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United States
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended February 28, 2002
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to _____________
Commission File Number 0-21161
Q.E.P. CO., INC.
(Exact name of registrant as specified in its charter)
DELAWARE 13-2983807
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1081 HOLLAND DRIVE, BOCA RATON, FLORIDA 33487
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (561) 994-5550
Securities Registered Pursuant to Section 12(b) of the Act:
Title of each class Name of exchange
NONE on which registered
NONE
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.001 par value
(Title of Class)
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 twelve 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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
The aggregate market value of voting common stock held by non-affiliates as of
May 17, 2002 is $6,736,000, computed by reference to the closing price for such
shares on the NASDAQ National Market System as of such date. The registrant does
not have any authorized or issued non-voting common equity securities.
The number of shares outstanding of each of the registrant's classes of common
stock as of May 17, 2002 is: 3,381,190 shares of Common Stock, par value $0.001
per share.
DOCUMENTS INCORPORATED BY REFERENCE
Parts of the definitive Proxy Statement which the Registrant will file with the
Securities and Exchange Commission in connection with the Registrant's Annual
Meeting of Stockholders to be held on July 12, 2002 are incorporated by
reference in Part III of this Form 10-K.
PART I
Item 1. Business
General
Founded in 1979, Q.E.P. Co., Inc. (the "Company" or "Q.E.P.") manufactures,
markets and distributes a broad line of specialty tools and flooring related
products for the home improvement market in the United States and 49 countries
throughout the world. Under brand names including Q.E.P.(TM), O'TOOL(TM) and
ROBERTS(TM), the Company markets over 3,000 specialty tools and flooring related
products used primarily for surface preparation and installation of ceramic
tile, carpet and marble. Q.E.P.'s products include trowels, floats, tile
cutters, wet saws, spacers, nippers, pliers, carpet trimmers and cutters, carpet
adhesives, seaming tape, tack strip, knives, dryset powders, grouts and
abrasives. These products are sold to home improvement retailers, including
national and regional chains such as Home Depot and Lowe's, specialty
distributors to the hardware, construction, flooring and home improvement trades
and chain or independent hardware, tile, and carpet retailers for use by the do-
it-yourself consumer as well as the construction or remodeling professional.
The Company experienced similar net sales, as adjusted in fiscal 2001 and fiscal
2000 for the Company's licensing of its domestic tack strip business described
elsewhere herein, which management attributes to (i) growth experienced by the
Company's customers within the home improvement market, particularly among
national and regional home center retailers such as Home Depot and Lowe's, (ii)
the Company's success in cross-marketing its products among its channels of
distribution, (iii) the Company's expansion of its customer base and market
share through sales to additional home improvement retailers and distributors
and (iv) growth of the home improvement market as a whole.
The Company made several strategic acquisitions during the year ended February
29, 2000, as part of its plan to enhance its leadership in the worldwide
flooring market. On June 17, 1999, the Company acquired Neon Australia Pty,
Ltd., a leading Australian manufacturer of flooring tapes and metals for the
carpet industry. On July 20, 1999, the Company acquired Novafonte, Limitada, a
distributor, manufacturer and installer of ceramic tile and ceramic tile
accessories located in Santiago, Chile. On July 22, 1999, the Company acquired
an additional Australian flooring company, Accessories Marketing Pty, Ltd., the
largest distributor of tools and installation products for all types of flooring
in the Australian marketplace. On September 21, 1999, the Company acquired
Boiardi Products Corp. of Little Falls, NJ. Boiardi is a manufacturer of a full
line of thin-set mortars, grouts, self-leveling concrete toppings and crack-
suppressing waterproof membranes used in the flooring industry. On September 30,
1999, the Company acquired Trade Mates Pty, Ltd. of Australia, a distributor of
ceramic tile tools in the Australian marketplace. On December 6, 1999, the
Company acquired Zocalis, SRL, an Argentinean company located in Buenos Aires.
Zocalis is a manufacturer of ceramic borders and trim. Collectively, these
acquisitions are referred to as the "Fiscal 2000 acquisitions" elsewhere herein.
The Company's acquisitions in fiscal 2001 were predominantly associated with
expanding the Company's position as a manufacturer of dryset powder and grouts
used in ceramic tile installations. To that end, the Company acquired Stone
Mountain Manufacturing of Georgia and Stone Mountain Manufacturing of Florida
from the same seller. The Company also acquired the Australian-based Southern
Tile Agency PTY, a manufacturer of quality accessories used for the installation
of ceramic tile and a New Zealand distributor.
Collectively, Southern Tile Agencies Ltd. Pty., Stone Mountain Manufacturing of
Georgia and Florida and the Fiscal 2000 acquisitions are referred to elsewhere
herein as the "newly acquired entities."
1
Market Overview
The Company is a supplier of specialty flooring installation products and sells
to the home improvement market. According to the latest industry information
published by the Home Channel News ("HCN"), it is expected that the United
States retail home improvement market will experience a growth rate in sales of
2.3% in 2002, which is down from 2001 increases of approximately 6% due to the
slow recovery of the economy. However, it is expected that long-term growth will
be an average of 6%. The Company believes that growth in the home improvement
market is being driven by several factors, including (i) aging of the United
States housing stock which requires greater repair and maintenance expenditures,
(ii) increased housing turnover of both new and existing homes, (iii) favorable
demographic trends as "baby boomers," are now reaching the age category
historically accounting for the largest home improvement expenditures of any age
group, and (iv) changes in consumer preferences, which have caused an increase
in the median size of new homes and which have contributed to demand for
remodeling and expansion of older homes. Further, according to HCN, home
improvement expenditures will increase next year as consumers strive to increase
the value and appearance of their home.
