ 17,086
------------ ------------
Adjustments to reconcile net income to net cash
used in operating activities:
Depreciation and amortization ........................................ 5,873 7,662
Amortization of debt issuance costs and other ........................ 1,069 555
Provision for doubtful accounts ...................................... 867 1,427
Provision for losses on inventories .................................. 2,538 (2,723)
Loss (gain) on the disposition of assets ............................. (361) 293
Stock option expense ................................................. 93 2,215
Deferred tax benefit ................................................. (2,644) (1,963)
Changes in assets and liabilities:
Accounts receivable ................................................ (7,899) (13,805)
Inventories ........................................................ (24,064) (29,239)
Other current assets ............................................... (1,415) (1,507)
Other assets ....................................................... (64) (137)
Accounts payable ................................................... 3,012 12,249
Income taxes payable ............................................... 1,518 6,328
Other accrued liabilities .......................................... 2,355 (10,146)
------------ ------------
Total adjustments .............................................. (19,122) (28,791)
------------ ------------
Net cash provided by (used in) operating activities ............ 209 (11,705)
------------ ------------
Cash flows from investing activities:
Business acquisitions, net of cash acquired .......................... -- (12,430)
Purchases of property, plant and equipment ........................... (4,940) (8,546)
Proceeds from the sale of property, plant and equipment .............. 574 23
Purchase of intangible assets ........................................ (10) --
------------ ------------
Net cash used in investing activities .......................... (4,376) (20,953)
------------ ------------
Cash flows from financing activities:
Payments of principal under capital lease obligations ................ (694) (1,165)
Payments of principal under the Senior Credit Facility ............... (2,750) (14,187)
Payments of principal of other bank debt ............................. -- (750)
------------ ------------
Net cash used in financing activities .......................... (3,444) (16,102)
------------ ------------
Effect of cumulative translation adjustment ............................ (158) 343
------------ ------------
Net decrease in cash and cash equivalents .............................. (7,769) (48,417)
Cash and cash equivalents at beginning of year ......................... 13,712 64,116
------------ ------------
Cash and cash equivalents at end of period ............................. $ 5,943 $ 15,699
============ ============
The accompanying notes are an integral part of these financial statements.
5
HOME INTERIORS & GIFTS, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND BACKGROUND
Home Interiors & Gifts, Inc. (the "Company") is a fully-integrated
manufacturer and distributor of home decorative accessories. The Company
believes it is the largest direct seller of home decorative accessories in the
United States, as measured by sales. The Company's products include, but are not
limited to, framed artwork and mirrors, candles and candle accessories, plaques,
figurines, planters, artificial floral arrangements, wall shelves, sconces,
small furniture, and tableware (the "Products"). The Company primarily sells the
Products through a direct selling channel of non-employee, independent
contractor sales representatives ("Displayers") who resell the Products
primarily through the "party-plan" method of conducting in-home presentations
("Shows") for potential customers. The Company has approximately 87,400 active
Displayers located in the United States, Mexico, Canada and Puerto Rico.
The Company has been located in Dallas, Texas since its inception in 1957.
Currently the majority of the Company's outstanding common stock of record is
owned by affiliates of Hicks, Muse, Tate & Furst Incorporated, a Dallas-based
private investment firm ("Hicks Muse").
The Company purchases its Products from a select number of independent
suppliers as well as from its wholly owned subsidiaries. During the second
quarter of 2003, approximately 40.9% of the dollar volume of Products purchased
for the direct selling channel of the Company was purchased from, and
manufactured by, the Company's subsidiaries. In addition to the products sold to
the Company for the direct selling channel, the subsidiaries have a growing
presence in the wholesale supply market.
2. SIGNIFICANT ACCOUNTING POLICIES
These consolidated financial statements include the accounts of the Company.
All significant intercompany accounts and transactions have been eliminated. The
Company records sales and related expenses on a weekly basis ending on each
Saturday. Each quarter consists of thirteen weeks. The last days of the quarters
ended June 30, 2002 and 2003 in the accompanying unaudited consolidated
financial information were June 29, 2002 and June 28, 2003, respectively.
The consolidated financial information as of June 30, 2003 and for the three
months and six months ended June 30, 2002 and 2003 is unaudited. In the opinion
of management, the accompanying unaudited consolidated financial information and
related notes thereto contain all adjustments, consisting only of normal,
recurring adjustments, necessary to present fairly the Company's consolidated
financial position as of June 30, 2003 and December 31, 2002, its operating
results and comprehensive income for the three months and six months ended June
30, 2002 and 2003, and its cash flows for the six months ended June 30, 2002 and
2003. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been omitted pursuant to the rules and regulations of the
Securities and Exchange Commission (the "SEC"). The results of operations for
the periods presented are not necessarily indicative of the results to be
expected for the full year.
These unaudited interim consolidated financial statements and notes thereto
should be read in conjunction with the Company's audited consolidated financial
statements and notes thereto included in the Company's Form 10-K for the year
ended December 31, 2002 as filed with the SEC.
RECLASSIFICATIONS
Certain reclassifications have been made to prior period balances to conform
with current year presentation.
6
STOCK-BASED COMPENSATION PLANS
The Company has adopted several stock option plans. For Displayers the
Company has adopted the "Independent Contractor Stock Option Plan" and accounts
for options issued under the Independent Contractor Stock Option Plan in
accordance with Statement of Financial Accounting Standards No. 123, "Accounting
for Stock-Based Compensation" ("SFAS No. 123"). For key employees, the Company
has adopted the "1998 Key Employee Stock Option Plan" and the "2002 Key Employee
Stock Option Plan". The Company accounts for the options issued under the 1998
Key Employee Stock Option Plan and the 2002 Key Employee Stock Option Plan in
accordance with the Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees" ("APB 25").
COMPENSATION CHARGE
SFAS No. 123 establishes a fair value basis of accounting for stock-based
compensation plans. The effects of applying SFAS No. 123 as shown below are not
indicative of future amounts. Had the compensation cost for the Company's 1998
Key Employee Stock Option Plan and 2002 Key Employee Stock Option Plan been
determined consistent with SFAS No. 123, the Company's compensation cost and net
income for the three months and six months ended June 30, 2002 and 2003 would
approximate (in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30 JUNE 30
--------------------- --------------------
2002 2003 2002 2003
--------- -------- -------- --------
Net income, as reported ......................................... $ 11,142 $ 9,853 $ 19,331 $ 17,086
Add: Stock-based employee compensation expense
included in reported net income, net of related tax effects ... -- 495 -- 991
Deduct: Stock-based employee compensation
expense determined under fair value based method for
all awards, net of related tax effects ........................ (158) (682) (311) (1,263)
--------- -------- -------- --------
Pro forma net income ............................................ $ 10,984 $ 9,666 $ 19,020 $ 16,814
========= ======== ======== ========
3. ACQUISITIONS
On January 29, 2003, the Company acquired 100% of the assets of Tempus
Corporation, S.A. de C.V., a manufacturer of metal products located in
Monterrey, Mexico, for approximately $4.7 million, plus deferred payments of
$2.6 million, based upon the future profitability of the acquired business above
certain thresholds. Existing cash resources were used to fund the acquisition.
At closing, the Company paid $2.0 million in cash. In February and March of
2003, the Company paid an additional $2.3 million in cash. The acquisition of
Tempus Corporation, S.A. de C.V. was accounted for as a business acquisition in
accordance with SFAS No. 141. The aggregate purchase price was allocated to the
underlying assets purchased, primarily machinery and equipment assets of $4.0
million, based upon their respective fair market values at the date of
acquisition, and the excess of purchase price over the fair value of the net
assets acquired was recorded as goodwill. As a result of this acquisition,
goodwill recognized was approximately $228,000. In July of 2003, the $2.6
million deferred payment obligation to the seller was terminated.
On February 7, 2003, the Company acquired 100% of the assets of Ceramica y
Vidrio de Nuevo Leon, S.A. de C.V., Maquiladora Produr, S.A. de C.V., and
Industrias Tromex Corporation, S.A. de C.V. (collectively, "Produr") for
approximately $6.7 million, plus a deferred payment of $125,000, based upon the
profitability of the acquired business in the year 2003. Produr manufactures
glass, ceramics, and metal products and is located in Monterrey and Guadalajara,
Mexico. Existing cash resources were used to fund the acquisition. Prior to
closing, the Company had advanced approximately $5.3 million under the terms of
a promissory note that was paid at closing. In connection with the closing, the
Company paid liabilities of the selling entities totaling $5.3 million. The
acquisition of Produr was accounted for as a business acquisition in accordance
with SFAS No. 141. The aggregate purchase price was allocated to the underlying
assets and liabilities, primarily property and equipment of $6.0 million,
inventory of $391,000 and capital lease obligations of $662,000, based upon
their respective fair market values at the date of acquisition. The excess of
the purchase price over the fair value of the net assets acquired was recorded
as goodwill. As a result of this acquisition goodwill recognized was
approximately $884,000.
