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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended March 31, 2005
--------------
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the transition period from __________ to __________
Commission File No. 0-50186
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LEVCOR INTERNATIONAL, INC.
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(Exact Name of Registrant as Specified in Its Charter)
Delaware 06-0842701
- ------------------------------- ------------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1065 Avenue of the Americas, New York, New York 10018
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(Address of Principal Executive Offices)
(212) 354-8500
---------------------------
(Issuer's Telephone Number)
Former name, former address and former fiscal year, if changed since last
report: N/A
Indicate by check whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12
months (or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days: Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act): Yes [ ] No [X]
As of May 13, 2005, 5,331,881 shares of Common Stock, par value $0.01 per share,
were issued and outstanding.
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LEVCOR INTERNATIONAL, INC.
INDEX
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets
as of March 31, 2005 and December 31, 2004...........................1
Condensed Consolidated Statements of Operations
for the Three Months Ended March 31, 2005 and 2004...................2
Condensed Consolidated Statements of Comprehensive Income (Loss)
for the Three Months Ended March 31, 2005 and 2004...................2
Condensed Consolidated Statements of Cash Flows
for the Three Months Ended March 31, 2005 and 2004...................3
Notes to Condensed Consolidated Financial Statements -
March 31, 2005 and 2004..............................................4
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations ..............................................14
Item 3. Quantitative and Qualitative Disclosures About Market Risk..........29
Item 4. Controls and Procedures.............................................29
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................................30
Item 2 Unregistered Sales of Equity Securities and Use of Proceeds.........30
Item 6. Exhibits ...........................................................31
Signatures..........................................................32
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
LEVCOR INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
March 31, December 31,
2005 2004
ASSETS (Unaudited) Audited
Current Assets: ------------ ------------
Cash $ 52 $ 32
Accounts receivable trade, net 3,398 3,601
Inventories, net 8,576 7,729
Deferred income taxes 712 898
Other current assets 355 214
------------ ------------
Total current assets 13,093 12,474
Property, Plant and Equipment, net 2,217 2,305
Goodwill 4,843 4,843
Deferred income taxes 3,877 3,611
Other assets 1,665 1,651
------------ ------------
Total Assets $ 25,695 $ 24,884
============ ============
LIABILITIES
Current Liabilities:
Revolving loan and current maturities of long-term debt $ 4,169 $ 3,987
Due to factor 702 1,403
Stockholder loan, current portion 1,400 --
Accounts payable 2,595 1,848
Other current liabilities 771 1,219
------------ ------------
Total current liabilities 9,637 8,457
------------ ------------
Long-term debt, less current maturities 4,407 4,443
Stockholder loan 824 816
Pension liabilities 5,883 5,907
Post retirement medical liabilities 2,112 2,154
Environmental liabilities 1,388 1,388
Other liabilities 295 349
Mandatory Redeemable Preferred Stock, par value
$0.01 per share 8,000,000 shares authorized:
Shares issued and outstanding:
Series A - 4,555,007 4,555 4,555
------------ ------------
Total Liabilities 29,101 28,069
------------ ------------
STOCKHOLDERS' DEFICIT
Common Stock, par value $0.01 per share
15,000,000 shares authorized;
5,331,881 shares issued and outstanding 54 54
Paid in Capital 33,238 33,234
Accumulated Deficit (33,759) (33,535)
Accumulated Other Comprehensive Loss (2,863) (2,858)
Unearned Compensation (76) (80)
------------ ------------
Total Stockholders' Deficit (3,406) (3,185)
------------ ------------
Total Liabilities and Stockholders' Deficit $ 25,695 $ 24,884
============ ============
See Notes to Condensed Consolidated Financial Statements.
Page 1
LEVCOR INTERNATIONAL, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(Amounts in thousands, except per share data)
Three Months Ended March 31,
---------------------------
2005 2004
------------ ------------
Net sales $ 6,108 $ 6,613
Cost of sales 4,222 4,176
------------ ------------
1,886 2,437
Selling, general and administrative expenses 1,973 2,166
------------ ------------
Income (loss) before interest, preferred dividends
and income taxes (87) 271
Interest expense, net 162 124
Dividends on mandatory redeemable preferred stock 68 69
------------ ------------
Income (loss) before income taxes (317) 78
Provision (benefit) for income taxes (93) 56
------------ ------------
Net income (loss) $ (224) $ 22
============ ============
Earnings (loss) per share:
Basic $ (.04) $ *
============ ============
Diluted $ (.04) $ *
============ ============
Weighted average shares outstanding - basic 5,331 5,222
Potential common stock -- 101
------------ ------------
Weighted average shares outstanding - diluted 5,331 5,323
============ ============
* Less than $.005
See Notes to Condensed Consolidated Financial Statements.
LEVCOR INTERNATIONAL, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED
STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(UNAUDITED)
(Dollars in thousands)
Three Months Ended March 31,
---------------------------
2005 2004
------------ ------------
Net income (loss) $ (224) $ 22
Other comprehensive income (loss):
Foreign currency translation adjustment (5) 11
------------ ------------
Comprehensive income (loss) $ (229) $ 33
============ ============
See Notes to Condensed Consolidated Financial Statements.
Page 2
LEVCOR INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED
STATEMENTS OF CASH FLOWS
(UNAUDITED)
(Dollars in thousands)
Three Months Ended March 31,
---------------------------
2005 2004
------------ ------------
Cash Flows From Operating Activities:
Net income (loss) $ (224) $ 22
Reconciliation of net income (loss) to net cash
used in operations:
Depreciation and amortization 96 112
Deferred tax provision (benefit) (80) 48
Stock based compensation 4 9
Changes in operating assets and liabilities:
Accounts receivable trade, net 203 (737)
Inventories, net (825) 2
Other current assets (141) (138)
Other assets (23) 6
Accounts payable 747 224
Other current liabilities (448) (167)
Pension liabilities (24) (22)
Post retirement medical liabilities (42) (39)
Environmental liabilities -- (1)
Other liabilities (54) (234)
------------ ------------
Net cash used in operating activities (811) (915)
------------ ------------
Cash Flows From Investing Activities:
Capital expenditures (2) (59)
Investment in other assets (20) (17)
------------ ------------
Net cash used in investing activities (22) (76)
------------ ------------
Cash Flows From Financing Activities:
Revolving loan and long-term debt, net 146 457
Due to/from factor (701) 535
Stockholder loans, net 1,408 --
Proceeds from exercise of stock options -- 15
------------ ------------
Net cash provided by financing activities 853 1,007
------------ ------------
Increase in cash 20 16
Cash at beginning of period 32 44
------------ ------------
Cash at end of period $ 52 $ 60
============ ============
Supplemental Disclosure of Cash Flow Information:
Cash paid during the period for:
Interest $ 141 $ 116
============ ============
Income taxes $ 19 $ 20
============ ============
Non-cash transactions:
Stock issued on option exercise $ -- $ 145
============ ============
Treasury stock acquired in relation
to stock option exercise $ -- $ 145
============ ============
Retirement of treasury stock $ -- $ 222
============ ============
See Notes to Condensed Consolidated Financial Statements
Page 3
LEVCOR INTERNATIONAL, INC.
NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2005 AND 2004
NOTE 1: BASIS OF PRESENTATION
- -----------------------------
The Condensed Consolidated Balance Sheets as of March 31, 2005 (Unaudited) and
December 31, 2004 (Audited) and the Unaudited Condensed Consolidated Statements
of Operations and Cash Flows for the three months ended March 31, 2005 and 2004
include the accounts of Levcor International, Inc. ("Levcor" or "the Company")
and its subsidiaries.
The accompanying unaudited condensed consolidated financial statements have been
prepared in compliance with Rule 10-01 of regulation S-X and accounting
principles generally accepted in the United States of America (GAAP), as
applicable to interim financial information and following other requirements of
the Securities and Exchange Commission (SEC) for interim reporting. Accordingly,
the unaudited condensed consolidated financial statements do not include all of
the information and footnotes normally required by accounting principles
generally accepted in the United States of America for complete financial
statements. In the opinion of management, all normal and recurring adjustments
and accruals considered necessary for a fair presentation have been included.
The interim results are not necessarily indicative of the results for a full
year and do not contain information included in the Company's annual
consolidated financial statements and notes for the year ended December 31,
2004. The consolidated balance sheet as of December 31, 2004 was derived from
audited financial statements, but does not include all disclosures required by
accounting principles generally accepted in the United States of America. It is
suggested that these financial statements be used in conjunction with the final
statements and notes thereto included in the Company's latest annual report.
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- ---------------------------------------------------
Nature of Operation: The Company (i) operates a textile business that
manufactures garments for sale, and to a lesser extent fabrics, in the apparel
industry and (ii) manufactures, packages and distributes a line of buttons and
other craft products for sale in the home sewing and craft retail industry. The
Company sells its products to customers primarily in the United States and also
has distribution in Canada and Europe.