Within the home improvement market, distribution channels have continued to
consolidate as a result of the success of the warehouse home center format used
by large home improvement retailers. The increasing dominance of national home
improvement retailers results from their ability to offer broad product lines,
project advice and orientation, competitive pricing, aggressive promotions and
large-format stores. The Companies two largest customers accounted for over
$75.5 billion of home center sales in fiscal 2002. Based on data available to
the Company, the primary beneficiaries of this consolidation among home
improvement retailers have been the top two or three companies (ranked by annual
sales volume). Thus, while the home improvement market's retail sales have
expanded, the market is being increasingly dominated by the largest retailers.
The Company's two largest customers, Home Depot and Lowe's, experienced 5-year
compound annual sales growth rates of 22.3% and 18.8%, respectively, from 2000
to 2001, according to their published financial reports and both have announced
plans to continue increasing the number of stores each operates. As
consolidation continues among home improvement retailers, the Company expects
that sales of the largest national and regional home improvement retailers will
continue to increase at greater rates than the rate of sales growth in the
overall market. The Company expects that the growth trends in the specialty
flooring segment of the home improvement market and among its customer base will
directly affect the Company's ability to generate growth in its sales and net
income, its expansion strategy and the nature of its sales and marketing
initiatives.
Business Strategy
The Company's strategy is to enhance its position as a leading manufacturer and
distributor of specialty tools and related products by introducing new products
and cross-selling products among its channels of distribution, expanding market
share by obtaining new customers, and capitalizing on expected growth of its
largest customers and of the home improvement market as a whole. Key elements of
the Company's strategy include:
Pursue Additional Strategic Acquisitions. Through its acquisitions, detailed
elsewhere herein, the Company has broadened its product lines, increased its
customer base and increased its manufacturing and marketing capabilities. The
Company intends to seek and evaluate acquisitions of both domestic and worldwide
specialty tool and adhesive manufacturers, distributors and other companies
whose products, distribution channels and brand names are complimentary to those
of the Company and which will offer further opportunities for product cross
selling, expansion of manufacturing and marketing operations and the addition of
new customers.
2
Increase Sales By Expanding Product Lines and Adding New Customers. The Company
seeks to expand its product lines by introducing new and innovative products,
which can be marketed to the Company's existing customer base. Through its
acquisitions, the Company has expanded its customer base, the number of products
available and its line of flooring installation products. In addition to
expanding product offerings through acquisitions, the Company intends to
internally develop and offer products in response to customer demands. The
Company believes that broadening its product lines will make it a more
attractive supplier to the major home improvement retailers and specialty
distributors, thereby increasing the Company's sales and market penetration.
Capitalize on Cross-Selling Opportunities. The Company believes that there are
significant opportunities for "cross selling" its products among its existing
markets and channels of distribution. As part of its acquisition strategy, the
Company seeks to identify acquisition candidates with complementary product
lines and to "cross sell" acquired product lines to its existing customer base
and its existing product lines to the customers of the acquired business.
Enhance Distribution and Manufacturing Capabilities. The Company currently has
approximately 652,000 square feet of distribution and manufacturing capability
located throughout the United States, Canada, Holland, Australia and South
America. The Company estimates that in fiscal 2002, it manufactured
approximately 40% of its Q.E.P. and Roberts product lines.
Products
The Company manufactures, markets and distributes a broad line of over 3,000
specialty tools and flooring related products. The Company's products are
offered under brand names including Q.E.P.(TM), O'TOOL(TM) and ROBERTS(TM) and
are used primarily for surface preparation and installation of ceramic tile,
carpet and marble.
The Company manufactures and distributes adhesives, grouts, mortars, dry set
powders, carpet seaming tape and an assortment of carpet installation tools as
well as floats, tile cutters, trowels, electric saws, nippers and other products
to the ceramic tile industry. These products are sold to both distributors and
do it yourself customers. Although the Company manufactures and distributes over
3,000 products, a majority of the Company's sales are to customers who purchase
between 20 and 200 individual stock-keeping units. As the Company seeks to
broaden its product lines, the competition for limited shelf space available at
home improvement retailers for specialty tools and related products may limit
sales of existing or newly introduced products.
The Company maintains a research and development program through which it seeks
to identify new product opportunities within its primary markets. Methods by
which the Company seeks to identify product opportunities include soliciting
product feedback from customers through its outside sales force and
manufacturers' representatives, review of product brochures and catalogs issued
by foreign and domestic manufacturers of specialty tools, review of product
concepts with buyers employed by its customers, and attendance at industry trade
shows and conventions at which new product concepts are introduced and
discussed. The Company also considers participation in joint ventures and
evaluation of product samples to be an important part of its effort to identify
new product opportunities. The Company maintains a product quality control
program primarily to verify the quality of its existing products and to develop
ideas for additional products or enhancements to existing products.
Relationship With Major Customers
In 1982, the Company began selling products to Home Depot, which is currently
the largest home improvement retailer in the world and the second largest
retailer in the United States of America based on annual sales volume. In 1993,
the Company added Lowe's as a customer, which is now the second largest home
improvement retailer in the world and fourteenth largest retailer in the United
States of America. Home Depot and Lowe's are the Company's two largest customers
accounting for 46.4% and 12.9% of the Company's fiscal 2002 net sales,
respectively.
3
Because of the importance of home improvement retailers to its business, the
Company has, in consultation with these major customers, developed customer
service programs to ensure that the specific needs of these customers are given
a high priority with direct attention from senior officers of the Company.
Features of the Company's customer service programs for its major customers
include providing a range of in-store services, such as, assistance with
inventory, maintenance of product displays, introduction of new products,
maintaining inventories of tools and related products in multiple locations to
permit rapid shipping, delivering orders promptly, holding education classes for
retail store personnel, packaging with multilingual labels, prepaying delivery
for product shipments with minimum purchase requirements, participating in
cooperative promotions and special sales events, providing product research for
buyers, operating a customer service hotline, providing parts and repair
service, extension of advertising allowances, accepting orders electronically
and billing through electronic data interchange, bar coding for each individual
stock keeping unit, and incorporating anti-theft tags in packaging. The Company
believes that its major customers place considerable value on service and
promotional support and frequently evaluates its service and promotional
activities in an effort to serve its customers more effectively.