7
On March 14, 2003, the Company acquired 100% of the assets of Edward
Marshall Boehm, Inc., a manufacturer of porcelain products located in Trenton,
New Jersey, for approximately $1.8 million. Existing cash resources were used to
fund the acquisition. The acquisition of Edward Marshall Boehm, Inc. was
accounted for as a business acquisition in accordance with SFAS No. 141. The
aggregate purchase price was allocated to the underlying assets purchased,
primarily machinery and equipment assets of $461,000 and inventory of $949,000,
based upon their respective fair market values at the date of acquisition. The
excess of the purchase price over the fair value of the net assets acquired was
recorded as goodwill. As a result of this acquisition, goodwill recognized was
approximately $411,000.
4. INVENTORIES, NET
Inventories, net consisted of the following as of December 31, 2002 and June
30, 2003 (in thousands):
DECEMBER 31, JUNE 30,
2002 2003
------------ ------------
Raw materials .......................... $ 4,974 $ 9,680
Work in process ........................ 1,175 2,539
Finished goods ......................... 57,076 80,766
------------ ------------
63,225 92,985
Inventory allowance .................... (8,016) (4,069)
------------ ------------
$ 55,209 $ 88,916
============ ============
5. OTHER CURRENT LIABILITIES
Other current liabilities consisted of the following as of December 31, 2002
and June 30, 2003 (in thousands):
DECEMBER 31, JUNE 30,
2002 2003
------------ ------------
Interest ............................... $ 1,241 $ 3,806
Accrued compensation ................... 6,440 5,029
Income tax payable ..................... -- 6,328
Sales taxes ............................ 3,980 2,206
Deferred revenue ....................... 1,274 9,210
Workers' compensation .................. 3,142 3,099
Related party .......................... 1,441 --
Other current liabilities .............. 4,181 3,665
------------ ------------
$ 21,699 $ 33,343
============ ============
6. ADOPTION OF NEW ACCOUNTING STANDARDS
In May of 2003, the Financial Accounting Standards Board 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 classification and measurement of
financial instruments issued by entities that have the characteristics of both
liabilities and equity. SFAS No. 150 is effective for financial instruments
entered into or modified after May 31, 2003. The Company adopted SFAS No. 150 on
May 31, 2003 and there was not a financial accounting impact associated with its
adoption.
In April of 2003, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities" ("SFAS No. 149"). SFAS No. 149
clarifies the definition of a derivative and amends the implementation guidance
and of Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS No. 133"). SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003, except for
hedging relationships designated after June 30, 2003. The provisions of SFAS No.
149, which amend implementation guidance of SFAS No. 133, are effective for
fiscal quarters that began prior to June 15, 2003. The Company adopted certain
provisions of SFAS No. 149 and determined that there is not a financial impact
on the quarter ended, March 31, 2003. The Company adopted the remaining
provisions of SFAS No. 149 on June 30, 2003 and there was not a financial impact
associated with its adoption.
8
In December of 2002, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure" ("SFAS No. 148"). SFAS No. 148 amends
FASB Statement No. 123 "Accounting for Stock-Based Compensation" to provide
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation and amends the
disclosure requirements of Statement 123 to require prominent disclosure about
the effects on reported net income of an entity's accounting policy decisions
with respect to stock-based employee compensation. SFAS No. 148 also amends APB
Opinion No. 28 "Interim Financial Report", to require disclosure about those
effects in interim financial information. SFAS No. 148 is effective for fiscal
year ending December 31, 2002. The Company has elected to continue accounting
for the employee stock options plans under APB 25; however, the Company has
adopted the new disclosure requirements of SFAS No. 148.
In July of 2002 the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 146, "Accounting for Costs Associated with
Exit or Disposal Activities" ("SFAS No. 146"). SFAS No. 146 requires companies
to recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
SFAS No. 146 is to be applied prospectively to exit or disposal activities
initiated after December 31, 2002. The Company adopted SFAS No. 146 on January
1, 2003 and there was not a financial accounting impact associated with its
adoption.
7. SEGMENT REPORTING
The Company's reportable segments are based upon functional lines of
business as follows:
- Direct Selling Domestic -- direct seller of home decorative accessories
in the United States;
- Direct Selling International -- direct seller of home decorative
accessories in Mexico, Canada and Puerto Rico; and
- Wholesale Supply -- manufactures and distributes candles, framed
artwork, mirrors, various types of molded plastic, metal, glass, and
ceramic products for affiliates and other non-affiliate resellers.
The Company evaluates the performance of its segments and allocates
resources to them based on earnings before interest, taxes, the effects of SAB
101, depreciation and amortization, reorganization costs, non-cash expense for
stock options, losses on disposition of assets, and other income expense
("EBITDA"). The Company uses EBITDA as a performance measure due to the
Company's required compliance thresholds for EBITDA covenants per the Senior
Credit Agreement. The accounting principles of the segments are the same as
those described in Note 2. Segment data includes intersegment sales and
intercompany net receivable balances. Eliminations consist primarily of
intersegment sales between the wholesale supply and the direct selling markets,
as well as the elimination of the investment in each subsidiary for
consolidation purposes. The table below presents information about reportable
segments used by the Company's executive management team as of and for the three
months and six months ended June 30, 2002 and 2003 (in thousands):
DIRECT DIRECT
THREE MONTHS ENDED SELLING SELLING WHOLESALE
JUNE 30, DOMESTIC INTERNATIONAL SUPPLY ELIMINATIONS CONSOLIDATED
------------------ -------- ------------- --------- ------------ ------------
2002
Net sales to non-affiliates .......... $ 135,198 $ 8,600 $ 2,906 $ -- $ 146,704
Net sales to affiliates .............. 4,119 -- 38,202 (42,321) --
EBITDA ............................... 13,082 1,155 14,508 (896) 27,849
2003
Net sales to non-affiliates .......... $ 131,535 $ 14,351 $ 5,263 $ -- $ 151,149
Net sales to affiliates .............. 13,581 -- 37,001 (50,582) --
EBITDA ............................... 16,488 2,438 10,902 (1,868) 27,960
9
DIRECT DIRECT
SIX MONTHS ENDED SELLING SELLING WHOLESALE
JUNE 30, DOMESTIC INTERNATIONAL SUPPLY ELIMINATIONS CONSOLIDATED
---------------- -------- ------------- --------- ------------ ------------
2002
Net sales to non-affiliates .......... $ 244,292 $ 15,889 $ 4,543 $ -- $ 264,724
Net sales to affiliates .............. 7,753 -- 70,341 (78,094) --
EBITDA ............................... 29,079 2,026 25,468 (1,454) 55,119
Total assets ......................... 165,894 4,747 79,884 (72,370) 178,155
Capital expenditures.................. 3,893 9 1,038 -- 4,940
2003
Net sales to non-affiliates .......... $ 241,453 $ 24,444 $ 11,373 $ -- $ 277,270
Net sales to affiliates .............. 18,222 -- 70,241 (88,463) --
EBITDA ............................... 32,185 3,087 22,451 (2,251) 55,472
Total assets ......................... 223,713 8,001 84,027 (74,340) 241,401
Capital expenditures ................. 4,890 75 3,581 -- 8,546
The following table represents a reconciliation of consolidated EBITDA to income
before income taxes for the three months and six months ended June 30, 2002 and
2003 (in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------- ---------------------
2002 2003 2002 2003
--------- --------- --------- ---------
EBITDA ........................................... $ 27,849 $ 27,960 $ 55,119 $ 55,472
Effects of SAB 101 ............................... 1,696 707 (2,195) (2,863)
Depreciation and amortization .................... (2,920) (4,006) (5,873) (7,662)
Loss (gain) on disposition of assets ............. 361 (289) 361 (293)
Stock option expense ............................. 21 (1,291) (93) (2,215)
Reorganization costs ............................. (581) (979) (1,339) (1,784)
Interest income .................................. 76 69 124 225
Interest expense ................................. (6,767) (6,800) (13,265) (13,862)
Other income (expense), net ...................... (1,899) 402 (2,018) 333
--------- --------- --------- ---------
Income before income taxes ....................... $ 17,836 $ 15,773 $ 30,821 $ 27,351
========= ========= ========= =========
8. GUARANTOR FINANCIAL DATA
Dallas Woodcraft Company, LP, DWC GP, Inc., GIA, Inc., Homco, Inc., Spring
Valley Scents, Inc., Laredo Candle Company, L.P., Brenda Buell & Associates,
Inc., EM Boehm, Inc., Homco Puerto Rico, Inc. and HIG Investments, Inc.
(collectively, the "Guarantors") unconditionally, on a joint and several basis,
guarantee the Company's credit agreement with its principal lenders (the "Senior
Credit Agreement"), and the Company's 10 1/8% Senior Subordinated Notes due 2008
in the amount of $149.1 million (the "Notes"). The Company's other subsidiaries,
Home Interiors de Mexico, S. de R.L. de C.V., Home Interiors Services de Mexico,
S.A. de C.V., HI Ceramics, S.A. de C.V., HI Metals, S.A. de C.V., HI Glass, S.A.
de C.V., and HI Trading Mexicana, S.A. de C.V. (collectively, the "Non-
Guarantors") have not guaranteed the Senior Credit Facility or the Notes.