Consolidation: The accompanying Unaudited Condensed Consolidated Financial
Statements include the accounts of the Company and all subsidiaries after
elimination of intercompany items and transactions.
Depreciation and Amortization: Depreciation and amortization are computed
principally by the straight-line method for each class of depreciable and
amortizable asset based on their estimated useful lives. Buildings and
improvements, machinery and equipment, and furniture, fixtures and leasehold
improvements are generally depreciated over periods of 20-35, 3-25 and 5-10
years, respectively.
Page 4
Revenue Recognition: In the Craft segment, revenue is recognized when goods are
shipped to customers. Shipment is made by UPS or common carrier. Deliveries
generally take place within three days of shipment. Standard terms for shipments
are F.O.B. shipping point, at which time the Company has completed all
performance obligations to consummate the sale. In some circumstances, shipments
are made F.O.B. destination, in which case the Company insures the sales value
of most shipments.
In the Textile segment, shipments are generally made F.O.B. destination and
revenue is recognized when goods are received by the customer. In some
circumstances, shipments are made F.O.B. shipping point, in which case revenue
is recognized when goods are shipped to the customer.
Use of Estimates: The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires the Company to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Goodwill: The Company reviews goodwill for impairment annually, or more
frequently if impairment indicators arise. Goodwill is written off when
impaired.
Accounting for Stock-based Compensation: The Company applies the recognition and
measurement principles of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees", and related Interpretations in
accounting for stock options. No stock-based employee compensation expense is
reflected in net income for employee stock options since all stock options are
granted at an exercise price equal to the market value of the underlying common
stock on the date of grant. The following table illustrates the effect on net
income and earnings per share if the Company had applied the fair value
recognition provisions of Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation", to stock-based employee compensation.
Three Months Ended
March 31,
-----------------------
2005 2004
---------- ----------
Net (loss) income applicable to common stock
As Reported $ (224) $ 22
Pro Forma $ (241) $ 6
Basic EPS:
As Reported $ (.04) $ --
Pro Forma $ (.05) $ --
Diluted EPS:
As Reported $ (.04) $ --
Pro Forma $ (.05) $ --
Page 5
Earnings (loss) per share: Basic and diluted earnings (loss) per share ("EPS")
are calculated in accordance with Financial Accounting Standards Board ("FASB")
Statement No. 128, Earnings Per Share. Weighted average shares used in computing
basic and diluted EPS are as follows:
Three Months Ended
March 31,
----------------------------
2005 2004
------------ ------------
Basic EPS 5,331,418 5,222,048
Effect of dilutive securities -- 101,174
------------ ------------
Diluted EPS 5,331,418 5,323,222
============ ============
Dilutive securities include stock options.
For the three months ended March 31, 2005, options to purchase 108,000 share of
common stock, were outstanding but were not included in the computation of
diluted EPS, as the effect would be anti-dilutive.
For the three months ended March 31, 2005 and 2004, options to purchase 338,000
and 58,000 shares of common stock, respectively, were outstanding, but were not
included in the computations of diluted EPS, because the options' exercise
prices were greater than the average market price of the common stock during the
period.
Reclassifications: Certain reclassifications have been made to the prior
period's financial statements to conform to the current period presentation.
New Accounting Pronouncements: In December 2004, the FASB issued SFAS No. 123R,
"Share-Based Payment". SFAS No. 123R is a revision of SFAS No. 123, "Accounting
for Stock Based Compensation", and supersedes APB 25. Among other items, SFAS
123R eliminates the use of APB 25 and the intrinsic value method of accounting,
and requires companies to recognize the cost of employee services received in
exchange for awards of equity instruments, based on the grant date fair value of
those awards, in the financial statements. The effective date of SFAS 123R is
the first reporting period beginning after June 15, 2005, which is third quarter
2005 for calendar year companies, although early adoption is allowed. However,
Page 6
on April 14, 2005, the Securities and Exchange Commission (SEC) announced that
the effective date of SFAS 123R will be suspended until January 1, 2006, for
calendar year companies.
SFAS 123R permits companies to adopt its requirements using either a "modified
prospective" method, or a "modified retrospective" method. Under the "modified
prospective" method, compensation cost is recognized in the financial statements
beginning with the effective date, based on the requirements of SFAS 123R for
all share-based payments granted after that date, and based on the requirements
of SFAS 123 for all unvested awards granted prior to the effective date of SFAS
123R. Under the "modified retrospective" method, the requirements are the same
as under the "modified prospective" method, but also permits entities to restate
financial statements of previous periods based on proforma disclosures made in
accordance with SFAS 123.
The Company currently utilizes a standard option pricing model (i.e.,
Black-Scholes) to measure the fair value of stock options granted to Employees.
While SFAS 123R permits entities to continue to use such a model, the standard
also permits the use of a "lattice" model. The Company has not yet determined
which model it will use to measure the fair value of employee stock options upon
the adoption of SFAS 123R.
SFAS 123R also requires that the benefits associated with the tax deductions in
excess of recognized compensation cost be reported as a financing cash flow,
rather than as an operating cash flow as required under current literature. This
requirement will reduce net operating cash flows and increase net financing cash
flows in periods after the effective date. These future amounts cannot be
estimated because they depend on, among other things, when employees exercise
stock options.
The Company currently expects to adopt SFAS 123R effective January 1, 2006,
based on the new effective date announced by the SEC; however, the Company has
not yet determined which of the aforementioned adoption methods it will use. In
addition, the Company has not yet determined the financial statement impact of
adopting SFAS 123R for periods beyond 2005.
In December 2004, the FASB issued Emerging Issues Task Force ("EITF") 04-8, The
Effect of Contingently Convertible Debt on Diluted Earnings per Share, requiring
the inclusion of convertible shares in diluted EPS regardless of whether the
market price trigger has occurred for all periods presented. This requirement
has an impact on the presentation of our consolidated financial statements in
future periods of profitability.
In March 2005, the FASB issued Interpretation No. 47, ("FIN 47"), Accounting for
Conditional Asset Retirement Obligations, an interpretation of FASB Statement
No. 143. FIN 47 clarifies that the term conditional asset retirement obligation
as used in FASB Statement (SFAS) No. 143, Accounting for Asset Retirement
Obligations, refers to a legal obligation to perform an asset retirement
activity in which the timing and/or method of settlement are conditional on a
future event that may or may not be within the control of the entity. According
to FIN 47, uncertainty about the timing and/or method of settlement of a
conditional asset retirement obligation should be factored into the measurement
of a liability when sufficient information exists. This interpretation is
effective no later than the end of fiscal years ending after December 15, 2005.
Retrospective application for interim financial information is permitted but not
required. The Company does not anticipate that its financial statements will be
significantly impacted by this interpretation.
Page 7
NOTE 3: SEGMENT INFORMATION
- ----------------------------
The Company operates in two reportable segments: Textile and Craft. Accounting
policies of the two segments are substantially the same as those described in
the summary of significant accounting policies as presented in the financial
statements as of and for the year ended December 31, 2004, which were included
in the Company's most recent Form 10-KSB. All revenues generated in the segments
are external.
The following table sets forth information regarding revenue and operating
income by reportable segment (dollars in thousands):
Three Months Ended
March 31,
-----------------------
2005 2004
---------- ----------
Revenue:
Textile $ 1,597 $ 901
Craft 4,511 5,712
---------- ----------
$ 6,108 $ 6,613
========== ==========
Operating income (loss):
Textile $ (181) $ (314)
Craft 421 850
---------- ----------
240 536
Corporate general and
administrative expense (327) (265)
Interest expense, net (162) (124)
Dividends on mandatory
redeemable preferred stock (68) (69)
(Provision) benefit for income taxes 93 (56)
---------- ----------
Net income (loss) $ (224) $ 22
========== ==========
Depreciation and amortization:
Textile $ 6 $ 12
Craft 86 96
Corporate 4 4
---------- ----------
$ 96 $ 112
========== ==========
Capital expenditures:
Textile $ -- $ 21
Craft 2 38
---------- ----------
$ 2 $ 59
========== ==========
March 31, December 31,
2005 2004
---------- ----------
Total assets:
Textile $ 6,934 $ 5,482
Craft 18,761 19,402
------------ ----------
$ 25,695 $ 24,884
============ ==========
Page 8
NOTE 4: INVENTORIES
- --------------------
The components of inventories, net of reserves, are as follows (dollars in
thousands):
March 31, December 31,
2005 2004
---------- ----------
Raw materials $ 4,754 $ 4,641
Work in progress 522 167
Finished goods 3,300 2,921
---------- ----------
$ 8,576 $ 7,729
========== ==========
Inventories were valued on a weighted average cost method basis. Inventories are
stated at the lower of cost or market. Cost elements included in inventory are
material, labor and overhead, primarily using standard cost, which approximates
actual cost.