The Company believes that the consolidation among home improvement retailers
will continue and that the national and large regional home improvement
retailers will continue to increase their market share in the near future. Home
Depot and Lowe's have announced plans to increase significantly the number of
stores each operates over the next several years. As a result, the Company
expects the percentage of its sales to these customers to continue to be
significant. Additionally, the Company continues to expand its customer base in
other areas through its newly acquired entities.
The loss of Home Depot or Lowe's as a customer of the Company could have a
material adverse effect on the financial position of the Company.
Manufacturing and Suppliers
The Company estimates that in fiscal 2002 it manufactured approximately 40% of
its Q.E.P. and Roberts product lines. The Company manufactures adhesives, carpet
seaming tape and carpet installation tools at its main manufacturing facility in
Mexico, Missouri. Flooring adhesives are produced at the facility in Bramalea,
Ontario, Canada and Sliedrecht, Holland. Plastic tile spacers are manufactured
at the facility in Boca Raton, Florida. Grouts and related products are
manufactured at the Company's New Jersey, Georgia and Ft. Pierce, Florida
facilities. In Australia, the Company manufactures accessories used for the
installation of ceramic tile. Such tile accessories are also manufactured in
Chile. Ceramic trim is manufactured in Argentina.
The Company purchased finished products and components from approximately 250
different suppliers in fiscal 2002. Although the Company believes that multiple
sources of supply exist for nearly all of the products and components purchased
from outside suppliers and generally maintains at least two sources of supply
for each item purchased, interruptions in supply or price changes in the items
purchased by the Company could have a material adverse effect on the Company's
operations. Further, in fiscal 2002, the Company purchased in excess of $12
million of finished product from one supplier.
Distribution, Sales and Marketing
The Company's specialty tools and related products are currently sold through
four distinct distribution channels: (i) the Company's sales staff; (ii)
independent manufacturing representatives; (iii) an in-house telemarketing sales
force; and (iv) outside salaried and commissioned sales representatives.
Management estimates that sales through its primary distribution channels in
fiscal 2002 were as follows: 60.4% to national and regional home improvement
retailers and 39.6% to specialty distributors, other specialty retailers and
OEMs.
4
The Company maintains an in-house creative art department through which it
produces and develops color product catalogs, signage, point of purchase
materials and distinctive packaging to enhance sales per square foot at the
retail level and to reinforce the Company's brand images. The Company has
developed a direct mail marketing program under which approximately 3,500
product advertising flyers are mailed to customers, usually on a bimonthly
basis.
The Company's marketing and sales representatives, or its manufacturers'
representatives, conduct regular visits to many customers' individual retail
stores. In addition, the Company or its sales representatives provides product
knowledge classes for retail store personnel. The Company also evaluates the
product mix at its customers' locations from time to time with a view toward
changing the product mix, if necessary, to increase sales per square foot. When
the Company secures a new customer, the Company generally resets all displays
and assists store personnel in becoming familiar with the Company's product
line.
Competition
The Company believes that competition in the home improvement flooring product
market is based primarily on product quality, delivery capabilities, brand name
recognition, availability of retail shelf space and price. The Company believes
that its competitive strengths are the quality of its products, its wide range
of products, its delivery capabilities, and the brand recognition. The Company
faces competition largely on a product-by-product basis from numerous
manufacturing and distribution companies. The Company believes that the
diversity of its product portfolio will allow it to compete effectively with its
competitors, although some of such competitors may sell larger quantities of a
particular product than the Company.
The Company is aware of a number of competitors, many of which are foreign and
may have greater financial, marketing and other resources than the Company. The
Company's foreign sales, including Canada, accounted for approximately 22.6% of
total sales during fiscal year 2002. Fiscal 2002 sales generated by the
Company's Canadian subsidiary were 8.8%, its Holland subsidiary 7.2%, its
Australian subsidiaries 3.4%, its South American subsidiaries 1.1% and 2.1% to
foreign customers from its domestic subsidiaries. The Company is continuing to
penetrate more foreign markets and, as a result, the Company may experience
competition from foreign companies, which could adversely affect the Company's
gross margins on its foreign sales.
Certain of the Company's larger customers have in the past contacted one or more
of the Company's foreign suppliers to discuss purchasing home improvement
products directly from these suppliers. Although the Company believes that its
diversified product line, brand recognition and customer service will continue
to offer benefits not otherwise available to the Company's customers from
foreign manufacturers, the Company could experience competition from one or more
foreign manufacturers which now serve as suppliers to the Company. If one or
more of the Company's larger customers were to begin purchasing products
previously supplied by the Company directly from foreign manufacturers, the
Company's business would be adversely affected. Increased competition from these
manufacturers or others could result in lower sales, price reductions and loss
of market share, each of which would have an adverse effect on the Company's
results of operations.
Environmental Matters
The Company is subject to federal, state and local laws, regulations and
ordinances governing activities or operations that may have adverse
environmental effects, such as discharges to air and water, handling and
disposal practices for solid, special and hazardous wastes, and imposing
liability for the cost of cleaning up, and certain damages resulting from sites
of past spills, disposal or other releases of hazardous substances (together,
"Environmental Laws"). Sanctions which may be imposed for violation of
Environmental Laws include the payment or reimbursement of investigative and
clean up costs, administrative penalties and, in certain cases, prosecution
under environmental criminal statutes. The Company's manufacturing facilities
are subject to environmental regulation by, among other agencies, the
5
Environmental Protection Agency, the Occupational Safety and Health
Administration, and various state authorities in the states where such
facilities are located. The activities of the Company, including its
manufacturing operations at its leased facilities, are subject to the
requirements of Environmental Laws. The Company believes that the cost of
compliance with Environmental Laws to date has not been material to the Company.