Guarantor and Non-Guarantor financial statements on an individual basis are not
significant and have been omitted. Accordingly, the following table presents
financial information of the Guarantors and Non-Guarantors on a consolidating
basis (in thousands):
10
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2002
THREE MONTHS ENDED
JUNE 30, 2002 COMPANY GUARANTORS NON GUARANTORS ELIMINATIONS CONSOLIDATED
------------- ---------- ---------- -------------- ------------ ------------
Net sales ........................................ $ 140,077 $ 41,792 $ 7,156 $ (42,321) $ 146,704
Cost of good sold ................................ 74,524 26,087 3,454 (41,424) 62,641
---------- ---------- ---------- ---------- ----------
Gross profit ................................... 65,553 15,705 3,702 (897) 84,063
Total selling, general and administrative ........ 53,286 1,828 2,523 -- 57,637
---------- ---------- ---------- ---------- ----------
Operating income (loss) ........................ 12,267 13,877 1,179 (897) 26,426
Other income (expense), net ...................... (7,704) 116 (314) (688) (8,590)
---------- ---------- ---------- ---------- ----------
Income (loss) before income taxes .............. 4,563 13,993 865 (1,585) 17,836
Provision for income taxes ....................... (1,431) (5,211) (52) -- (6,694)
Equity in income (loss) of subsidiaries, net of
tax ............................................ 9,595 8 -- (9,603) --
---------- ---------- ---------- ---------- ----------
Net income (loss) .............................. 12,727 8,790 813 (11,188) 11,142
Other comprehensive income (loss) ................ 2 -- (183) -- (181)
---------- ---------- ---------- ---------- ----------
Comprehensive income (loss) .................... $ 12,729 $ 8,790 $ 630 $ (11,188) $ 10,961
========== ========== ========== ========== ==========
SIX MONTHS ENDED
JUNE 30, 2002 COMPANY GUARANTORS NON GUARANTORS ELIMINATIONS CONSOLIDATED
------------- ---------- ---------- -------------- ------------ ------------
Net sales ........................................ $ 253,117 $ 76,115 $ 13,586 $ (78,094) $ 264,724
Cost of good sold ................................ 135,546 48,460 6,746 (76,639) 114,113
---------- ---------- ---------- ---------- ----------
Gross profit ................................... 117,571 27,655 6,840 (1,455) 150,611
Total selling, general and administrative ........ 96,378 3,354 4,899 -- 104,631
---------- ---------- ---------- ---------- ----------
Operating income (loss) ........................ 21,193 24,301 1,941 (1,455) 45,980
Other income (expense), net ...................... (14,332) 211 (350) (688) (15,159)
---------- ---------- ---------- ---------- ----------
Income (loss) before income taxes .............. 6,861 24,512 1,591 (2,143) 30,821
Provision for income taxes ....................... (2,238) (8,889) (363) -- (11,490)
Equity in income (loss) of subsidiaries, net of
tax ............................................ 16,850 12 -- (16,862) --
---------- ---------- ---------- ---------- ----------
Net income (loss) .............................. 21,473 15,635 1,228 (19,005) 19,331
Other comprehensive income ....................... 4 -- (162) -- (158)
---------- ---------- ---------- ---------- ----------
Comprehensive income (loss) .................... $ 21,477 $ 15,635 $ 1,066 $ (19,005) $ 19,173
========== ========== ========== ========== ==========
11
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2003
THREE MONTHS ENDED
JUNE 30, 2003 COMPANY GUARANTORS NON GUARANTORS ELIMINATIONS CONSOLIDATED
------------- ---------- ---------- -------------- ------------ ------------
Net sales ........................................ $ 147,196 $ 40,394 $ 14,934 $ (51,375) $ 151,149
Cost of good sold ................................ 78,682 26,483 10,870 (49,508) 66,527
---------- ---------- ---------- ---------- ----------
Gross profit ................................... 68,514 13,911 4,064 (1,867) 84,622
Total selling, general and
administrative ................................. 54,889 2,997 4,634 -- 62,520
---------- ---------- ---------- ---------- ----------
Operating income (loss) ........................ 13,625 10,914 (570) (1,867) 22,102
Other income (expense), net ...................... (6,359) 105 (86) 11 (6,329)
---------- ---------- ---------- ---------- ----------
Income (loss) before income taxes .............. 7,266 11,019 (656) (1,856) 15,773
Benefit (provision) for income
taxes ............................................ (2,055) (4,043) 178 -- (5,920)
Equity in income (loss) of subsidiaries, net of
tax ............................................ 6,500 (1,345) -- (5,155) --
---------- ---------- ---------- ---------- ----------
Net income (loss) .............................. 11,711 5,631 (478) (7,011) 9,853
Other comprehensive income (loss) ................ (7) -- 352 -- 345
---------- ---------- ---------- ---------- ----------
Comprehensive income (loss) .................... $ 11,704 $ 5,631 $ (126) $ (7,011) $ 10,198
========== ========== ========== ========== ==========
SIX MONTHS ENDED
JUNE 30, 2003 COMPANY GUARANTORS NON GUARANTORS ELIMINATIONS CONSOLIDATED
------------- ---------- ---------- -------------- ------------ ------------
Net sales ........................................ $ 262,970 $ 78,968 $ 24,846 $ (89,514) $ 277,270
Cost of good sold ................................ 139,366 51,484 17,818 (87,264) 121,404
---------- ---------- ---------- ---------- ----------
Gross profit ................................... 123,604 27,484 7,028 (2,250) 155,866
Total selling, general and administrative ........ 102,010 5,194 8,007 -- 115,211
---------- ---------- ---------- ---------- ----------
Operating income (loss) ........................ 21,594 22,290 (979) (2,250) 40,655
Other income (expense), net ...................... (13,314) 191 (202) 21 (13,304)
---------- ---------- ---------- ---------- ----------
Income (loss) before income taxes .............. 8,280 22,481 (1,181) (2,229) 27,351
Benefit (provision) for income taxes ............. (2,620) (8,006) 361 -- (10,265)
Equity in income (loss) of subsidiaries, net of
tax ............................................ 13,656 (1,754) -- (11,902) --
---------- ---------- ---------- ---------- ----------
Net income (loss) .............................. 19,316 12,721 (820) (14,131) 17,086
Other comprehensive income (loss) ................ (10) -- 353 -- 343
---------- ---------- ---------- ---------- ----------
Comprehensive income (loss) .................... $ 19,306 $ 12,721 $ (467) $ (14,131) $ 17,429
========== ========== ========== ========== ==========
12
CONDENSED CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 31, 2002
COMPANY GUARANTORS NON GUARANTORS CONSOLIDATING ELIMINATIONS CONSOLIDATED
------- ---------- -------------- ------------- ------------ ------------
ASSETS
Current assets:
Cash .................................... $ 64,053 $ (955) $ 1,018 $ 64,116 $ -- $ 64,116
Accounts receivable, net ................ 9,682 2,226 1,673 13,581 -- 13,581
Inventories, net ........................ 47,186 7,473 3,875 58,534 (3,325) 55,209
Other current assets .................... 10,274 952 170 11,396 -- 11,396
Due to (due from) subsidiaries .......... (56,142) 58,569 (2,427) -- -- --
---------- ---------- ---------- ---------- ---------- ----------
Total current assets ................ 75,053 68,265 4,309 147,627 (3,325) 144,302
Property, plant and equipment, net ........ 51,044 18,079 359 69,482 -- 69,482
Investment in subsidiaries ................ 74,805 29 -- 74,834 (74,834) --
Debt issuance costs and other assets ...... 5,663 11,151 -- 16,814 -- 16,814
---------- ---------- ---------- ---------- ---------- ----------
Total assets ........................ $ 206,565 $ 97,524 $ 4,668 $ 308,757 $ (78,159) $ 230,598
========== ========== ========== ========== ========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable ........................ $ 28,597 $ 3,159 $ 457 $ 32,213 $ 631 $ 32,844
Related party note payable .............. 663 -- -- 663 -- 663
Current maturities of long-term debt
and capital lease obligations .......... 20,266 751 -- 21,017 -- 21,017
Other current liabilities ............... 35,973 20,030 1,458 57,461 -- 57,461
---------- ---------- ---------- ---------- ---------- ----------
Total current liabilities ........... 85,499 23,940 1,915 111,354 631 111,985
Long term related party note payable ...... 1,362 -- -- 1,362 -- 1,362
Long-term debt and capital lease
obligations, net of current maturities .. 321,874 -- -- 321,874 -- 321,874