NOTE 5: PROPERTY, PLANT AND EQUIPMENT
- --------------------------------------
The components of Property, Plant and Equipment are as follows (dollars in
thousands):
March 31, December 31,
2005 2004
---------- ----------
Land and improvements $ 79 $ 80
Buildings and improvements 2,487 2,497
Machinery and equipment 2,094 2,128
---------- ----------
4,660 4,705
Less: Accumulated depreciation
and amortization (2,443) (2,400)
---------- ----------
$ 2,217 $ 2,305
========== ==========
Depreciation and amortization expense for the three months ended March 31, 2005
and 2004 were approximately $96,000 and $112,000, respectively.
NOTE 6: SHORT TERM AND LONG TERM DEBT
- --------------------------------------
The Company has a credit facility with the CIT Group, Inc. ("CIT") and a
promissory note payable to JPMorgan Chase Bank ("JPMorgan"). In addition, the
Company has borrowings and advances outstanding from Robert A. Levinson, a
stockholder, officer and director of the Company.
The Company's credit facility with CIT (the "CIT Facility") provides for maximum
aggregate borrowings of up to $7.5 million in the form of revolving credit,
letters of credit and term loans. The CIT Facility is comprised of separate
financing agreements with the Company and its wholly-owned subsidiary,
Blumenthal Lansing Company, LLC ("Blumenthal").
Page 9
The CIT Facility provides for (i) a term loan to the Company (the "Term Loan")
in the initial amount of $2.0 million, $1.6 million of which was outstanding at
March 31, 2005, (ii) revolving credit advances to the Company in an amount up to
$500,000 and (iii) revolving credit advances to Blumenthal based upon eligible
accounts receivable and inventory, and a Letter of Credit facility with a limit
of $500,000. The Term Loan amortizes $12,000 per month followed by a final
installment payment of $1.4 million due on January 1, 2007. The revolving credit
advances are also due on January 1, 2007. All amounts outstanding under the CIT
Facility bear interest at the Chase Bank N.A. prime rate plus 0.5% with a
minimum rate of 5.0%.
In connection with the CIT Facility, the Company and its subsidiary have made
cross corporate guarantees and have issued first priority liens covering
substantially all of the assets of the Company and its subsidiary. In addition,
Mr. Robert A. Levinson, a stockholder, officer and director of the Company,
provided certain collateral against advances provided under the CIT Facility.
The CIT Facility contains representations and warranties and events of default
customary for agreements of this nature such as restrictions on incurring more
debt, acquisitions, the use of proceeds from the sales of assets, the
prohibition of preferred stock redemptions, dividend payments in excess of
$300,000 per year, and a change in voting control of the Company. The CIT
Facility also contains a subjective acceleration clause which states that,
except for the Term Loan, all obligations shall, at CIT's option, be immediately
due and payable without notice or demand upon the occurrence of any change in
the Company's condition or affairs (financial or otherwise) that, in CIT's sole
discretion exercised by CIT in accordance with CIT's business judgment,
materially impairs the collateral or increases CIT's risk. In the case of the
Term Loan, CIT may accelerate the maturity in the event of a default by the
Company after thirteen months notice of such acceleration. Management of the
Company believes that the likelihood of CIT accelerating the payment of any of
the obligations under the CIT Facility during the next twelve months is remote.
Pursuant to a factoring agreement between CIT and the Company, CIT purchases the
Textile segment's eligible trade accounts receivable without recourse and
assumes substantially all credit risk with respect to such accounts. The amounts
due to the Company from CIT under the factoring agreement earn no interest. The
factoring agreement allows the Company to obtain advances that bear interest at
0.5% above CIT's prime rate (5.75% at March 31, 2005). The Company pledged its
Textile segment's accounts receivable and property and equipment as collateral
under the factoring agreement. There is no set limit on borrowings. The amount
available for borrowing is based on a formula consisting of 90% of eligible
accounts receivable increased by side collateral and reduced by both the current
loan balance and outstanding letters of credit.
The promissory note payable to JPMorgan in the amount of $3.0 million is dated
May 2, 2002 and has a maturity date of December 31, 2006, as amended. The note
bears interest at a fixed rate per annum equal to the Adjusted LIBO Rate
applicable to such note plus 0.75% (a "Eurodollar Loan"). The interest rate on
the note at March 31, 2005 was 3.84%. In addition, Robert A. Levinson, a
stockholder, officer and director of the Company, has provided certain
additional collateral guaranteeing the note.
Page 10
Robert A. Levinson has made long-term loans totaling $500,000 to the Company at
an interest rate of 6% per annum. Mr. Levinson has agreed not to require payment
of these loans and $324,000 of related accrued interest at March 31, 2005 prior
to January 1, 2007.
Mr. Levinson has agreed to personally support the Company's cash requirements to
enable it to fulfill its obligations through January 1, 2007, to the extent
necessary, up to a maximum amount of $3.0 million. The Company believes its
reliance on such commitment is reasonable and that Mr. Levinson has sufficient
liquidity and net worth to honor such commitment. The Company believes that Mr.
Levinson's written commitment provides the Company with the legal right to
request and receive such advances. In the event that Mr. Levinson did not honor
such commitment, the Company would have the right to sue Mr. Levinson for breach
of his agreement. Mr. Levinson reaffirmed this undertaking in writing on March
9, 2005. In connection with this agreement, Mr. Levinson advanced $1,400,000 to
the Company at an interest rate of 6% per annum during the first quarter of
2005.
During the period ended March 31, 2005, the Company was in compliance with all
debt covenants.
NOTE 7: PENSION AND OTHER POST-RETIREMENT BENEFIT PLANS
- --------------------------------------------------------
The Company sponsors a defined benefit plan, which requires no contribution from
the employees. The plan was frozen as of December 31, 1994, and no new employees
have been eligible to join this plan since that date. Prior to December 31,
1994, the plan covered substantially all employees. The employees covered under
the plan do not receive any additional accruals for service rendered after
December 31, 1994. Plan assets consist principally of common stocks, U.S.
Government obligations, and mutual funds.
The benefits under this plan are determined based on formulas, which reflect the
employees' years of service and compensation during their employment period. The
projected unit credit method is used to determine pension cost. Funding
requirements for the plan are based on the unit credit method. The Company's
policy is to fund pension cost as required by ERISA. For 2005, the minimum
funding requirements for the plan totals $52,000.
The Company provides certain health and life insurance benefits for eligible
retirees and their dependents. The Company accounts for post-retirement benefits
in accordance with SFAS Number 106, "Employers' Accounting for Post-retirement
Benefits Other Than Pensions", whereby the cost of post-retirement benefits are
accrued during employees' working careers. The plan is not funded. The Company's
policy is to pay the cost of benefits as incurred. Certain benefits are
available to full-time employees who were over age 30, as of January 1, 1992,
provided such employees work for the Company for 25 years and reach certain
ages, but not less than age 55. Employees hired after January 1, 1993 are not
eligible to receive benefits under this plan.
Page 11
A summary of net periodic benefit costs of the Company's defined benefit plan
and post retirement medical benefit plan for the three ended March 31, 2005 and
2004, respectively, are as follows (dollars in thousands):
Three Months Ended
March 31,
-----------------------
Pension Benefits 2005 2004
---------------- ---------- ----------
Service $ -- $ --
Interest cost 304 323
Expected return on plan assets (342) (341)
Amortization of prior service cost -- --
Recognized net actuarial loss 46 38
---------- ----------
Net periodic benefit cost $ 8 $ 20
========== ==========
Three Months Ended
March 31,
-----------------------
Other Benefits 2005 2004
---------------- ---------- ----------
Service $ 4 $ --
Interest cost 14 17
Expected return on plan assets -- --
Amortization of prior service cost (4) (4)
Recognized net actuarial (gain) (26) (20)
---------- ----------
Net periodic benefit (gain) $ (12) $ (7)
========== ==========
For more information on the Company's pension and other post-retirement benefit
plans, refer to the consolidated financial statements and notes included in the
Company's Annual Report on Form 10-KSB.
NOTE 8: MANDATORY REDEEMABLE PREFERRED STOCK
- ---------------------------------------------
Dividends on the Series A Preferred Stock accrue at an annual rate of 6% and are
payable quarterly. The availability of resources to make dividend payments to
the holders of Series A Preferred Stock in the future will depend on the
Company's future cash flow. Under the terms of the CIT Facility, preferred stock
redemption payments are prohibited and preferred stock dividend payments are
limited to $300,000 per year.
Effective July 1, 2003, the Company adopted the provisions of Statement of
Financial Accounting Standards No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equities" ("SFAS 150").
Accordingly, the redeemable preferred stock has been classified as a liability
on the balance sheet at redemption value as of March 31, 2005 and December 31,
2004. The Statements of Operations for the three months ended March 31, 2005 and
2004 include $68,000 and $69,000 respectively of preferred stock dividends paid
which have been included in the determination of operating income (loss).