The Company is not currently aware of any situations requiring remedial or other
action which would involve a material expense to the Company, or expose the
Company to material liability under Environmental Laws. As the operations of the
Company involve the storage, handling, discharge and disposal of substances
which are subject to regulation under Environmental Laws, there can be no
assurance that the Company will not incur any material liability under
Environmental Laws in the future or will not be required to expend funds in
order to effect compliance with applicable Environmental Laws.
The Company completed testing at its facility in Bramalea, Ontario, Canada for
leakage of hazardous materials and, as a result, in fiscal 1999 the Company
prepared a plan to remediate the contamination over a period of years and this
plan was subsequently approved by the Canadian Ministry of Environment (MOE).
The Company recorded a reserve for potential environmental liability on the
closing date of the Roberts acquisition of approximately $325,000 and this
amount was increased during fiscal 1999 by $275,000 to $600,000 based on an
estimate for the cost of remediation. To date, the Company has spent
approximately $480,000 and anticipates spending additional amounts on ongoing
monitoring of wells and other environmental activity at the approximate rate of
between $5,000 and $25,000 per year for the next few years.
Roberts Consolidated Industries, Inc. has been named as a defendant in an
amended complaint filed in CARGILL, INC. ET AL. V. ABCO CONSTRUCTION ET AL., a
lawsuit initially filed in the United States District Court for the Southern
District of Ohio Western Division on January 29, 1998. The lawsuit, brought
under CERCLA and related state environmental laws, alleges that an entity known
as "Roberts Consolidated" and the other defendants disposed of hazardous
substances at a site located in Dayton, Ohio. The plaintiffs are seeking
monetary damages against the defendants, primarily in an amount equal to their
respective equitable share of the cost of the environmental clean up of the
site. The Company previously reported that based on preliminary investigations,
it believed that the entity identified as "Roberts Consolidated", named as a
defendant in this lawsuit, was neither the same entity nor a predecessor to any
affiliates of the Company. In November, 2001, Roberts Consolidated Industries,
Inc. was removed as a defendant and an entity identified as Roberts Holding
International, Inc. was joined as a defendant in the case. Based on further
investigation, the company believes that Roberts Holdings International, Inc.,
an inactive subsidiary of the Company, may in fact be a successor in interest to
"Roberts Consolidated", but believes that its responsibility for the alleged
contamination was assumed by other entities. Roberts Holdings International,
Inc. has responded to the Complaint. Based on the information to date, the
company believes that it has viable defenses, possible insurance coverage and/or
claims against other entities for any damages. The Company has received notice
from the United States Environmental Protection Agency (the "EPA") that an
entity identified as Roberts Consolidated Industries, Inc. may be involved in
the contamination of another landfill site in Clark County, Ohio. At this time,
the Company is not aware whether this entity is a predecessor to any of its
affiliates or whether it is an unrelated entity.
In June 2001, the Debtor in Possession for Hechinger Investment Company of
Delaware, Inc. filed a complaint in the United States Bankruptcy Court to avoid
and recover preferential transfers of Property under the United States
Bankruptcy Code. The Company answered the complaint and is contesting the
action. The Company does not believe the outcome will have a material adverse
effect on the Company.
6
Intellectual Property
The Company markets its specialty tools and related products under various
trademarks owned by the Company or its subsidiaries, including Q.E.P.(TM),
O'TOOL(TM) and ROBERTS(TM). The Company has devoted substantial time, effort and
expense to the development of brand name recognition and goodwill for products
sold under its trademarks, has not received any notice that its use of such
marks infringes upon the rights of others, and is not aware of any activities
which would appear to constitute infringement of any of its marks. Roberts
Consolidated Industries, Inc. has secured domestic and foreign patents relating
to certain of its carpet seaming products. Although the patents are important to
the operation of Roberts Consolidated Industries, Inc., the Company does not
believe that the loss of any one or more of these patents would have a material
adverse effect on the Company. These patents are scheduled to expire in the
years 2008 and 2013. Roberts Consolidated Industries, Inc. also licenses its
name to various foreign distributors.
Employees
As of May 17, 2002, the Company had 373 employees, including 72 administrative
employees, 59 sales and marketing employees, 130 manufacturing employees and 112
employees responsible for shipping activities. There are no part-time employees
and 74 of the employees are employed by the Company's international
subsidiaries. The Company has not experienced any work stoppages and none of the
Company's employees are represented by a union. The Company considers its
relations with the employees to be good.
Item 2. Properties
The Company currently owns the facility in Bramalea, Ontario and leases all
other facilities located in the United States, Canada, Europe, South America,
New Zealand and Australia. All facilities aggregate approximately 652,000 square
feet. The following table sets forth certain information concerning the
facilities of the Company.
SQUARE ANNUALIZED LEASE RENEWAL
LOCATION USE FEET COST EXPIRATION OPTION
-------- --- ------ ---------- ---------- -------
Boca Raton, Florida Executive offices, warehouse; manufacturing 77,000 $398,710 01/31/04 --
Sliedrecht. Holland Administrative; sales; manufacturing 52,544 77,090 11/01/02 --
Sliedrecht, Holland Warehouse 63,259 34,404 01/01/03 --
Morfelden, Germany Administrative; sales 300 631 06/30/02 --
Plaisir, France Administrative; warehouse 1,700 23,847 Yearly --
Henderson, NV Administrative; warehouse 111,000 387,021 01/31/08 Y
Mexico, Missouri Administrative; warehouse; manufacturing 155,000 344,609 03/31/03 Y
Bramalea, Ontario Administrative; warehouse; manufacturing 51,000 000 owned --
Mississaqua, Ontario Warehouse 15,000 64,207 12/31/02 --
Mississaqua, Ontario Warehouse 20,000 67,872 12/31/02 --
Buenos Aires, Argentina Administrative; warehouse; manufacturing 4,293 2,911 03/29/03 --
Auckland, New Zealand Administrative; warehouse 4,047 12,546 11/30/05 Y
Dandenong, Australia Manufacturing 26,200 73,408 05/01/05 Y
Hindsmarch, Australia Administrative; warehouse 7,234 14,903 03/01/05 Y
Santiago, Chile Administrative; warehouse; manufacturing 3,840 3,840 06/30/02 Y
Little Falls, NJ Administrative; warehouse; manufacturing 17,000 45,000 12/31/02 N
Calhoun, GA Administrative; warehouse; manufacturing 25,000 4,167 06/30/02 --
Ft. Pierce, FL Administrative; warehouse; manufacturing 18,000 72,000 06/30/02 --
The Company believes that its existing facilities are adequate to meet its
current needs and that additional facilities can be leased to meet future needs.