Other liabilities ......................... 21,043 1,612 423 23,078 -- 23,078
---------- ---------- ---------- ---------- ---------- ----------
Total liabilities ................... 429,778 25,552 2,338 457,668 631 458,299
---------- ---------- ---------- ---------- ---------- ----------
Commitments and contingencies (see Note 9)
Shareholders' equity (deficit):
Preferred stock ......................... 94,196 -- -- 94,196 -- 94,196
Common stock ............................ 1,524 1,001 14 2,539 (1,015) 1,524
Additional paid-in capital .............. 180,829 35,436 1,014 217,279 (36,450) 180,829
Retained earnings (accumulated deficit) (499,773) 35,535 1,832 (462,406) (41,325) (503,731)
Other ................................... 11 -- (530) (519) -- (519)
---------- ---------- ---------- ---------- ---------- ----------
Total shareholders' equity (deficit) (223,213) 71,972 2,330 (148,911) (78,790) (227,701)
---------- ---------- ---------- ---------- ---------- ----------
Total liabilities and shareholders'
equity (deficit) .................. $ 206,565 $ 97,524 $ 4,668 $ 308,757 $ (78,159) $ 230,598
========== ========== ========== ========== ========== ==========
13
CONDENSED CONSOLIDATING BALANCE SHEET
AS OF JUNE 30, 2003
COMPANY GUARANTORS NON GUARANTORS CONSOLIDATING ELIMINATIONS CONSOLIDATED
------- ---------- -------------- ------------- ------------ ------------
ASSETS
Current assets:
Cash .................................... $ 15,575 $ (1,608) $ 1,732 $ 15,699 $ -- $ 15,699
Accounts receivable, net ................ 15,144 2,825 7,599 25,568 -- 25,568
Inventories, net ........................ 66,731 12,854 14,887 94,472 (5,556) 88,916
Other current assets .................... 11,395 1,713 1,323 14,431 -- 14,431
Due to (due from) subsidiaries .......... (27,371) 47,781 (20,410) -- -- --
---------- ---------- ---------- ---------- ---------- ----------
Total current assets ................ 81,474 63,565 5,131 150,170 (5,556) 144,614
Property, plant and equipment, net ........ 48,055 18,646 12,219 78,920 -- 78,920
Investment in subsidiaries ................ 90,667 9,582 -- 100,249 (100,249) --
Debt issuance costs and other assets ...... 5,123 11,632 1,112 17,867 -- 17,867
---------- ---------- ---------- ---------- ---------- ----------
Total assets ........................ $ 225,319 $ 103,425 $ 18,462 $ 347,206 $ (105,805) $ 241,401
========== ========== ========== ========== ========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable ........................ $ 38,452 $ 3,021 $ 1,476 $ 42,949 $ 633 $ 43,582
Related party note payable .............. 663 -- -- 663 -- 663
Current maturities of long-term debt
and capital lease obligations ........ 7,695 6 -- 7,701 -- 7,701
Other current liabilities ............... 39,610 11,766 2,852 54,228 -- 54,228
---------- ---------- ---------- ---------- ---------- ----------
Total current liabilities ........... 86,420 14,793 4,328 105,541 633 106,174
Long term related party note payable ...... 1,362 -- -- 1,362 -- 1,362
Long-term debt and capital lease
obligations, net of current maturities .. 319,641 -- -- 319,641 -- 319,641
Other liabilities ......................... 19,588 1,755 938 22,281 -- 22,281
---------- ---------- ---------- ---------- ---------- ----------
Total liabilities ................... 427,011 16,548 5,266 448,825 633 449,458
---------- ---------- ---------- ---------- ---------- ----------
Commitments and contingencies (see Note 9)
Shareholders' equity (deficit):
Preferred stock ........................ 94,196 -- -- 94,196 -- 94,196
Common stock ........................... 1,524 1,001 28 2,553 (1,029) 1,524
Additional paid-in capital ............. 183,044 48,640 12,331 244,015 (60,971) 183,044
Retained earnings (accumulated deficit). (480,457) 37,236 1,014 (442,207) (44,438) (486,645)
Other................................... 1 -- (177) (176) -- (176)
---------- ---------- ---------- ---------- ---------- ----------
Total shareholders' equity (deficit) (201,692) 86,877 13,196 (101,619) (106,438) (208,057)
---------- ---------- ---------- ---------- ---------- ----------
Total liabilities and shareholders'
equity (deficit) .................. $ 225,319 $ 103,425 $ 18,462 $ 347,206 $ (105,805) $ 241,401
========== ========== ========== ========== ========== ==========
14
CONDENSED CONSOLIDATING CASH FLOW INFORMATION
FOR THE SIX MONTHS ENDED JUNE 30, 2002
--------------------------------------
COMPANY GUARANTORS NON GUARANTORS ELIMINATIONS CONSOLIDATED
------- ---------- -------------- ------------ ------------
Net cash provided by (used in)
operating activities ........................... $ (101) $ 244 $ 66 $ -- $ 209
Cash flows from investing activities:
Purchase of property, plant and equipment ...... (3,893) (1,038) (9) -- (4,940)
Purchase of intangible assets .................. (10) -- -- -- (10)
Proceeds from the sale of property, plant and
equipment ..................................... 574 -- -- -- 574
---------- ---------- ---------- ---------- ----------
Net cash used in investing activities ......... (3,329) (1,038) (9) -- (4,376)
---------- ---------- ---------- ---------- ----------
Cash flows from financing activities:
Payments under capital lease obligations ....... (694) -- -- -- (694)
Payment under the Senior Credit facility........ (2,750) -- -- -- (2,750)
---------- ---------- ---------- ---------- ----------
Net cash used in financing activities ......... (3,444) -- -- -- (3,444)
---------- ---------- ---------- ---------- ----------
Effect of cumulative translation adjustment .... 3 -- (161) -- (158)
---------- ---------- ---------- ---------- ----------
Net decrease in cash and cash equivalents ........ (6,871) (794) (104) -- (7,769)
Cash and cash equivalents at the beginning
of year ........................................ 13,757 (542) 497 -- 13,712
---------- ---------- ---------- ---------- ----------
Cash and cash equivalents at the end of period ... $ 6,886 $ (1,336) $ 393 $ -- $ 5,943
========== ========== ========== ========== ==========
FOR THE SIX MONTHS ENDED JUNE 30, 2003
--------------------------------------
COMPANY GUARANTORS NON GUARANTORS ELIMINATIONS CONSOLIDATED
------- ---------- -------------- ------------ ------------
Net cash provided by (used in)
operating activities ........................... $ (27,284) $ 12,234 $ 3,345 $ -- $ (11,705)
---------- ---------- ---------- ---------- ----------
Cash flows from investing activities:
Purchase of property, plant and equipment ...... (4,610) (1,506) (2,430) -- (8,546)
Business acquisitions, net of cash acquired .... (1,799) (10,631) -- -- (12,430)
Other .......................................... 23 -- -- -- 23
---------- ---------- ---------- ---------- ----------
Net cash used in investing activities ........ (6,386) (12,137) (2,430) -- (20,953)
---------- ---------- ---------- ---------- ----------
Cash flows from financing activities:
Payments under Senior Credit Facility .......... (14,187) -- -- -- (14,187)
Payments under capital lease obligations ....... (611) -- (554) -- (1,165)
Payments other bank debt ....................... -- (750) -- -- (750)
---------- ---------- ---------- ---------- ----------
Net cash used in financing activities ........ (14,798) (750) (554) -- (16,102)
---------- ---------- ---------- ---------- ----------
Effect of cumulative translation adjustment ... (10) -- 353 -- 343
---------- ---------- ---------- ---------- ----------
Net increase (decrease) in cash and cash
equivalents .................................... (48,478) (653) 714 -- (48,417)
---------- ---------- ---------- ---------- ----------
Cash and cash equivalents at the beginning
of year ........................................ 64,053 (955) 1,018 -- 64,116
---------- ---------- ---------- ---------- ----------
Cash and cash equivalents at the end of period ... $ 15,575 $ (1,608) $ 1,732 $ -- $ 15,699
========== ========== ========== ========== ==========
9. COMMITMENTS AND CONTINGENCIES
The Company is engaged in various legal proceedings incidental to its normal
business activities. Management believes that the amounts, if any, which
ultimately may be due in connection with such lawsuits and claims would not have
a material effect upon the Company, because most of the claims are covered by
insurance.
15
The Company previously purchased certain assets of House of Lloyd entities
in bankruptcy. Such assets included that certain letter agreement dated October
23, 2001, among Richmont Corporation and its affiliates and representatives, and
House of Lloyd Management, LLC (the "Letter Agreement").