Page 12
NOTE 9: COMMON STOCK AND STOCK OPTIONS
- ---------------------------------------
During the three months ended March 31, 2005 and 2004, the Company issued an
aggregate of 2,317 shares and 2,378 shares, respectively, of common stock to a
director and recorded such issuance as stock based compensation expense.
During the quarter ended March 31, 2004, in connection with a stock option
exercise by Robert A. Levinson, a stockholder, officer and director of the
Company, the Company issued 170,000 shares of common stock and accepted 45,274
shares of common stock previously held by the optionee as payment of the option
exercise price. The common shares tendered were recorded as treasury stock. All
102,874 shares of treasury stock were retired as of March 31, 2004.
NOTE 10: RELATED PARTY TRANSACTIONS
- ------------------------------------
Robert A. Levinson has provided long-term loans of $824,000 including accrued
interest of $324,000 to the Company as of March 31, 2005. He has also made short
term advances of $1,400,000 during the first quarter of 2005 and he has pledged
collateral in support of certain Company obligations. See Note 6 for a
description of these transactions.
In addition to being a director of the Company, Edward H. Cohen serves as
counsel to Katten Muchin Rosenman LLP, legal counsel to the Company. During the
three months ended March 31, 2005 and 2004, fees for services provided to the
Company by Katten Muchin Rosenman LLP totaled approximately $22,000 and $18,000
respectively. Mr. Cohen does not share in the fees that the Company pays to such
law firm and his compensation is not based on such fees.
NOTE 11: COMMITMENTS AND CONTINGENCIES
- --------------------------------------
Legal Proceedings. The Company is a party to various environmental claims, legal
proceedings and administrative actions, all arising from the ordinary course of
business. Although it is impossible to predict the outcome of any such claims or
legal proceedings, the Company believes any liability that may finally be
determined should not have a material effect on its consolidated financial
position, results of operations or cash flows.
Page 13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Forward-Looking Statements
Introduction
You should read the following discussion and analysis in conjunction with our
condensed consolidated financial statements and the related notes thereto
included in this Report on Form 10-Q. The discussion in this Report contains
both historical information and forward-looking statements. A number of factors
affect our operating results and could cause our actual future results to differ
materially from any forward-looking results discussed below, including, but not
limited to, future revenue opportunities, development and growth of the
Company's contract garment manufacturing business, reliance on a limited number
of significant customers, reliance on third party suppliers and manufacturers,
inventory risk, growth of the Company's craft business in Europe and North
America, the expansion and future growth of the Company's customer base and
strategic and distribution relationships, future capital, marketing and sales
force needs, the Company's ability to manage expenses and maintain margins, the
possible acquisition of complementary products and businesses, and other risks
and uncertainties that may be detailed herein, and from time-to-time, in the
Company's other reports filed with the Securities and Exchange Commission. In
some cases, you can identify forward-looking statements by terminology such as
"anticipates", "appears", "believes", "continue", "could", "estimates",
"expects", "goal", "hope", "intends", "may", "our future success depends",
"plans", "potential", "predicts", "projects", "reasonably", "seek to continue",
"should", "thinks", "will" or the negative of these terms or other comparable
terminology. These statements are only predictions. Actual events or results may
differ materially. In addition, historical information should not be considered
an indicator of future performance. Factors that could cause or contribute to
these differences include, but are not limited to, the risks discussed in the
section of this report titled "Factors Affecting Future Operating Results".
These factors may cause our actual results to differ materially from any
forward-looking statement.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we nor any other person
assumes responsibility for the accuracy and completeness of these statements. We
are under no duty to update any of the forward-looking statements after the date
of this Report on Form 10-Q to conform these statements to actual results. These
forward-looking statements are made in reliance upon the safe harbor provision
of The Private Securities Litigation Reform Act of 1995.
Critical Accounting Policies and Estimates
The following is a brief discussion of the critical accounting policies used in
the preparation of the Company's financial statements, including those
accounting policies and methods used by the Company which require subjective
judgments and are considered very important to the understanding of the
Company's financial condition.
Page 14
Receivables
The Textile segment factors substantially all of its accounts receivable,
therefore, the accounts receivable amount shown on the Condensed Consolidated
Balance Sheet is substantially all related to the Company's Craft segment.
The Company extends credit to Craft segment customers that satisfy established
credit criteria. The Craft segment has a significant concentration of credit
risk due to the large volume of business with several major retail customers.
Most of these retail customers are public companies and as such, the Company
monitors their financial reports on a regular basis and obtains accounts
receivable insurance in certain circumstances.
Accounts receivable, trade, is reported net of reserves for bad debts, returns
and allowances. A reserve for bad debts is determined through analysis of the
aging of accounts receivable at the date of the financial statements and
assessments of collectability based on historical trends. The reserve for bad
debts includes 100% of all invoices that management deems doubtful of
collection. The Company also estimates reserves for sales returns and allowances
based on historical experience.
Inventories
Inventories are stated at the lower of cost (principally average cost) or
market. Inventories consist of loose buttons, unpackaged craft products, yarn
and greige goods, packaged craft and button products, finished fabric and
garments. The Company estimates markdowns required for inventories based upon
future marketability as well as general economic conditions. The Company
regularly reviews inventory quantities on hand, by item, and records a provision
for excess inventory based primarily upon the Company's historical experience
and estimated forecast of product demand using historical and recent ordering
data relative to the quantity on hand for each item. A significant decrease in
demand for the Company's products could result in an increase in the amount of
excess inventory quantities on hand; however, the Company manages inventory and
monitors product purchasing to reduce this risk.
Intangible Assets
Goodwill and other intangible assets such as trademarks are evaluated for
impairment at least annually and, if necessary, impairment is recorded. Goodwill
and other intangible assets are not amortized.
Pension Liabilities
The Company used an estimated rate of return of 8.00% and a discount rate of
5.75% in computing its defined benefit plan pension liability.
Page 15
Revenue Recognition
In the Craft segment, revenue is recognized when goods are shipped to customers.
Shipment is made by UPS or common carrier. Deliveries generally take place
within three days of shipment. Standard terms for shipments are F.O.B. shipping
point, at which time the Company has completed all performance obligations to
consummate the sale. In some circumstances, shipments are made F.O.B.
destination, in which case the Company insures the sales value of most
shipments.
In the Textile segment, shipments are generally made F.O.B. destination and
revenue is recognized when goods are received by the customer. In some
circumstances, shipments are made F.O.B. shipping point, in which case revenue
is recognized when goods are shipped to the customer.
Revenue is reported net of a reserve for sales returns and allowances. Sales
returns and allowances are estimated based upon specific agreements and
historical patterns with major accounts and are accrued in the period in which a
customer becomes entitled to an allowance or return of product.
Shipping and Handling Costs
Shipping and handling costs are included in the cost of sales.
Income Taxes
We are subject to taxation from federal, state and international jurisdictions.
A significant amount of management judgment is involved with our annual
provision for income taxes and the calculation of resulting deferred tax assets
and liabilities. We evaluate liabilities for estimated tax exposures in
jurisdictions of operation. These tax jurisdictions include federal, state and
international tax jurisdictions. Significant income tax exposures include
potential challenges on foreign entities, merger, acquisition and disposition
transactions and intercompany pricing. Exposures are settled primarily through
the completion of audits within these tax jurisdictions, but can also be
affected by other factors. Changes could cause management to find a revision of
past estimates appropriate. The liabilities are frequently reviewed by
management for their adequacy and appropriateness. As of March 31, 2005, we were
not currently under audit by the U.S. taxing authorities. Tax periods within the
statutory period of limitations not previously audited are potentially open for
examination by the taxing authorities. Potential liabilities associated with
these years will be resolved when an event occurs to warrant closure, primarily
through the completion of audits by the taxing jurisdictions. To the extent
audits or other events result in a material adjustment to the accrued estimates,
the effect would be recognized during the period of the event. Management
believes that an appropriate liability has been established for estimated
exposures, though the potential exists for results to vary materially from these
estimates.
Page 16
We record a valuation allowance to reduce deferred tax assets when it is more
likely than not that some portion or all of the deferred tax assets may not be
realized. We consider future taxable income and prudent and feasible tax
planning strategies in determining the need for a valuation allowance. We
evaluate the need for a valuation allowance on a regular basis and adjust as
needed. These adjustments have an impact on our financial statements in the
periods in which they are recorded. We determined that a valuation allowance
should be recorded against certain of our deferred tax assets based on the
criteria of Statement of Financial Accounting Standards ("SFAS") No. 109,
Accounting for Income Taxes. As of March 31, 2005, this valuation allowance is
still in place.
Stock-Based Compensation
We account for compensation cost related to employee stock options and other
forms of employee stock-based compensation plans other than ESOP in accordance
with the provisions of Accounting Principles Board Opinion ("APB") No. 25,
Accounting for Stock Issued to Employees, and related interpretations. As such,
compensation expense would be recorded on the date of grant only if the current
market prices of the underlying stock exceeded the exercise price. We apply
Financial Accounting Standards Board ("FASB") SFAS No. 123, Accounting for
Stock-Based Compensation, which allows entities to continue to apply the
provision of APB No. 25 and provide pro forma net income and pro forma earnings
per share disclosures for employee stock option grants as if the fair value
based method defined in SFAS No. 123 had been applied.