Further, it is expected that all leases necessary for the continuing operations
of the Company expiring in 2002, will be renewed.
7
Item 3. Legal Proceedings
The Company is involved in litigation from time to time in the course of its
business. In the opinion of management, no material legal proceedings are
pending to which the Company or any of its property is subject.
Roberts Consolidated Industries, Inc. has been named as a defendant in an
amended complaint filed in CARGILL, INC. ET AL. V. ABCO CONSTRUCTION ET AL., a
lawsuit initially filed in the United States District Court for the Southern
District of Ohio Western Division on January 29, 1998. The lawsuit, brought
under CERCLA and related state environmental laws, alleges that an entity known
as "Roberts Consolidated" and the other defendants disposed of hazardous
substances at a site located in Dayton, Ohio. The plaintiffs are seeking
monetary damages against the defendants, primarily in an amount equal to their
respective equitable share of the cost of the environmental clean up of the
site. The Company previously reported that based on preliminary investigations,
it believed that the entity identified as "Roberts Consolidated", named as a
defendant in this lawsuit, was neither the same entity nor a predecessor to any
affiliates of the Company. In November, 2001, Roberts Consolidated Industries,
Inc. was removed as a defendant and an entity identified as Roberts Holding
International, Inc. was joined as a defendant in the case. Based on further
investigation, the company believes that Roberts Holdings International, Inc.,
an inactive subsidiary of the Company, may in fact be a successor in interest to
"Roberts Consolidated", but believes that its responsibility for the alleged
contamination was assumed by other entities. Roberts Holdings International,
Inc. has responded to the Complaint. Based on the information to date, the
company believes that it has viable defenses, possible insurance coverage and/or
claims against other entities for any damages. The Company has received notice
from the United States Environmental Protection Agency (the "EPA") that an
entity identified as Roberts Consolidated Industries, Inc. may be involved in
the contamination of another landfill site in Clark County, Ohio. At this time,
the Company is not aware whether this entity is a predecessor to any of its
affiliates or whether it is an unrelated entity.
In June 2001, the Debtor in Possession for Hechinger Investment Company of
Delaware, Inc. filed a complaint in the United States Bankruptcy Court to avoid
and recover preferential transfers of Property under the United States
Bankruptcy Code. The Company answered the complaint and is contesting the
action. The Company does not believe the outcome will have a material adverse
effect on the Company.
Item 4. Submission of Matters to Vote of Security Holders
No matters were submitted to a vote of security holders of the Company during
the fourth quarter of the period covered by this report.
PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters
Market Price and Dividend Information
The Company's Common Stock is traded on the Nasdaq National Market System. The
following table sets forth the high and low sales price per share for the Common
Stock for each quarter during fiscal year 2002 and 2001, as reported on the
Nasdaq National Market System.
Fiscal Year Ended February 28,
------------------------------
2002 2001
---- ----
High Low High Low
------ ------ ------ ------
First Quarter $5.170 $3.000 $7.300 $5.850
Second Quarter $5.000 $3.520 $7.938 $5.813
Third Quarter $4.320 $3.400 $6.750 $4.250
Fourth Quarter $5.080 $3.510 $5.500 $3.000
8
On May 17 2002, the closing price of the Common Stock on the Nasdaq National
Market System was $4.24 per share. As of that date, there were 26 holders of
record of the Common Stock and approximately 642 beneficial owners of the Common
Stock.
The Company has not paid cash dividends and does not intend for the foreseeable
future to declare or pay any cash dividends on its Common Stock and intends to
retain earnings, if any, for the future operation and expansion of the Company's
business. Any determination to declare or pay dividends will be at the
discretion of the Company's board of directors and will depend upon the
Company's future earnings, results of operations, financial condition, capital
requirements, considerations imposed by applicable law and other factors deemed
relevant by the board of directors. The Company's credit facility also prohibits
the payment of dividends without the consent of the lender.
Item 6. Selected Financial Data
The selected consolidated financial data set forth below as of and for the years
ended February 28 or 29, 1998, 1999, 2000, 2001 and 2002 have been derived from
the audited consolidated financial statements of the Company. The audited
financial statements for the years ended February 28, 1998 and 1999 and the
audited balance sheet as of February 29, 2000 are not included in this filing.
The selected consolidated financial data should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" (Item 7 of this report) and the audited consolidated financial
statements and related notes thereto included elsewhere herein. Earnings per
share amounts in fiscal 1997 through fiscal 2000 have been adjusted to reflect
the five for four stock split discussed elsewhere herein.