On April 25, 2002, the Company in the name of several House of Lloyd
entities, filed a petition against Richmont Corporation, Richmont International,
Inc. d/b/a Richmont House and John P. Rochon ("Defendants") asserting various
claims arising from, inter alia, the Letter Agreement. Defendants answered the
lawsuit and, on September 12, 2002, filed an Original, Counterclaim and Third
Party Petition against the House of Lloyd entities, as counter-defendants, and
the Company and Mr. Donald J. Carter Jr., as a third-party defendants, pursuant
to which defendants asserted claims for tortious interference with prospective
business relations, tortious interference with existing business relations, a
business disparagement, conspiracy and malicious prosecution, and were seeking
actual damages and punitive damages in the amount of $100 million. The House of
Lloyd entities, the Company and Mr. Carter answered the Original Counterclaim
and third party petition, and filed an additional action against the Defendants
in the United States Bankruptcy Court for the Western District of Missouri,
Kansas City Division (the "Bankruptcy Court").
On March 10, 2003, the Defendants entered into a Settlement Agreement and
General Release (the "Settlement Agreement") in favor of the Company and Donald
J. Carter, Jr. which disposes of and fully resolves the pending claims without
the payment of any material amounts by any of the parties. All orders of
dismissals have been submitted and entered and all settlement documents have
been signed.
On June 6, 2003, the Company entered into a twelve-year license agreement
(the "License Agreement") with Meredith Corporation. The License Agreement
governs the development, manufacture, marketing and distribution of products to
be sold by the Company under the trademark "Better Homes and Gardens". The
agreement provides for earned royalty payments to Meredith Corporation
determined by a percentage of net sales and guaranteed annual minimum royalty
payments that escalate through the term of the License Agreement.
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion and analysis should be read in conjunction with the
Company's consolidated financial statements and accompanying notes as of and for
the year ended December 31, 2002, included in its Form 10-K. Unless otherwise
mentioned, all references to the number of Displayers, number of orders shipped
and average order size relate to domestic direct sales activity only.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Some of the statements under "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and elsewhere in this report
constitute forward-looking statements. These statements involve known and
unknown risks, uncertainties and other factors that may cause the Company's
actual results to be materially different from any future results expressed or
implied by such forward-looking statements.
In some cases, forward-looking statements are identified by terminology such
as "may," "will," "should," "expects," "plans," "anticipates," "believes,"
"estimates," "predicts," "potential" or "continue" or the negative of such terms
or other comparable terminology.
All of these forward-looking statements are based on estimates and
assumptions made by management of the Company, which, although believed to be
reasonable, are inherently uncertain. Therefore, undue reliance should not be
placed upon such statements. No assurance can be given that any of such
estimates or statements will be realized and actual results may differ
materially from those contemplated by such forward-looking statements. Factors
that may cause such differences include: (i) Displayer recruiting and activity
levels; (ii) loss or retirement of key members of management; (iii) imposition
of foreign, federal or state taxes; (iv) change in status of independent
contractors; (v) increased competition; (vi) the success of new products and
promotion programs; (vii) general economic conditions and (viii) the success of
integrating the recently acquired businesses. Many of these factors will be
beyond the control of the Company.
Moreover, neither the Company nor any other person assumes responsibility
for the accuracy and completeness of such statements. The Company is under no
duty to update any of the forward-looking statements after the date of this Form
10-Q to conform such statements to actual results.
COMPANY BACKGROUND
The Company believes it is the largest direct seller of home decorative
accessories in the United States, as measured by sales. As of June 30, 2003, the
Company has approximately 87,400 active Displayers located in the United States,
Mexico, Canada and Puerto Rico. The Company's direct sales are dependent upon
the number of Displayers selling the Company's products and their resulting
productivity. Displayer productivity fluctuates from time to time based on
seasonality and special marketing programs, which offer Displayers new
incentives and discounts timed to generate additional sales. The Company also
sells products to customers outside of its direct selling channel, however, to
date such sales have not been significant.
To stimulate sales within the direct selling channel, the Company offers a
variety of discounts and incentives to Displayers. The amount and timing of
discounts and incentives vary from year to year. The cost of discounts is
reflected in the Company's net sales while the cost of incentives is reflected
in selling expense.
COMPANY DIRECT SELLING STRATEGY
The Company has evolved its strategy to put greater focus on what management
believes to be the key drivers of the direct selling business, which are
recruiting, retention and productivity of the Displayer base.
17
The Company recognizes the need to continue to attract and retain new
Displayers. As of June 30, 2003, the Company's active Displayer base in the
United States increased 6.9% to approximately 68,100 active Displayers from
approximately 63,700 as of June 30, 2002. This increase was a result of the
Company's continued focus on key areas such as Displayer understanding and
awareness of the Hostess program, improved training and business guides and a
more clearly defined and communicated career strategy as reflected in the new
recruit program.
The retention of experienced Displayers requires operational focus on
several areas: product distribution fulfillment rates, product selection and
Displayer training and motivation. Fulfillment rates for product distribution
remained strong at approximately 99% as of June 30, 2003 and 2002. The Company
is continuing to introduce new products in 2003, which compliment the current
line of products, in an attempt to give the product line a fresh and more
innovative look. New products are carefully selected and tested with Displayers
prior to their introduction and placement in the product line. The Company's
"Recertification" program retrains Displayers on how to become more effective
Directors and Trainers by helping them develop and enhance their leadership
skills. In order to enhance this program, the Company has partnered with John
Maxwell, a New York Times best-selling author on leadership. Mr. Maxwell is
communicating with the field leadership through various media including
newsletters, audio, and regularly scheduled conference calls to help them
develop and enhance their leadership skills and grow their business.
Displayer training and motivation requires the introduction of sales
promotion and development activities directed at helping Displayers increase
their productivity. Sales tools such as "Power Paks" have helped the field
leadership plan and present more effective sales meetings and training sessions
for the Displayer.
COMPANY MANUFACTURING STRATEGY
The Company continues to emphasize products of its manufacturing
subsidiaries in the direct selling channel, which provides opportunities for
gross margin improvements and leverage of the fixed expense component of its
cost structure. This increased focus of the manufacturing strategy has supported
Displayer productivity and retention through increased fulfillment rates and
increased flexibility related to promotion strategies.
The Company has also increased its presence in its wholesale supply channel
with sales to non-affiliate resellers. Sales to non-affiliate resellers for the
six months ended June 30, 2003 were $11.4 million as compared to $4.5 million in
the comparable period of 2002. The domestic manufacturing subsidiaries net sales
increased 20% to non-affiliate resellers to $5.4 million in the first six months
of 2003 as compared to $4.5 million in the comparable period of the prior year.
Newly acquired manufacturing companies (described below) contributed an
additional $6.0 million of wholesale supply channel sales in the six months
ended June 30, 2003.
In an effort to further increase the Company's manufacturing capabilities,
as well as its sales outside of the direct selling channel, the Company acquired
Brenda Buell & Associates, Inc. ("BBA"), a wholesaler that designs and develops
iron and glass accessories, on December 31, 2002. Additionally, during the first
quarter of 2003, the Company acquired certain assets of Tempus Corporation, S.A.
de C.V. ("HI Metals"), a metals manufacturing company in Mexico on January 29,
2003 and Ceramica y Vidrio de Nuevo Leon, S.A. de C.V., Maquiladora Produr, S.A.
de C.V. ("HI Ceramics") and Industrias Tromex Corporation, S.A. de C.V., ("HI
Glass") a metals, glass and ceramic manufacturing facility in Mexico on February
7, 2003 and Edward Marshall Boehm, Inc. ("Boehm") a porcelain manufacturing
company in New Jersey on March 14, 2003.
RESULTS OF OPERATIONS
THE THREE MONTHS ENDED JUNE 30, 2003 COMPARED TO THE THREE MONTHS ENDED JUNE 30,
2002
Net sales increased $4.4 million, or 3.0%, to $151.1 million in the three
months ended June 30, 2003, from $146.7 million in the comparable period in
2002. International direct sales increased $5.7 million, or 66.9% to $14.3
million in 2003 from $8.6 million in the comparable quarter of 2002 primarily
related to the increase in the Mexico and Canada displayer bases. Wholesale
supply sales to non-affiliates by the Company's manufacturing subsidiaries
increased $2.4 million in the comparable periods. Offsetting these increases,
domestic direct net sales to non-affiliates decreased $3.7 million or 2.7% to
$131.5 million from $135.2 million in the three months ended June 30, 2003 from
the comparable period in 2002. The primary factors that impact domestic direct
net sales include the
18
number of Displayers, the number of orders shipped, the number of orders per
Displayer and average order size. The average number of active domestic
Displayers increased 7.5% to approximately 65,800 in the three months ended June
30, 2003, from 61,200 in the same period of 2002. The number of orders shipped
increased 3.5% to 248,477 in the second quarter of 2003 from 240,004 in the 2002
period. In addition, the number of orders per Displayer decreased 3.6% to 3.78
from 3.92 for the three months ended June 30, 2003 and 2002, respectively.
Finally, the average order size decreased 6.0% to $529 in the three months ended
June 30, 2003, as compared to $563 in the comparable period in 2002 primarily
due to the increase of newer Displayers who are historically less productive and
the timing of incentive promotions.