The accounting for stock-based compensation involves a number of estimates about
the expected lives of stock options, interest rates, stock volatility, and
assumptions as well as the selection of a valuation model. We have selected to
use the Black-Scholes option valuation model. A change in any of these estimates
or a selection of a different option pricing model could have a material impact
on our pro forma net income (loss) disclosures. Beginning in the first quarter
of 2006, we will be required to account for stock-based compensation under SFAS
No. 123R, Share-Based Payment', which will require us to recognize the estimate
on our financial statements. See Note 2 of the Notes to Condensed Consolidated
Financial Statements for further discussion.
Results of Operations
Three Months Ended March 31, 2005 Compared to Three Months Ended March 31, 2004
Net sales for the three months ended March 31, 2005 totaled $6.1 million as
compared to $6.6 million during the first quarter of 2004.
Net sales in the Textile segment increased $696,000 to $1.6 million for the
three months ended March 31, 2005 from $901,000 million during the same period
last year. The increase in Textile segment sales during 2005 was the result of a
new spring contract garment manufacturing program in 2005. The women's wear
segment of the contract garment manufacturing business in which the Textile
division competes is very seasonal and, based upon our current customer base,
sales continue to be heavily weighted primarily to the third quarter and to a
lesser extent the fourth quarter.
Net sales in the Craft segment totaled $4.5 million during the first quarter of
2005 as compared to $5.7 million during the first quarter of 2004. The decrease
in Craft segment sales totaling $1.2 million was the result of lower spring
promotional craft orders and lower sales across most Craft segment product lines
as a result of reduced demand by one of our largest customers.
Page 17
Gross margin during the first quarter of 2005 was $1.9 million as compared to
$2.4 million during the first quarter of 2004. The decrease in gross margin
dollars was the result of lower sales in the Craft segment as described above,
partially offset by higher sales in the Textile segment. The gross margin
percent totaled 30.8% during the three months ended March 31, 2005 as compared
to 36.9% during the first quarter of 2004. The lower gross margin percent in
2005 was the result of the change in sales mix, with increased sales of lower
margin Textile segment and lower sales of Craft segment product.
Gross margin in the Textile segment totaled $252,000 during the first quarter of
2005 versus $186,000 during the first quarter of 2004. The increase in Textile
segment gross margin during the first quarter of 2005 was the result of the
higher sales volume in the segment. The gross margin percent during the first
quarter of 2005 totaled 15.8% as compared to 20.6% during the first quarter of
2004. The decrease in gross margin percent was the result of the Company's new
spring contract garment manufacturing business which carries a lower margin.
Gross margin in the Craft segment totaled $1.6 million during the first quarter
of 2005 as compared to $2.3 million during the same period last year. The gross
margin percent during the first quarter of 2005 totaled 36.2% as compared to
39.4% during the first quarter of 2004. The decrease in Craft segment gross
margin dollars was the result of lower sales. The decrease in Craft segment
gross margin percent was the result of higher fixed cost of goods sold as a
percent of lower net sales.
The Company anticipates that it will incur a higher level of sales returns in
the second quarter of 2005, primarily in connection with sales arrangements made
with a large Craft division customer. These returns are anticipated to result in
lower reported 2005 net sales as compared to 2004, and accordingly earnings in
2005 are anticipated to be materially lower as compared to 2004.
Selling, general and administrative expenses totaled approximately $2.0 million
during the three months ended March 31, 2005, as compared to $2.2 million during
the three months ended March 31, 2004. The reduction in general and
administrative expenses was primarily the result of reduced compensation
expense.
Loss before interest, preferred dividends and income taxes during the first
quarter of 2005 totaled $87,000 as compared to income of $271,000 during the
first quarter of 2004. The decrease in income before interest, preferred
dividends and income taxes during the first quarter of 2005 compared to the
first quarter of 2004 was primarily due to the reduction in gross profit, as
discussed above, offset in part by the lower level of selling, general and
administrative expenses.
Net interest expense during the first quarter of 2005 totaled $162,000 as
compared to net interest expense of $124,000 during the first quarter of 2004.
The increase in interest expense as compared to the same period last year was
primarily the result of higher average debt levels during the first quarter of
2005 as compared to the first quarter of 2004 combined with an increase in the
average interest rate.
Dividends on mandatory redeemable preferred stock totaled $68,000 during the
first quarter of 2005 as compared to $69,000 during the same period last year.
The benefit for income taxes during the first quarter of 2005 was $93,000 as
compared to a provision of $56,000 during the first quarter of 2004.
Page 18
Liquidity and Capital Resources
The Company's Textile division provides offshore contract garment manufacturing
services for a major customer. The nature of this business is such that a
significant inventory investment is required in the early phases of the
production cycle. The Company's borrowing agreement with CIT does not provide
funding for this activity until the finished goods are shipped and billed to the
customer. As a result, the Company has and will rely on temporary advances from
Robert A. Levinson, a stockholder, officer and director of the Company.
At March 31, 2005 the Company's principal sources of liquidity included cash of
$52,000 and trade accounts receivable of $3.4 million.
The Company's principal sources of cash flow are from internally generated
funds, borrowings under revolving credit facilities, advances under the
factoring agreement and advances from Robert A. Levinson, a stockholder, officer
and director.
Cash Flow Summary:
(in thousands)
2005 2004
---------- ----------
Net cash (used in) provided by:
Operating activities $ (811) $ (915)
Investing activities (22) (76)
Financing activities 853 1,007
---------- ----------
Net change in cash $ 20 $ 16
========== ==========
Net cash flow used in operating activities totaled $811,000 during the first
quarter of 2005, as compared to $915,000 net cash flow used in operating
activities during the same period last year. The reduction in net cash flow used
in operating activities totaling $104,000 was primarily the result of a decrease
in cash used for accounts receivable, offset by cash used in increasing
inventories and a reduction of other current liabilities.
Net cash flow used in investing activities totaled $22,000 during the first
quarter of 2005, as compared to $76,000 during the first quarter of 2004.
Net cash provided by financing activities totaled $853,000 during the first
quarter of 2005, as compared to $1.0 million during the same period last year.
The decrease in cash provided by financing activities was the result of reduced
cash needs due to the lower amounts of cash used in net operating activities and
investing activities as discussed above.
Net proceeds from stockholder loans during the first quarter of 2005 totaled
$1.4 million as compared to none during the same period last year. The increase
in stockholder loan is primarily the result of an increase in inventory in the
Textile division totaling $1.2 million, which inventory does not provide
borrowing availability under the Company's credit facility as discussed above.
Net borrowings under the Company's credit facilities during the quarter ended
March 31, 2005, totaled $146,000 as compared $457,000 during the same period
last year. Net amount repaid to factor during the first quarter of 2005 totaled
$701,000 as compared to borrowing from factor of $535,000 during the first
quarter of 2004.
Page 19
The Company has a credit facility with the CIT Group, Inc. ("CIT") and a
promissory note payable to JPMorgan Chase Bank ("JPMorgan"). In addition, the
Company has borrowings and advances outstanding from Robert A. Levinson, a
stockholder, officer and director of the Company.
The Company's credit facility with CIT (the "CIT Facility") provides for maximum
aggregate borrowings of up to $7.5 million in the form of revolving credit,
letters of credit and term loans. The CIT Facility is comprised of separate
financing agreements with the Company and its wholly-owned subsidiary,
Blumenthal Lansing Company, LLC ("Blumenthal").
The CIT Facility provides for (i) a term loan to the Company (the "Term Loan")
in the initial amount of $2.0 million, $1.6 million of which was outstanding at
March 31, 2005, (ii) revolving credit advances to the Company in an amount up to
$500,000 and (iii) revolving credit advances to Blumenthal based upon eligible
accounts receivable and inventory, and a Letter of Credit facility with a limit
of $500,000. The Term Loan amortizes $12,000 per month followed by a final
installment payment of $1.4 million due on January 1, 2007. The revolving credit
advances are also due on January 1, 2007. All amounts outstanding under the CIT
Facility bear interest at the Chase Bank N.A. prime rate plus 0.5% with a
minimum rate of 5.0%.
In connection with the CIT Facility, the Company and its subsidiary have made
cross corporate guarantees and have issued first priority liens covering
substantially all of the assets of the Company and its subsidiary. In addition,
Mr. Robert A. Levinson, a stockholder, officer and director of the Company,
provided certain collateral against advances provided under the CIT Facility.