FISCAL YEAR ENDED FEBRUARY 28 OR 29,
------------------------------------
2002 2001 2000 1999 1998
-------- -------- -------- -------- --------
OPERATING DATA: (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Net Sales $109,675 $113,003 $113,571 $ 98,000 $ 53,691
Cost of goods sold 72,603 76,940 79,037 68,549 35,954
-------- -------- -------- -------- --------
Gross profit 37,072 36,063 34,534 29,451 17,737
Shipping 9,589 9,801 8,987 7,592 4,020
General and administrative 9,512 9,554 9,373 8,074 5,206
Selling and marketing 11,895 11,616 9,494 8,253 4,843
Restructuring charge -- 637 -- -- --
Foreign exchange losses 11 4 7 17 3
-------- -------- -------- -------- --------
Operating income 6,065 4,451 6,673 5,515 3,665
Interest expense, net 2,557 2,131 1,700 1,625 373
-------- -------- -------- -------- --------
Income before provision for income taxes and
extraordinary item 3,508 2,320 4,973 3,890 3,292
Provision for income taxes 1,405 887 1,951 1,466 1,282
-------- -------- -------- -------- --------
Net income before extraordinary item 2,103 1,433 3,022 2,424 2,010
Extraordinary item, gain on early
extinguishment of debt -- -- 181 -- --
-------- -------- -------- -------- --------
Net income $ 2,103 $ 1,433 $ 3,203 $ 2,424 $ 2,010
======== ======== ======== ======== ========
Basic and diluted net income per common share
before extraordinary item $ .62 $ .42 $ .90 $ .72 $ .60
Extraordinary item -- -- .05 -- --
-------- -------- -------- -------- --------
Basic and diluted earnings per share $ .62 $ .42 $ .95 $ .72 $ .60
======== ======== ======== ======== ========
Weighted average number of shares of common
stock outstanding 3,390 3,369 3,365 3,363 3,346
======== ======== ======== ======== ========
FISCAL YEAR ENDED FEBRUARY 28 OR 29,
------------------------------------
2002 2001 2000 1999 1998
-------- -------- -------- -------- --------
BALANCE SHEET DATA: (IN THOUSANDS)
Working capital $ 9,710 $ 9,788 $ 13,511 $ 15,021 $ 14,212
Total assets 62,371 64,036 57,715 48,251 43,026
Long term obligations 9,143 11,241 11,588 12,543 13,399
Total liabilities 39,321 41,923 36,532 30,353 27,393
Shareholders' equity 23,050 22,113 21,183 17,898 15,633
9
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
The Company manufactures, markets and distributes a broad line of specialty
tools and flooring related products for the home improvement market. The Company
markets over 3,000 specialty tools and related products used primarily for
surface preparation and installation of ceramic tile, carpet and marble. The
Company's products are sold through home improvement retailers, specialty
distributors to the hardware, construction, flooring and home improvement
trades, chain or independent hardware, tile and carpet retailers for use by the
do-it-yourself consumer as well as the construction or remodeling professional,
and original equipment manufacturers. Dollar figures set forth below are rounded
to the nearest thousand.
Accounting Policies and Estimates
The Securities and Exchange Commission ("SEC") recently issued disclosure
guidance for critical accounting policies. The SEC defines "critical accounting
policies" as those that require complex judgments, often as a result of the need
to make estimates about the effect of matters that are inherently uncertain and
may change in subsequent periods.
Management's discussion and analysis of its financial condition and results of
operations are based upon the Company's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States of America. The notes to the financial statements include a
summary of significant accounting policies used in the preparation of the
consolidated financial statements (see Note B).
The Company believes the following critical accounting policies affects its more
significant judgments and estimates used in the preparation of its consolidated
financial statements:
Revenue Recognition
The Company recognizes sales when the merchandise is shipped. The Company
provides for estimated costs of future anticipated product returns, based on
historical experience, when the related revenues are recognized. The Company
records estimated reductions to revenue for customer programs including volume-
based incentives.
Inventory Obsolescence
The Company maintains reserves for estimated obsolescence or unmarketable
inventory equal to the difference between the cost of inventory and the
estimated market value based upon assessments about current and future demand
and market conditions. If actual market conditions were to be less favorable
than those projected by management, additional inventory reserves could be
required.
Allowance for Doubtful Accounts
The Company maintains allowances for doubtful accounts for estimated losses
resulting from the Company's review and assessment of its customers' ability to
make required payments. If the financial condition of the Company's customers
were to deteriorate, resulting in an impairment of their ability to make
payments, additional allowances might be required.
Results of Operations
Fiscal 2002 as compared to Fiscal 2001
Net sales for the twelve months ended February 28, 2002 ("fiscal 2002", or the
"fiscal 2002 period") were $109,674,000 compared to $113,003,000 for the twelve
months ended February 28, 2001 ("fiscal 2001", or the "fiscal 2001 period"), a
decrease of $3,329,000 or 3.0%. Selling prices remained relatively stable.
10
Net sales for the current year were negatively impacted by the licensing of the
Company's domestic distributor tack strip business, which had sales of
approximately $2,957,000 in the prior year. The Company also experienced a
decline in its domestic distribution and international business. These negative
impacts were partially offset by sales to home center customers which increased
primarily as a result of new store openings and new product introduction into
existing stores.
Gross profit for fiscal 2002 was $37,072,000 compared to $36,063,000 for fiscal
2001, an increase of $1,009,000 or 2.8%. As a percentage of net sales, gross
profit increased to 33.8% in fiscal 2002 from 31.9% in fiscal 2001, primarily
due to a change in product mix towards higher margin products, a reduction of
certain raw material costs and the discontinuance of the sale to domestic
distributors of the low margin tack strip product.
Shipping expenses for the fiscal 2002 period were $9,589,000 compared to
$9,801,000 for the fiscal 2001 period, a decrease of $212,000 or 2.2%. As a
percentage of net sales, these expenses remained flat at 8.7% of sales in the
fiscal 2002 and fiscal 2001 periods, primarily as a result of certain fixed
costs being absorbed by a smaller sales volume as a result of the licensing of
the domestic distributor tack strip business. The actual increase was
substantially attributable to the increased sales volume to the Company's home
center customer base and an absorption of a higher percentage of freight costs
by the Company to its domestic distributors resulting from the licensing of the
tack strip business.
General and administrative expenses for the fiscal 2002 period were $9,741,000
compared to $9,650,000 for the fiscal 2001 period, an increase of $91,000 or
0.9%. As a percentage of net sales, these expenses increased slightly to 8.9% in
the fiscal 2002 period from 8.5% in the fiscal 2001 period. This increase was
primarily due to the absorption of fixed costs over a reduced sales volume. The
actual increase was primarily the result of goodwill amortization resulting from
companies acquired in fiscal 2001, offset by a reduction of expenses at the
Company's domestic divisions.