Gross profit increased $0.5 million, or 0.7%, to $84.6 million in the three
months ended June 30, 2003 from $84.1 million in the three months ended June 30,
2002. As a percentage of net sales, gross profit decreased to 56.0% in the
second quarter of 2003 from 57.3% in the second quarter of 2002. In addition,
approximately $924,000 of non-recurring costs related to redundant labor and
inventory write-offs and adjustments for the new international manufacturing
entities is included in cost of goods sold for the three months ended June 30,
2003.
Selling expense decreased $1.5 million or 5.6% to $26.3 million in the three
months ended June 30, 2003 from $27.8 million in the comparable period of 2002.
As a percentage of net sales, selling expense decreased to 17.4% as of the
quarter ended June 30, 2003 from 19.0% in the comparable period of 2002. The
decrease in percentage is primarily due to the timing of sales promotions,
primarily incentive trips, recognition of income on expired unredeemed incentive
certificates, adjustment of seminar accrual and a decrease in Director bonuses
as a result of decreased commissionable sales over the comparable periods.
Freight, warehouse and distribution expense increased $2.2 million, or
13.8%, to $18.3 million in the three months ended June 30, 2003 from $16.1
million in the three months ended June 30, 2002. These costs were 12.1% of net
sales in the 2003 period, as compared to 10.9% in the comparable 2002 period.
This increase in freight, warehouse and distribution expense as a percentage of
sales was primarily due to increased freight and labor related to the increase
in the number of orders and decrease in average order sizes and additional
facility related expenses.
General and administrative expense increased $2.3 million, or 16.2%, to
$16.4 million in the three months ended June 30, 2003, from $14.1 million in the
three months ended June 30, 2002. The increase consists primarily of a $0.6
million increase in facility related expenses, a $0.7 million increase in
depreciation and amortization expense and an increase of $1.6 million related to
subsidiary operations primarily related to our new facilities. Included in
general and administrative expense are certain additional non-recurring costs
related to excess facilities and uncapitalizable fees related to the
implementation of the new JD Edwards computer system. These costs were
approximately $56,000 and $581,000 for the quarters ended June 30, 2003 and
2002, respectively.
Stock option expense of approximately $1.3 million was recorded in the three
months ended June 30, 2003, as compared to a credit of $21,000 in the comparable
2002 period due primarily to compensation expense on performance-based options
issued under the 2002 Key Employee Stock Option Plan.
Interest expense remained flat at $6.8 million in the three months ended
June 30, 2003 and 2002 due to lower interest rates along with a reduction in the
outstanding debt.
Income taxes decreased $0.8 million to $5.9 million in the three months
ended June 30, 2003 from $6.7 million in the comparable period of 2002. Income
taxes, as a percentage of income before income taxes was 37.5% in the three
months ended June 30, 2003 and 2002. Due to a favorable state income tax audit
determination in July 2003 and subsequent receipt of $5.8 million on August 7,
2003, the Company believes that the effective income tax rate for the year ended
December 31, 2003 will be significantly lower than the effective income tax rate
for the three-month period ended June 30, 2003.
THE SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX MONTHS ENDED JUNE 30,
2002
Net sales increased $12.6 million, or 4.7%, to $277.3 million in the six
months ended June 30, 2003, from $264.7 million in the comparable period in
2002. International direct sales increased $8.5 million in the comparable
six-month periods primarily related to the increase in the Mexico and Canada
displayer bases. Wholesale supply sales to non-affiliates by the Company's
manufacturing subsidiaries increased $6.9 million over the comparable six- month
periods. Offsetting these increases, domestic direct net sales to non-affiliates
decreased $2.8 million or 1.2%
19
to $241.5 million from $244.3 million in the six-month period ended June 30,
2003 as compared to the six months ended June 30, 2002. The primary variables
that impact domestic direct net sales include the number of Displayers, the
number of orders shipped, the number of orders per Displayer and average order
size. The average number of active domestic Displayers increased 8.1% to
approximately 65,200 in the six months ended June 30, 2003, from 60,300 in the
same period of 2002. The number of orders shipped increased 7.4% to 462,743 in
the first six months of 2003 from 430,949 in the 2002 period. Offsetting these
increases, the number of orders per Displayer decreased 0.6% to 7.10 from 7.14
for the six months ended June 30, 2003 and 2002, respectively. This along with
the average order size decrease of 7.9% to $522 in the six months ended June 30,
2003, as compared to $567 in the comparable period in 2002 led to the decrease
in domestic direct net sales. The Company believes the decrease is due to the
increase of newer Displayers who are historically less productive along with the
timing of incentive promotions.
Gross profit increased $5.3 million, or 3.5%, to $155.9 million in the six
months ended June 30, 2003 from $150.6 million in the six months ended June 30,
2002. As a percentage of net sales, gross profit decreased slightly to 56.2% in
the first six months of 2003 from 56.9% in the comparable period of 2002.
Approximately $1.2 million of non-recurring costs related to redundant labor and
inventory write-offs and adjustments for the new international manufacturing
entities is included in cost of goods sold for the six months ended June 30,
2003.
Selling expense decreased $2.4 million, or 4.9%, to $46.8 million in the six
months ended June 30, 2003 from $49.2 million in the comparable period of 2002.
As a percentage of net sales, selling expense decreased to 16.9% as of the six
months ended June 30, 2003 from 18.6% in the comparable period of 2002. The
decrease in percentage is primarily due to the timing of sales promotions,
primarily incentive trips, recognition of income on expired unredeemed incentive
certificates, adjustment of seminar accrual and a decrease in Director related
bonuses and royalties as a result of decreased commissionable sales over the
comparable periods.
Freight, warehouse and distribution expense increased $4.9 million, or
17.0%, to $33.9 million in the six months ended June 30, 2003 from $29.0 million
in the six months ended June 30, 2002. These costs were 12.2% of net sales in
the 2003 period, as compared to 10.9% in the comparable 2002 period. This
increase in freight, warehouse and distribution expense as a percentage of sales
was primarily due to increased freight and labor costs related to the increase
in the number of orders and decrease in average order sizes and increased
facility related costs.
General and administrative expense increased $5.3 million, or 19.9%, to
$32.0 million in the six months ended June 30, 2003, from $26.7 million in the
six months ended June 30, 2002. The increase consists primarily of a $1.2
million increase in facility related expenses, a $1.4 million increase in
depreciation and amortization expense, an increase in account maintenance and
bad debt fees related to field personnel of $0.5 million, $0.5 million increase
in credit card fees, $0.4 million increase in employee benefit related expenses
such as insurance and wages, an increase in professional fees of $0.5 million
and an increase of $1.7 million related to the subsidiary operations primarily
related to our new facilities. Included in general and administrative expense
are certain additional non-recurring costs related to excess facilities and
uncapitalizable fees related to the implementation of the new JD Edwards
computer system. These costs were approximately $562,000 and $1.3 million for
the six months ended June 30, 2003 and 2002, respectively.
Stock option expense of approximately $2.2 million was recorded in the six
months ended June 30, 2003, as compared to $93,000 in the comparable 2002 period
due primarily to compensation expense on performance-based options issued under
the 2002 Key Employee Stock Option Plan.
Interest expense increased $0.6 million to $13.9 million in the six months
ended June 30, 2003, from $13.3 million in the six months ended June 30, 2002.
The increase in interest expense is primarily related to the accelerated
interest payments made in regards to the mandatory prepayment of debt in April
2003.
Income taxes decreased $1.2 million to $10.3 million in the six months ended
June 30, 2003 from $11.5 million in the comparable period of 2002. Income taxes,
as a percentage of income before income taxes was 37.5% in the six months ended
June 30, 2003, as compared to 37.3% in the six months ended June 30, 2002. Due
to a favorable state income tax audit determination in July 2003 and subsequent
receipt of $5.8 million on August 7, 2003, the Company believes that the
effective income tax rate for the year ended December 31, 2003 will be
significantly lower than the effective income tax rate for the six-month period
ended June 30, 2003.
20
SEGMENT PROFITABILITY
The Company's reportable segments include its domestic and international
direct sales operations and its wholesale supply operations. The manufacturing
operations are part of the wholesale supply segment and sell substantially all
of their products to the Company. As a result, wholesale supply operation sales
generally follow the Company's domestic sales trend. International operations
include direct sales by Displayers in Mexico, Canada and Puerto Rico.
International direct sales are directly attributable to the number of
international Displayers the Company has selling its products. The Company's
chief operating decision-maker monitors each segment's profitability primarily
on the basis of EBITDA performance. The Company uses EBITDA as a performance
measure due to the Company's required compliance thresholds for EBITDA covenants
per the Senior Credit Agreement. See Note 7 to the Consolidated Financial
Statements.
THE THREE MONTHS ENDED JUNE 30, 2003 COMPARED TO THE THREE MONTHS ENDED JUNE 30,
2002
Consolidated net sales increased $4.4 million, or 3.0%, to $151.1 million in
the three months ended June 30, 2003, from $146.7 million in the comparable 2002
period. Consolidated EBITDA increased $0.2 million, or 0.4%, to $28.0 million in
the quarter ended June 30, 2003 as compared to $27.8 million in the three months
ended June 30, 2002. See discussion in "Results of Operations."