The CIT Facility contains representations and warranties and events of default
customary for agreements of this nature such as restrictions on incurring more
debt, acquisitions, the use of proceeds from the sales of assets, the
prohibition of preferred stock redemptions, dividend payments in excess of
$300,000 per year, and a change in voting control of the Company. The CIT
Facility also contains a subjective acceleration clause which states that,
except for the Term Loan, all obligations shall, at CIT's option, be immediately
due and payable without notice or demand upon the occurrence of any change in
the Company's condition or affairs (financial or otherwise) that, in CIT's sole
discretion exercised by CIT in accordance with CIT's business judgment,
materially impairs the collateral or increases CIT's risk. In the case of the
Term Loan, CIT may accelerate the maturity in the event of a default by the
Company after thirteen months notice of such acceleration. Management of the
Company believes that the likelihood of CIT accelerating the payment of any of
the obligations under the CIT Facility during the next twelve months is remote.
Pursuant to a factoring agreement between CIT and the Company, CIT purchases the
Textile segment's eligible trade accounts receivable without recourse and
assumes substantially all credit risk with respect to such accounts. The amounts
due to the Company from CIT under the factoring agreement earn no interest. The
factoring agreement allows the Company to obtain advances that bear interest at
0.5% above CIT's prime rate (5.75% at March 31, 2005). The Company pledged its
Textile segment's accounts receivable and property and equipment as collateral
under the factoring agreement. There is no set limit on borrowings. The amount
available for borrowing is based on a formula consisting of 90% of eligible
accounts receivable increased by side collateral and reduced by both the current
loan balance and outstanding letters of credit.
Page 20
The promissory note payable to JPMorgan in the amount of $3.0 million is dated
May 2, 2002 and has a maturity date of December 31, 2006, as amended. The note
bears interest at a fixed rate per annum equal to the Adjusted LIBO Rate
applicable to such note plus 0.75% (a "Eurodollar Loan"). The interest rate on
the note at March 31, 2005 was 3.84%. In addition, Robert A. Levinson, a
stockholder, officer and director of the Company, has provided certain
additional collateral guaranteeing the note.
Robert A. Levinson has made long-term loans totaling $500,000 to the Company at
an interest rate of 6% per annum. Mr. Levinson has agreed not to require payment
of these loans and $324,000 of related accrued interest at March 31, 2005 prior
to January 1, 2007.
Mr. Levinson has agreed to personally support the Company's cash requirements to
enable it to fulfill its obligations through January 1, 2007, to the extent
necessary, up to a maximum amount of $3.0 million. The Company believes its
reliance on such commitment is reasonable and that Mr. Levinson has sufficient
liquidity and net worth to honor such commitment. The Company believes that Mr.
Levinson's written commitment provides the Company with the legal right to
request and receive such advances. In the event that Mr. Levinson did not honor
such commitment, the Company would have the right to sue Mr. Levinson for breach
of his agreement. Mr. Levinson reaffirmed this undertaking in writing on March
9, 2005. In connection with this agreement, Mr. Levinson advanced $1,400,000 to
the Company at an interest rate of 6% per annum during the first quarter of
2005.
During the period ended March 31, 2005, the Company was in compliance with all
debt covenants.
The Series A Preferred Stock is subject to mandatory redemption, to the extent
the Company may lawfully do so, in three equal annual installments on June 15,
2007, June 15, 2008 and June 15, 2009, in each case, from funds legally
available therefore, at a price per share of Series A Preferred Stock equal to
$1 per share, together with an amount representing accrued and unpaid dividends,
whether or not declared, to the date of redemption. Dividends on the Series A
Preferred Stock accrue at a rate of $0.06 per annum per share when, as and if
declared by the Company and are payable quarterly on March 15, June 15,
September 15 and December 15. Quarterly dividends which are not paid in full in
cash on any dividend payment date will accumulate without interest. Under the
terms of the CIT Facilities, preferred stock redemption payments are prohibited
and preferred stock dividend payments are limited to $300,000 per year.
Seasonality and New Product Lines
The Company's Textile business is seasonal and as such the Company generally
realizes significantly higher revenues and operating income in the third
quarter, as compared to other quarters of the year. Such seasonality takes into
account the standard lead-time required by the fashion industry to manufacture
apparel, which corresponds to the respective retail selling seasons. Standard
lead-time is the period of time commencing when the Company receives an order
from a customer and ending when the Company ships the order to the customer. In
response to this seasonality, the Company generally increases its inventory
levels, and therefore has higher working capital needs during the second and
third quarters of its fiscal year, although this year the Company also supported
increased inventory levels in the first quarter of 2005. This standard lead-time
also results in significant backlogs during the second and third quarters. The
Company ships these seasonal orders to the customers during the third and fourth
quarters. The Textile division's backlog as of March 31, 2005 was approximately
$551,000. Although the Company has not had significant cancellations in the
past, no assurance can be given that it will not experience a significant level
of cancellations in the future or that its backlog at any point in time will be
converted to sales. The Company and the U.S. apparel industry in general are
sensitive to the business cycle of the national economy. Moreover, the
popularity, supply and demand for particular apparel products can change
significantly from year to year based on prevailing fashion trends and other
factors.
Page 21
The Company's Craft business is largely based on its ability to fulfill reorders
of existing product lines and to place new product lines with its retail
customers. The business is fundamentally influenced by the buying habits of
consumers. Home sewing and craft activities take place on a year-round basis;
however, they are generally indoor activities and as a result they experience an
increased participation level during the fall, winter and early spring months.
Anticipating this pattern, the Company's retail customers place somewhat larger
reorders during the July through March period. Sales are influenced by the
introduction of new product lines and the discontinuance of existing product
lines. A successful new program requires the retail customer to add the program
and experience an acceptable level of sell-through. The Company develops and
introduces new program ideas on a regular basis. However, there is no assurance
that its retail customers will buy the new product lines and if they do, there
is no assurance the consumer will purchase the new product at an acceptable
level.
The sale of the Company's products can be subject to substantial cyclical
fluctuation. Sales may decline in periods of recession or uncertainty regarding
future economic prospects that affect consumer spending, particularly on
discretionary items. This cyclicality and any related fluctuation in consumer
demand could have a material adverse effect on the Company's results of
operations and financial condition.
New Accounting Pronouncements
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment". SFAS No.
123R is a revision of SFAS No. 123, "Accounting for Stock Based Compensation",
and supersedes APB 25. Among other items, SFAS 123R eliminates the use of APB 25
and the intrinsic value method of accounting, and requires companies to
recognize the cost of employee services received in exchange for awards of
equity instruments, based on the grant date fair value of those awards, in the
financial statements. The effective date of SFAS 123R is the first reporting
period beginning after June 15, 2005, which is third quarter 2005 for calendar
year companies, although early adoption is allowed. However, on April 14, 2005,
the Securities and Exchange Commission (SEC) announced that the effective date
of SFAS 123R will be suspended until January 1, 2006, for calendar year
companies.
SFAS 123R permits companies to adopt its requirements using either a "modified
prospective" method, or a "modified retrospective" method. Under the "modified
prospective" method, compensation cost is recognized in the financial statements
beginning with the effective date, based on the requirements of SFAS 123R for
all share-based payments granted after that date, and based on the requirements
of SFAS 123 for all unvested awards granted prior to the effective date of SFAS
123R. Under the "modified retrospective" method, the requirements are the same
as under the "modified prospective" method, but also permits entities to restate
financial statements of previous periods based on proforma disclosures made in
accordance with SFAS 123.
The Company currently utilizes a standard option pricing model (i.e.,
Black-Scholes) to measure the fair value of stock options granted to Employees.
While SFAS 123R permits entities to continue to use such a model, the standard
also permits the use of a "lattice" model. The Company has not yet determined
which model it will use to measure the fair value of employee stock options upon
the adoption of SFAS 123R.
SFAS 123R also requires that the benefits associated with the tax deductions in
excess of recognized compensation cost be reported as a financing cash flow,
rather than as an operating cash flow as required under current literature. This
requirement will reduce net operating cash flows and increase net financing cash
flows in periods after the effective date. These future amounts cannot be
estimated because they depend on, among other things, when employees exercise
stock options.
Page 22
The Company currently expects to adopt SFAS 123R effective January 1, 2006,
based on the new effective date announced by the SEC; however, the Company has
not yet determined which of the aforementioned adoption methods it will use. In
addition, the Company has not yet determined the financial statement impact of
adopting SFAS 123R for periods beyond 2005.
In December 2004, the FASB issued Emerging Issues Task Force ("EITF") 04-8, The
Effect of Contingently Convertible Debt on Diluted Earnings per Share, requiring
the inclusion of convertible shares in diluted EPS regardless of whether the
market price trigger has occurred for all periods presented. This requirement
has an impact on the presentation of our consolidated financial statements in
future periods of profitability.