Selling and marketing costs for the fiscal 2002 period increased to $11,895,000
from $11,616,000 in the fiscal 2001 period, an increase of $279,000 or 2.4%. As
a percentage of net sales, these expenses increased to 10.8% in the fiscal 2002
period from 10.3% in the fiscal 2001 period principally as a result of the
reduced sales volume attributable to the licensing of the domestic distributor
tack strip business and an increase in commission rates paid to the Company's
sales force. The increase in the actual amount of these expenses is attributable
to the increase in commissions and higher marketing allowances paid to home
center customers resulting principally from the increased sales volume to these
customers.
During the third quarter of the fiscal 2001 period, the Company finalized its
plan to close its California facility and relocate to Nevada. Additionally, the
Company initiated a downsizing of its Holland subsidiary to reduce costs. In
connection with these decisions, the Company recorded a restructuring charge of
approximately $637,000 in the fiscal 2001 period.
Interest income for the fiscal 2002 period was approximately $10,000 compared to
$175,000 in fiscal 2001 as a result of lower interest rates and the repayment of
notes receivable in fiscal 2001. Interest expense for the fiscal 2002 period was
approximately $2,567,000 compared to approximately $2,307,000 in fiscal 2001.
Interest expense increased primarily as a result of the increase in short-term
borrowings to fund working capital and as a result of the interest rate Swap
Agreements that were in place during fiscal 2002.
Provision for income taxes was $1,405,000 in fiscal 2002 compared to $887,000 in
fiscal 2001, an increase of $518,000 or 58.3%. The increase is the result of the
increase in the Company's taxable income and an additional provision for certain
foreign taxes. The effective tax rate was approximately 40.0% in the fiscal 2002
period compared to 38.2% in the fiscal 2001 period. The estimated tax rate is
based upon the most recent effective tax rates available.
11
Net income for the fiscal 2002 period increased to $2,103,000 compared to
$1,433,000 in fiscal 2001, an increase of $670,000 or 46.8%. Net income as a
percentage of sales increased to 1.9% in fiscal 2002 compared to 1.3% in fiscal
2001, reflecting a slightly higher gross profit margin resulting from the
licensing of the domestic distributor tack strip business and lower shipping
costs offset by higher selling, marketing, general and administrative costs.
Results of Operations
Fiscal 2001 as compared to Fiscal 2000
Net sales for the twelve months ended February 28, 2001 ("fiscal 2001", or the
"fiscal 2001 period") were $113,003,000 compared to $113,571,000 for the twelve
months ended February 29, 2000 ("fiscal 2000", or the "fiscal 2000 period"), a
decrease of $568,000 or .5%. Selling prices remained relatively stable. Sales to
home center customers increased primarily as a result of new store openings and
expansion of the Company's business to one of its major Home Center customers.
In May 2000, the Company discontinued the sale of its tackless carpet strip
product to domestic distributors and licensed the rights of sale to a third
party. As a result, sales to the specialty distributor customer base of the
Company declined. Also impacting sales were additional incentives provided to
one of the Company's major customers. The impact from the licensing of the
tackstrip business and additional sales incentive was approximately $12,158,000.
Gross profit for fiscal 2001 was $36,063,000 compared to $34,534,000 for fiscal
2000, an increase of $1,529,000 or 4.4%. As a percentage of net sales, gross
profit increased to 31.9% in fiscal 2001 from 30.4% in fiscal 2000, primarily
due to a change in product mix towards higher margin products and the
discontinuance of the sale to domestic distributors of the low margin tackstrip
product. These increases were slightly offset by the aforementioned additional
customer incentives.
Shipping expenses for the fiscal 2001 period were $9,801,000 compared to
$8,987,000 for the fiscal 2000 period, an increase of $814,000 or 9.1%. As a
percentage of net sales, these expenses increased to 8.6% in the fiscal 2001
period from 7.9% in the fiscal 2000 period, primarily as a result of an increase
in freight rates charged by common carriers. In addition, other freight costs
remained relatively constant causing costs as a percentage of sales to increase.
The actual increase was substantially attributable to the increased sales
volume, increased freight costs and an absorption of a higher percentage of
freight costs by the Company to its domestic distributors.
General and administrative expenses for the fiscal 2001 period were $9,650,000
compared to $9,393,000 for the fiscal 2000 period, an increase of $257,000 or
2.7%. As a percentage of net sales, these expenses increased slightly to 8.5% in
the fiscal 2001 period from 8.3% in the fiscal 2000 period. This increase was
primarily due to the absorption of fixed costs over a reduced sales volume. The
actual increase was primarily the result of costs associated with the relocation
of the Company's California facility to Nevada, approximately $600,000, offset
by a reduction of expenses at the Company's domestic divisions.
Selling and marketing costs for the fiscal 2001 period increased to $11,616,000
from $9,494,000 in the fiscal 2000 period, an increase of $2,122,000 or 22.4%.
As a percentage of net sales, these expenses increased to 10.3% in the fiscal
2001 period from 8.4% in the fiscal 2000 period principally as a result of the
reduced sales volume, an increase in commission rates paid to the Company's
sales force and an increase in marketing allowance rates to one of the Company's
major customers. The increase in the actual amount of these expenses is
attributable to the increase in commissions paid to sales personnel and
marketing allowances to home center customers resulting principally from the
increased sales volume.
During the third quarter of the fiscal 2001 period, the Company finalized its
plan to close its California facility and relocate to Nevada where it is
anticipated that the Company will realize certain manufacturing efficiencies,
reduced cost of operations and tax savings. Additionally, the Company initiated
a downsizing of its Holland subsidiary to reduce costs. In connection with these
decisions, the Company recorded a restructuring charge of approximately $637,000
in the fiscal 2001 period. As of
12
February 28, 2001, substantially all costs of the plant closing and downsizing
were paid and there remained an approximate $70,000 reserve for the downsizing
of Holland.