DIRECT SELLING
Domestic
Domestic net sales to non-affiliates and affiliates increased $5.8 million,
or 4.2% to $145.1 million from $139.3 million in the previous year. Of this
increase, sales to affiliates increased by $9.5 million or 229.7% to $13.6
million in the three months ended June 30, 2003 from $4.1 million in the
comparable 2002 period. The primary sales drivers for non-affiliate sales are
average order size, Displayer productivity and number of active Displayers.
Domestic EBITDA increased $3.4 million or 26.0% to $16.5 million in the quarter
ended June 30, 2003 as compared to $13.1 million in the comparable 2002 period.
The primary reasons for the increase are discussed in the "Results of
Operations."
International
International direct sales include sales in Mexico, Canada and Puerto Rico.
These sales increased $5.7 million, or 66.9%, to $14.3 million in the three
months ended June 30, 2003, from $8.6 million in the three months ended June 30,
2002. This increase is primarily due to the increase in the Displayer base in
Mexico and Canada. As of June 30, 2003, the Displayer base was approximately
17,700, 1,000 and 600 in Mexico, Canada and Puerto Rico, respectively as
compared to 11,400, 400 and 400 in the comparable period of 2002. EBITDA related
to International direct sales increased $1.2 million, or 111.1%, to $2.4 million
in the quarter ended June 30, 2003 as compared to $1.2 million in the quarter
ended June 30, 2002.
WHOLESALE SUPPLY
The Company is in the process of growing its wholesale supply sales to
non-affiliate resellers through its domestic and international manufacturing
facilities. External sales for the three-month period increased $2.4 million or
81.1% to $5.3 million as compared to $2.9 million in the comparable period of
2002. Of these sales, 58.5% or $3.1 million were generated by the
previously-described newly acquired companies and their existing customer base -
BBA, Boehm, HI Metals, HI Ceramics and HI Glass. EBITDA generated through
wholesale supply operations decreased $3.6 million or 24.9% to $10.9 million in
the three months ended June 30, 2003 from $14.5 million in the comparable period
of 2002 due primarily to non-recurring costs related to redundant labor and
inventory valuation adjustments for the new international manufacturing
entities.
Domestic
Domestic manufacturing operations consist of Dallas Woodcraft Company, LP
("DWC"), Laredo Candle Company, L.P. "(Laredo Candle") and GIA, Inc. ("GIA") as
well as two recently acquired operations, BBA and
21
Boehm. Net sales generated by the domestic manufacturing entities slowed 4.6%,
or $1.9 million, to $39.2 million in the three months ended June 30, 2003 from
$41.1 million in the comparable period of 2002. The newly acquired entities
generated $2.1 million in net sales while the established entities net sales
decreased $4.0 million. Of total domestic manufacturing sales, $34.9 million was
sold to the Company for distribution to the Displayer base. The remaining $4.3
million of sales was distributed through wholesale supply operations. Domestic
manufacturing EBITDA decreased $2.9 million, or 20.0%, to $11.6 million in the
quarter ended June 30, 2003 from $14.5 million in the comparable period of 2002.
The EBITDA contribution of the new acquisitions was not material in the quarter
ended June 30, 2003.
International
The international manufacturing operations; HI Metals, HI Ceramics and HI
Glass, were acquired in February 2003. Sales related to these entities were $3.1
million for the three months ended June 30, 2003, of which, $1.0 million was
distributed to non-affiliate resellers. EBITDA for these new acquisitions was
$(746,000). Approximately $946,000 of cost of goods sold and general and
administrative expense of the international manufacturing operations was
recorded as non-recurring reorganization expense related to redundant labor,
inventory valuation adjustments and consulting fees and considered an add-back
for EBITDA.
THE SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX MONTHS ENDED JUNE 30,
2002
Consolidated net sales increased $12.6 million, or 4.7%, to $277.3 million
in the six months ended June 30, 2003, from $264.7 million in the comparable
2002 period. Consolidated EBITDA increased $0.4 million, or 0.6%, to $55.5
million in the six months ended June 30, 2003 as compared to $55.1 million in
the six months ended June 30, 2002. See discussion in "Results of Operations."
DIRECT SELLING
Domestic
Domestic net sales to non-affiliates and affiliates increased $7.7 million,
or 3.0% to $259.7 million from $252.0 million in the previous year. Of this
increase, sales to affiliates increased by $10.4 million or 135.0% to $18.2
million in 2003 from $7.8 million in the comparable 2002 period. The primary
sales drivers for non-affiliate sales are average order size, Displayer
productivity and number of active Displayers. Domestic EBITDA decreased $3.1
million or 10.7% to $32.2 million in the six months ended June 30, 2003 from
$29.1 million in the comparable 2002 period. The primary reasons for the
decrease are discussed in the "Results of Operations."
International
International direct sales include sales in Mexico, Canada and Puerto Rico.
These sales increased $8.5 million, or 53.8%, to $24.4 million in the six months
ended June 30, 2003, from $15.9 million in the six months ended June 30, 2002.
This increase is primarily due to the increase in the Displayer base in Mexico
and Canada. EBITDA related to International direct sales increased $1.1 million,
or 52.4%, to $3.1 million in the six months ended June 30, 2003 as compared to
$2.0 million in the six months ended June 30, 2002.
WHOLESALE SUPPLY
The Company is in the process of growing its wholesale supply sales to
non-affiliate resellers through its domestic and international manufacturing
facilities. External sales for the six-month period increased $6.9 million or
150.3% to $11.4 million as compared to $4.5 million in the comparable period of
2002. Of these sales, 52.6% or $6.0 million were generated by the
previously-described newly acquired companies and their existing customer base -
BBA, Boehm, HI Metals, HI Ceramics and HI Glass. EBITDA generated through
wholesale supply operations decreased $3.0 million or 11.8% to $22.5 million in
the six months ended June 30, 2003 from $25.5 million in the comparable period
of 2002. The new acquisitions generated a loss of $1.1 million in EBITDA during
the 2003 period due to product and pricing inefficiencies incurred during the
integration period.
22
Domestic
Domestic manufacturing operations consist of Dallas Woodcraft Company, LP
("DWC"), Laredo Candle Company, L.P. "(Laredo Candle") and GIA, Inc. ("GIA") as
well as two recently acquired operations, BBA and Boehm. Net sales generated by
the domestic manufacturing entities grew 2.7%, or $2.0 million, to $76.9 million
in the six months ended June 30, 2003 from $74.9 million in the comparable
period of 2002. The newly acquired entities generated $3.6 million while the
established entities decreased $1.6 million. Of total domestic manufacturing
sales, $67.9 million was sold to the Company for distribution to the Displayer
base. The remaining $9.0 million of sales was distributed through wholesale
supply operations. Domestic manufacturing EBITDA decreased $2.0 million, or
7.8%, to $23.5 million in the six months ended June 30, 2003 from $25.5 million
in the comparable period of 2002. The EBITDA contribution of the new
acquisitions was not material in the six months ended June 30, 2003.
International
The international manufacturing operations; HI Metals, HI Ceramics and HI
Glass, were acquired in February 2003. Sales related to these entities were $4.7
million for the six months ended June 30, 2003, of which, $2.4 million was
distributed to non-affiliate resellers. EBITDA for these new acquisitions was a
loss of $1.0 million. Approximately $1.2 million of cost of goods sold and
general and administrative expense of the international manufacturing operations
was recorded as non-recurring reorganization expense related to redundant labor,
inventory valuation adjustments and consulting fees and considered an add-back
for EBITDA.
SEASONALITY
The Company's business is influenced by the Christmas holiday season and by
promotional events. Historically, a higher portion of the Company's sales and
net income have been realized during the fourth quarter, and net sales and net
income have generally been slightly lower during the first quarter as compared
to the second and third quarters. Working capital requirements also fluctuate
during the year. They reach their highest levels during the third and fourth
quarters as the Company increases its inventory for the peak season. In addition
to the Company's peak season fluctuations, quarterly results of operations may
fluctuate depending on the timing of, and amount of sales from, discounts,
incentive promotions and/or the introduction of new products. As a result, the
Company's business activities and results of operations in any quarter are not
necessarily indicative of any future trends in the Company's business.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash and cash equivalents decreased $48.4 million to $15.7
million as of June 30, 2003, from $64.1 million at December 31, 2002. The
decrease resulted from a use of cash of $11.7 million, $21.0 million and $16.1
million for operating, investing and financing activities, respectively.
Cumulative translation adjustment for the six months ended 2003 generated cash
of $0.4 million.
Net cash used in operating activities increased $11.9 million during the six
months ended June 30, 2003, as compared to the six months ended June 30, 2002.