In March 2005, the FASB issued Interpretation No. 47, ("FIN 47"), Accounting for
Conditional Asset Retirement Obligations, an interpretation of FASB Statement
No. 143. FIN 47 clarifies that the term conditional asset retirement obligation
as used in FASB Statement (SFAS) No. 143, Accounting for Asset Retirement
Obligations, refers to a legal obligation to perform an asset retirement
activity in which the timing and/or method of settlement are conditional on a
future event that may or may not be within the control of the entity. According
to FIN 47, uncertainty about the timing and/or method of settlement of a
conditional asset retirement obligation should be factored into the measurement
of a liability when sufficient information exists. This interpretation is
effective no later than the end of fiscal years ending after December 15, 2005.
Retrospective application for interim financial information is permitted but not
required. The Company does not anticipate that its financial statements will be
significantly impacted by this interpretation.
Factors That Could Affect Our Future Results
The Company May Be Dependent Upon Its Principal Stockholder, Officer and
Director To Fund Its Future Operations.
Losses sustained in prior years have adversely affected the Company's liquidity.
Robert A. Levinson has agreed to continue to personally support the Company's
cash requirements through January 1, 2007. Levcor has successfully implemented
several actions to reduce losses and improve cash flow. There can be no
assurance that Mr. Levinson will continue to personally support the Company's
cash requirements, or that these measures will otherwise continue to be
successful.
Expansion of Garment Manufacturing Business.
During the first quarter of 2005, the Textile division results were favorably
affected by a 77% increase in revenues as our contract garment manufacturing
business expanded. There is no assurance that the Company will be able to
continue to expand its garment manufacturing business or that such expansion and
certain cost saving initiatives will further improve results in the Textile
division. The Company remains vulnerable to a variety of business risks
generally associated with the entry into a new line of business, the
introduction of new product lines and the broadening of its product offerings.
The Company will be required to continue to implement changes to certain aspects
of its business and could need to expand operations to respond to increased
demands. Accordingly, the Company's past growth in contract garment
manufacturing cannot be assumed to be indicative of its future operating
results. In addition, the encountering of unexpected difficulties or delays,
loss of a key customer or manufacturing relationship could adversely affect the
Company's business, financial condition or results of operations.
Our Business Is In An Industry That Is Subject To Significant Fluctuations In
Operating Results That May Result In Unexpected Reductions In Revenue.
Page 23
Our business is in an industry that is subject to significant fluctuations in
operating results, which may lead to unexpected reductions in revenues. Factors
that may influence the Company's operating results include:
o the volume and timing of customer orders received;
o the timing and magnitude of customers' marketing campaigns;
o the loss or addition of a major customer;
o the availability and pricing of materials for our products;
o the increased expenses incurred in connection with the
introduction of new products;
o currency fluctuations;
o delays caused by third parties; and
o changes in our product mix.
The Company's Business Is Extremely Competitive.
In the event the Company is unable to continue to be competitive in its product
offerings and services, the Company's business, results of operations and
financial condition may suffer. Competition in contract garment manufacturing is
based on price, quality and on-time delivery. The contract garment manufacturing
industry is highly fragmented. The Company competes with many companies,
including foreign competitors, engaged in the production and distribution of
women's apparel, some of which have longer operating histories and financial,
sales and marketing capabilities and other competitive resources which are
substantially greater than those of the Company. The Company also faces
competition from its existing customers, who may themselves begin to produce
women's apparel directly.
Competition in the domestic textile fabric converting business is based on
price, uniqueness in styling of fabrics and the ability to quickly respond to
customers' orders.
Competition in the craft business is based on product innovation, range of
selection, brand names, price, display techniques and speed of distribution. We
cannot assure you that our domestic or foreign competitors will not be able to
offer products that are more attractive to our customers or potential customers
than what we are able to provide. A large number of domestic and foreign
manufacturers supply craft products to the United States market, many of which
have a much more significant market presence and also have substantially greater
financial, marketing, personnel and other resources than the Company. This may
enable the Company's competitors to compete more aggressively in pricing and
marketing and to react more quickly to market trends and to better weather
market downturns. Increased competition by existing and future competitors could
result in reductions in sales or reductions in prices of the Company's products.
There is no assurance that the Company will be able to compete successfully
against present or future competitors or that competitive pressures faced by the
Company will not have a material adverse effect on the Company's results of
operations or financial condition.
A Substantial Portion Of The Company's Revenues And Gross Profits Is Derived
From A Small Number Of Large Customers And The Loss Of Any Of These Customers
Could Substantially Reduce Our Revenue's.
Page 24
The Company's customer base has been and continues to be highly concentrated.
The Textile division's two largest customers accounted for approximately 58% and
41%, respectively, during the first quarter of 2005 and 84% and 0%,
respectively, during the same period last year, of the division's sales. The
Craft division conducted business with three customers (one mass merchandiser
and two specialty chains) representing approximately 48%, 15% and 10%,
respectively, in the first quarter of 2005 and 45%, 23% and 6%, respectively, in
the first quarter of 2004, of the division's net revenues. These customers also
represented approximately 72% of the Craft division's outstanding accounts
receivable as of March 31, 2005. Based upon historical and recent results and
existing relationships with customers, the Company believes that a substantial
portion of its net sales and gross profits will continue to be derived from a
small number of large customers. We do not have long-term agreements with any of
our major customers and purchases generally occur on an order-by-order basis. As
a result, a customer that generates substantial revenue for the Company in one
period may not be a substantial source of revenue in a future period. In
addition, customers generally have the right to terminate their relationship
with the Company without penalty and with little or no notice. Without long-term
contracts with the majority of its customers, the Company cannot be certain that
its customers will continue to purchase its products or that it will be able to
maintain a consistent level of sales. A decision by any of our major customers,
whether motivated by competitive conditions, financial difficulties or
otherwise, to decrease significantly the amount of merchandise purchased from
us, or to change their manner of doing business with us, could substantially
reduce our revenues and have a material adverse effect on our financial
condition and results of operations. There can be no assurance that the
Company's largest customers will continue to place orders with the Company or
that orders by such customers will continue at their previous levels.
Dependence On Contract Manufacturers
Substantially all of the Company's textile products are manufactured by
unaffiliated foreign contract manufacturers. The Company does not have long-term
contracts or formal arrangements with any of these manufacturers. Foreign
manufacturing is subject to a number of risks, including transportation delays
and interruptions, political and economic disruptions, tariffs, import and
export controls and changes in governmental policies. In addition, stringent
controls, such as review and inspection of fabrics, samples, specifications, fit
and completed garments and factory visits, must be undertaken to ensure the
production of quality products. Although the Company believes that it has
instituted such controls, there can be no assurance that such events will not
occur in the future, resulting in possible increases in costs and delays of
product deliveries resulting in losses of revenue and goodwill. During the first
quarter of 2005, the Textile division relied upon three manufacturers for 100%
of its production. The Company believes that alternate sources of manufacturing
are available if the need were to arise, although there can be no assurance that
such alternate facilities would be available on a timely basis or on
commercially reasonable terms. Any substantial delay in locating, or inability
to locate, acceptable alternate sources of manufacturing could have a material
adverse effect on the Company's business, financial condition or results of
operations.
Page 25
The Textile Division Depends On Third Parties For Crucial Raw Materials And
Services.
The principal raw materials used by the Textile division are rayon, acetate,
acrylic and polyester. The price of polyester varies and is determined by supply
and demand as well as the price of petroleum used to produce polyester. If any
of its third party knitters, finishers and transporters fail to timely produce
quality products and in sufficient quantity or fail to timely deliver finished
products, the Company's results would suffer. Two suppliers provided
approximately 16% and 10%, respectively, of the Textile division's purchases in
the first quarter of 2005.
The Company's Business Is Subject To The Seasonal Nature Of The Industry.
The textile business is seasonal and the Company expects to realize higher
revenues and operating income in the third quarter, as compared to other
quarters of the year. Such seasonality takes into account the standard lead-time
required by the fashion industry to manufacture apparel, which corresponds to
the respective retail selling seasons. Standard lead-time is the period of time
commencing when the Company receives an order from a customer and ending when
the order ships. In response to this seasonality, the Company generally
increases its inventory levels, and therefore has higher working capital needs
during the second and third quarters of its fiscal year, although this year the
Company also supported increased inventory levels in the first quarter of 2005.
This standard lead-time also results in significant backlogs during the second
and third quarters. The Company ships these large seasonal orders to the
customers during the third and fourth quarters. The Textile division's backlog
as of March 31, 2005 totaled approximately $551,000. Although the Company has
not had significant cancellations in the past, no assurance can be given that it
will not experience a significant level of cancellations in the future or that
its backlog at any point in time will be converted to sales. The Company and the
U.S. apparel industry in general are sensitive to the business cycle of the
national economy. Moreover, the popularity, supply and demand for particular
apparel products can change significantly from year to year based on prevailing
fashion trends and other factors. The Company may be unable to compete
successfully in any industry downturn.