The majority of the increase in funds used is attributable to a $9.0 million
decrease in royalties payable due to lower commissionable sales, a $4.7 million
decrease in seminar and incentive payable due to timing of incentives, a $5.2
million increase in inventories, and a $5.9 million increase in accounts
receivable. These uses of cash were offset in part by an increase of $9.2
million related to accounts payable and an increase in income taxes payable of
$4.8 million.
Net cash used in investing activities increased $16.6 million in the six
months ended June 30, 2003 as compared to the six months ended June 30, 2002.
Purchases of property, plant and equipment in the six months ended June 30, 2003
totaled $8.5 million, as compared to $4.9 million in the six months ended June
30, 2002. In addition, approximately $12.4 million was used to purchase certain
assets of the new manufacturing entities in Mexico and New Jersey.
Net cash used in financing activities increased $12.6 million in the six
months ended June 30, 2003, as compared to the six months ended June 30, 2002.
This change was primarily as a result of timing of principal payments due
23
under the Senior Credit Facility, capital leases and other debt and a mandatory
prepayment of $12.4 million made in April 2003.
Payments on the Company's Notes and the Senior Credit Facility represent
significant cash requirements for the Company. Interest payments on the Notes
commenced in December 1998 and will continue semi-annually until the Notes
mature in 2008. Borrowings under the Senior Credit Facility require quarterly
interest and principal payments. In addition, the Senior Credit Facility
includes $30.0 million of revolving loans ("Revolving Loans"), which mature on
December 31, 2004. The Revolving Loans were not utilized during the first six
months of 2003 or 2002. As of August 12, 2003, there was not an outstanding
balance on the Revolving Loans.
The Company paid a total of $24.5 million in debt service for the six months
ended June 30, 2003, consisting of principal payments under the Senior Credit
Facility of $14.2 million, interest under the Senior Credit Facility of
approximately $2.7 million, interest of $0.1 million on commitment fees and $7.5
million of interest on the Notes. Principal and interest payments of $3.9
million on the Senior Credit Facility were paid after the end of the second
quarter of 2003 on June 30, 2003, after the Company's quarter end on June 28,
2003.
The terms of the Notes and Senior Credit Facility include significant
operating and financial restrictions, such as limits on the Company's ability to
incur indebtedness, create liens, sell assets, engage in mergers or
consolidations, make investments and pay dividends. In addition, under the
Senior Credit Facility, the Company is required to comply with specified
financial ratios and tests, including minimum fixed charge coverage ratios, and
maximum leverage ratios and capital expenditure measurements. Subject to the
financial ratios and tests, the Company is required to make certain mandatory
prepayments of the term loans on an annual basis. The Company made a $12.4
million prepayment of interest and principal on March 31, 2003.
As of August 12, 2003, the Company is in compliance with all covenants or
other requirements set forth in its credit agreements and indentures. Further,
the Company does not have any rating downgrade triggers that would accelerate
maturity dates of its debt.
The Company's near and long-term operating strategies focus on broadening
the Displayer base through recruiting efforts and increasing retention and
productivity of the existing Displayer base and leveraging of the assets of the
manufacturing subsidiaries. The Company believes that cash on hand, net cash
flow from operations and borrowings under the Revolving Loans will be sufficient
to fund its cash requirements through the year ended December 31, 2003. Cash
requirements will consist primarily of payments of principal and interest on
outstanding indebtedness, working capital requirements and capital expenditures.
The Company's future operating performance and ability to service or refinance
its current indebtedness will be subject to future economic conditions and to
financial, business and other factors, many of which are beyond the Company's
control.
MARKET-SENSITIVE INSTRUMENTS AND RISK MANAGEMENT
The Company's Products are sold in Mexico and Canada thereby subjecting the
Company to financial market risk due to fluctuating foreign currency exchange
rates. Historically, due to a stable foreign exchange and due to the fact that
these operations have not been significant, the foreign currency exposure has
been minimal. However, as the Company's international operations become
significant to the Company as a whole, changes in foreign currency exchange
rates could have a material effect on the Company in the future. The Company has
not entered into any hedging instruments related to foreign currency risk.
As a result of the interest pricing mechanism associated with the Senior
Credit Facility, the Company is exposed to financial market risk due to
fluctuating interest rates. The Company monitors this risk and makes decisions
to participate in interest hedging devices based on interest rate expectations,
the Company's desire to maintain total yield within predetermined levels and the
ratio of fixed to variable debt. As of August 12, 2003, the Company is not party
to any hedging instruments. In addition, the Company does not use derivative
instruments for trading or speculative purposes.
ADOPTION OF ACCOUNTING STANDARDS
In May of 2003, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards
24
No. 150, "Accounting for Certain Financial Instruments with Characteristics of
both Liabilities and Equity' ("SFAS No. 150"). SFAS No. 150 establishes
standards for classification and measurement of financial instruments issued by
entities that have the characteristics of both liabilities and equity. SFAS No.
150 is effective for financial instruments entered into or modified after May
31, 2003. The Company adopted SFAS No. 150 on May 31, 2003 and there was not a
financial accounting impact associated with its adoption.
In April of 2003, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities" ("SFAS No. 149"). SFAS No. 149
clarifies the definition of a derivative and amends the implementation guidance
and of Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS No. 133"). SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003, except for
hedging relationships designated after June 30, 2003. The provisions of SFAS No.
149, which amend implementation guidance of SFAS No. 133, are effective for
fiscal quarters that began prior to June 15, 2003. The Company adopted certain
provisions of SFAS No. 149 and determined that there is not a financial impact
on the quarter ended, March 31, 2003. The Company adopted the remaining
provisions of SFAS No. 149 on June 30, 2003 and there was not a financial impact
associated with its adoption.
In December of 2002, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure" ("SFAS No. 148"). SFAS No. 148 amends
FASB Statement No. 123 "Accounting for Stock-Based Compensation" to provide
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation and amends the
disclosure requirements of Statement 123 to require prominent disclosure about
the effects on reported net income of an entity's accounting policy decisions
with respect to stock-based employee compensation. SFAS No. 148 also amends APB
Opinion No. 28 "Interim Financial Report", to require disclosure about those
effects in interim financial information. SFAS No. 148 is effective for fiscal
year ending December 31, 2002. The Company has elected to continue accounting
for the employee stock options plans under APB 25; however, the Company has
adopted the new disclosure requirements of SFAS No. 148.
In July of 2002 the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 146, "Accounting for Costs Associated with
Exit or Disposal Activities" ("SFAS No. 146"). SFAS No. 146 requires companies
to recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
SFAS No. 146 is to be applied prospectively to exit or disposal activities
initiated after December 31, 2002. The Company adopted SFAS No. 146 on January
1, 2003 and there was not a financial accounting impact associated with its
adoption.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Securities and Exchange Commission requires that registrants include
information about potential effects of changes in interest rates and currency
exchange on their financial statements. Refer to the information appearing under
the subheading "Market-Sensitive Instruments and Risk Management" under "Item 2.
Management's Discussion and Analysis of Financial Condition and Results of
Operation," which information is hereby incorporated by reference into this Item
3. All statements other than historical information incorporated into this Item
3 are forward-looking statements. The actual impact of future market changes
could differ materially due to, among other things, the factors discussed in
this report.
ITEM 4. CONTROLS AND PROCEDURES
Based on their evaluation of the Company's disclosure controls and
procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities
Exchange Act of 1934, as amended (the "Exchange Act")), the Company's principal
executive and principal financial officers concluded that the Company's
disclosure controls and procedures were effective as of June 30, 2003.
There has been no change in the Company's internal control over financial
reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act)
that occurred during the Company's fiscal quarter ended June 30, 2003, that has
materially affected, or is reasonably likely to materially affect, the Company's
internal control over financial reporting.
25
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In the ordinary course of its business, the Company is from time to time
threatened with or named as a defendant in various lawsuits, including product
liability claims. The Company is also subject to certain environmental
proceedings. The Company is not currently a party to any material litigation or
proceeding, and is not aware of any litigation or proceeding threatened against
it that could have a material adverse effect on the Company's business,
financial condition or results of operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
------ -----------
31.1* Certification of Chief Executive Officer of the Company pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2* Certification of Chief Financial Officer of the Company pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1* Certification of Chief Executive Officer of the Company pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2* Certification of Chief Financial Officer of the Company pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) REPORTS ON FORM 8-K
Report on Form 8-K (Item 5) filed on June 9, 2003, announcing the strategic
alliance between the Company and Meredith Corporation.
- ----------
*Filed herewith.
26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
HOME INTERIORS & GIFTS, INC.
By: /s/ KENNETH J. CICHOCKI
------------------------------------------------
Kenneth J. Cichocki
Sr. Vice President of Finance and Chief
Financial Officer (principal financial and
accounting officer)
Date: August 12, 2003
27
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
----- -----------
31.1* Certification of Chief Executive Officer of the Company pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2* Certification of Chief Financial Officer of the Company pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1* Certification of Chief Executive Officer of the Company pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2* Certification of Chief Financial Officer of the Company pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
- ----------
*Filed herewith.
28