The craft business is largely based on reorders from its retail customers and on
its ability to place new product lines with retail customers; as a result, the
business is influenced by the buying habits of consumers. Home sewing and craft
activities take place on a year-round basis; however, they are generally indoor
activities and as a result they experience an increased participation level
during the fall, winter and early spring months. Anticipating this pattern, the
Company's retail customers place somewhat larger reorders during the July
through March period. Sales are influenced by the introduction of new product
lines and the discontinuance of existing product lines. A successful new program
requires the retail customer to add the program and experience an acceptable
level of sell-through. The Company develops and introduces new program ideas on
a regular basis. However, there is no assurance that its retail customers will
buy the new product lines and if they do, there is no assurance the consumer
will purchase the new product at an acceptable level.
Page 26
The Company's seasonality, along with other factors that are beyond its control,
including general economic conditions, changes in consumer behavior, weather
conditions, availability of import quotas and currency exchange rate
fluctuations, could adversely affect the Company and cause its results of
operations to fluctuate. Results of operations in any period should not be
considered indicative of the results to be expected for any future period. The
sale of the Company's products can be subject to substantial cyclical
fluctuation. Sales may decline in periods of recession or uncertainty regarding
future economic prospects that affect consumer spending, particularly on
discretionary items. This cyclicality and any related fluctuation in consumer
demand could have a material adverse effect on the Company's results of
operations and financial condition.
Tariffs, Import Restrictions and Other Risks Associated with International
Business
The Company's textile products are subject to bilateral textile agreements
between the United States and a number of foreign countries. Such agreements,
which have been negotiated under the framework established by the Arrangement
Regarding International Trade in Textiles, allow the United States to impose
restraints at any time on the importation of categories of merchandise that,
under the terms of the agreements are not currently subject to specified limits.
A substantial portion of our products is manufactured by contractors located
outside the United States. These products are imported and are subject to U.S.
customs laws, which impose tariffs as well as import quota restrictions for
textiles and apparel established by the U.S. government. In addition, a portion
of our imported products is eligible for certain duty-advantage programs
commonly known as NAFTA and CBI.
The Future Of The Company Will Depend On Key Personnel That It May Not Be Able
To Retain.
If the Company does not succeed in retaining and motivating existing personnel,
its business will be affected, and the loss of such personnel might result in
the Company not being able to retain customer accounts, generate new business or
maintain sales. The Company depends on the continued services of its key
personnel particularly its employees comprising its sales and marketing
department, product development, purchasing and distribution groups as well as
its two executive officers, Robert A. Levinson and Edward F. Cooke. Each of
these individuals has acquired specialized knowledge and skills with respect to
the Company's lines of businesses and their respective operations. As a result,
if any of these individuals were to leave the Company, the Company could face
substantial difficulty in hiring qualified successors and could experience a
loss in productivity while any such successor obtains the necessary training and
experience.
The Company Is Impacted By Environmental Laws And Regulations.
The Company is subject to a number of federal, state and local environmental
laws and regulations, including the Comprehensive Environmental Response,
Compensation and Liability Act of 1980, as amended ("CERCLA"), and comparable
state statutes that impose joint and several liability on present and former
owners and operators, transporters and generators for remediation of
contaminated properties regardless of fault. In addition, the Company is subject
to laws concerning treatment, storage and disposal of waste, the discharge of
effluents into waterways, the emissions of substances into the air and various
health and safety matters. The Company's operations must meet extensive federal,
state and local regulatory standards in the areas of safety, health and
environmental pollution controls. Although the Company believes that its
business is operating in compliance in all material respects with such laws,
statutes and regulations, many of which provide for substantial penalties for
violations, there can be no assurance that future changes in federal, state, or
local regulations, interpretations of existing regulations or the discovery of
currently unknown problems or conditions will not require substantial additional
expenditures.
Page 27
The Company May Not Have The Necessary Funds To Finance A Required Mandatory
Redemption Of The Series A Preferred Stock.
The Company's Series A preferred stock is subject to mandatory redemption, in
three equal annual installments on June 15, 2007, June 15, 2008 and June 15,
2009, at a price per share of Series A preferred stock equal to $1 per share,
together with an amount representing accrued and unpaid dividends, whether or
not declared, to the date of redemption. This represents a significant future
liability of the Company. There can be no assurance that the Company's business
will generate sufficient cash flow from operations or that future borrowings
will be available in sufficient amounts to enable the Company to redeem the
Series A preferred stock when required to do so. In the event that the Company
fails to redeem the Series A preferred stock on any of the mandatory redemption
dates, the Series A preferred stockholders will be entitled to receive
cumulative cash dividends, and no distribution or dividend in cash, shares of
capital stock or other property will be paid or declared on the common stock.
Similarly, if the redemption on the Series A preferred is not met, and should
the Company liquidate or dissolve, no payment of any kind may be made to the
common stockholders without first satisfying the accrued cash dividends owed to
the Series A preferred stockholders. In addition, Series A preferred stock
payments are currently restricted under the Company's financing arrangements
with its lenders
Page 28
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not utilize financial instruments for trading purposes and
holds no derivative financial instruments which could expose it to market risk.
Our exposure to market risks related to fluctuations in interest rates is
limited to our variable rate borrowings of $10,800,000 at March 31, 2005 under
our revolving credit facility and stockholder loans. A change in interest rates
of one percent on the balance outstanding at March 31, 2005 would cause a change
in total annual interest costs of $108,000. The carrying values of these
borrowings approximate their fair values at March 31, 2005.
ITEM 4. CONTROLS AND PROCEDURES
The Company's management is responsible for establishing and maintaining a
system of disclosure controls and procedures (as defined in Rule 13a-15 and
15d-15 under the Securities Exchange Act of 1934 (the "Exchange Act") designed
to ensure that information required to be disclosed by the Company in the
reports that it files or submits under the Exchange Act is recorded, processed,
summarized and reported, within the time periods specified in the Securities and
Exchange Commission's rules and forms. Disclosure controls and procedures
include, without limitation, controls and procedures designed to ensure that
information required to be disclosed by an issuer in the reports that it files
or submits under the Exchange Act is accumulated and communicated to the
issuer's management, including its principal executive officer or officers and
principal financial officer or officers, or persons performing similar
functions, as appropriate to allow timely decisions regarding required
disclosure.
In accordance with Exchange Act Rules 13a-15 and 15d-15, the Company carried out
an evaluation, with the participation of the Chief Executive Officer and Chief
Financial Officer of the Company, of the effectiveness of the Company's
disclosure controls and procedures as of the end of the period covered by this
report. Based on that evaluation, the Company's Chief Executive Officer and
Chief Financial Officer concluded that the Company's disclosure controls and
procedures were effective, as of the end of the period covered by this report,
to provide reasonable assurance that information required to be disclosed in the
Company's reports filed or submitted under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms.
In designing and evaluating the Company's disclosure controls and procedures (as
defined in Rules 13a-15(e) or 15d-15(e) of the Exchange Act), management
recognized that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurances of achieving the desired
control objectives, as ours are designed to do, and management necessarily was
required to apply its judgment in evaluating the cost-benefit relationship of
possible controls and procedures. We believe that our disclosure controls and
procedures provide such reasonable assurance.
Page 29
No change occurred in the Company's internal controls concerning financial
reporting during the first quarter of the fiscal year ended December 31, 2005
that has materially affected, or is reasonably likely to materially affect, the
Company's internal controls over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
- -------------------------
Legal Proceedings. The Company is a party to various environmental claims, legal
proceedings and administrative actions, all arising from the ordinary course of
business. Although it is impossible to predict the outcome of any such claims or
legal proceedings, the Company believes any liability that may finally be
determined should not have a material effect on its consolidated financial
position, results of operations or cash flows.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
- --------------------------------------------------------------------
During the period covered by this report, the Company issued shares of its
common stock, par value $0.01 per share, to one of its non-employee directors in
lieu of cash for quarterly director fees. The issue price was the average
trading price on the last day of the quarter. On January 19, 2005, 2,317 shares
were issued to the director at a price of $2.05 per share. These shares were
exempt from the registration requirements of the Securities Act of 1933, as
amended (the "Securities Act"), pursuant to Section 4(2) of the Securities Act.
Page 30
ITEM 6. EXHIBITS
- -----------------
(a) Exhibits
31.1 Chief Executive Officer's Certificate, pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Chief Financial Officer's Certificate, pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Chief Executive Officer's Certificate, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 Chief Financial Officer's Certificate, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
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Page 31
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
LEVCOR INTERNATIONAL, INC.
Date: May 13, 2005 /s/ ROBERT A. LEVINSON
------------ -----------------------------------------
Robert A. Levinson
Chairman of the Board, President and
Chief Executive Officer
Date: May 13, 2005 /s/ EDWARD F. COOKE
------------ -----------------------------------------
Edward F. Cooke
Chief Financial Officer, Vice President,
Secretary and Treasurer
Page 32
Exhibit Index
-------------
31.1 Chief Executive Officer's Certificate, pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Chief Financial Officer's Certificate, pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Chief Executive Officer's Certificate, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 Chief Financial Officer's Certificate, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
Page 33