Interest income for the fiscal 2001 period was approximately $175,000 compared
to $133,000 in fiscal 2000. Interest expense for the fiscal 2001 period was
approximately $2,307,000 compared to approximately $1,834,000 in fiscal 2000.
Interest expense increased primarily as a result of the increase in borrowings
associated with the funding of the increase in inventory and accounts receivable
caused by higher sales volume and an increase in borrowing rates.
Provision for income taxes was $887,000 in fiscal 2001 compared to $1,951,000 in
fiscal 2000, a decrease of $1,064,000 or 54.5%. The decrease is the result of
the decrease in the Company's taxable income. The effective tax rate was
approximately 38.2% in the fiscal 2001 period compared to 39.2% in the fiscal
2000 period. The estimated tax rate is based upon the most recent effective tax
rates available.
Net income for the fiscal 2001 period decreased to $1,433,000 compared to
$3,203,000 in fiscal 2000, a decrease of $1,770,000 or 55.3%. Net income as a
percentage of sales decreased to 1.3% in fiscal 2001 compared to 2.8% in fiscal
2000, reflecting a slightly higher gross profit margin resulting from the
licensing of the domestic distributor tack strip business offset by sales
incentives provided to a major retailer, higher selling and marketing, shipping,
general and administrative and restructuring expenses as a percentage of sales
as described above.
Liquidity and Capital Resources
Working capital decreased to approximately $9,710,000 at February 28, 2002 from
approximately $9,788,000 at February 28, 2001, a decrease of $78,000, primarily
as a result of the payment of long-term debt, capital expenditures and the
purchase of treasury stock. Any cash in excess of anticipated requirements is
invested in commercial paper or overnight repurchase agreements with a financial
institution. The Company states the value of such investments at market price
and classifies them as cash equivalents in its balance sheet.
Net cash provided by operating activities during the fiscal 2002 period was
$2,614,000 compared to $367,000 for the comparable fiscal 2001 period. The
increase in cash from operating activities was primarily the result of an
increase in income from operations as adjusted for non-cash charges for
depreciation and amortization and a slight increase in accounts receivable and
inventory compared to significant prior year increases in receivable and
inventory accounts. Net cash used in investing activities was $577,000 in the
fiscal 2002 period compared to $3,185,000 for the comparable fiscal 2001 period.
The fiscal 2002 amount was attributable to capital expenditures whereas the
fiscal 2001 amount was the result of capital expenditures and funds expended for
certain of the newly acquired entities.
For the fiscal 2002 period, cash used in financing activities was $1,573,000
that was primarily the result of payments of long-term debt, including
acquisition debt. Net cash provided by financing activities was $2,721,000 in
the fiscal 2001 period due primarily to the increase in short term bank debt
associated with the newly acquired entities and collections on notes receivable
offset by the repayment of long term and acquisition debt.
The Company has a revolving credit and term loan facility agreement with a
United States financial institution. This agreement, which was amended on April
5, 2001, provides for borrowings of up to $18,000,000 (subsequent to February
28, 2002 this was increased to $20,000,000 through June 3, 2002) against a fixed
percentage of eligible accounts receivable and inventory. Interest is payable
based on a sliding scale depending on the Company's senior debt to EBITDA
ranging from LIBOR plus 1.75% to LIBOR plus 2.5%. This facility terminates in
July 2003 and is collateralized by substantially all of the Company's assets.
Under the terms of the credit agreement, the Company is required to maintain
certain financial ratios and conditions. The credit agreement also prohibits the
Company from incurring certain additional indebtedness, limits certain
investments, advances or loans and restricts substantial asset sales and capital
expenditures. The terms of the Company's credit facility also prohibits the
payment of
13
dividends, except with the lender's consent. Prior to this amendment the Company
was allowed to borrow up to $16,500,000 based on the same fixed percentage of
eligible accounts receivable and inventory. Interest was charged on a sliding
scale. As of February 28, 2002, interest was at LIBOR (1.85 at February 28,
2002) plus 2.00%. At February 28, 2002, the Company had $1,113,000 available for
future borrowings under the credit facility.
The Company's Chilean subsidiary has a revolving credit facility with a
financial institution, which permits borrowings of up to $100,000 with interest
at 18% per year. The facility is secured by a standby letter of credit given by
the Company. This facility expires on May 31, 2002 and is expected to be renewed
at a reduced amount. At February 28, 2002 the Chilean subsidiary had
approximately $54,000 available for future borrowings under the credit facility.
The Company's Australian subsidiary also has an overdraft facility which allows
it to borrow against a certain percentage of inventory and receivables. At
February 28, 2002 the maximum permitted borrowing was approximately $361,000 of
which approximately $86,000 was available for future borrowing.
In connection with the acquisition of Roberts Consolidated Industries, Inc., the
Company issued $7,500,000 of subordinated debentures. They were recorded at
their fair value on the date of issuance in the amount of $6,515,000 and the
discount was amortized over the life of the debentures. During the third quarter
of fiscal 2000, the Company repurchased approximately $1,229,000 of its
debentures at a discount resulting in an extraordinary gain from early
extinguishment of debt of approximately $181,000. At February 28, 2001, the
remaining amortized balance of this obligation was $6,104,000. These debentures
matured in April 2001 and bore interest at 8%.
On April 5, 2001 the Company entered into a new $4,500,000 subordinated credit
facility with HillStreet Fund LP. This facility bears an interest rate of 15%
and matures in six years. Equal quarterly payments of $562,500 are required
beginning in year five. The agreement also provides for an additional 3%
interest if the Company does not meet certain financial covenants. In addition,
the Company issued 325,000 10-year warrants at $3.63. These warrants can be put
to the Company after the fifth year based on criteria set forth in the warrant
agreement. In addition, the Company may call these warrants after the sixth year
based on the same criteria. The Company has recorded a liability for these put
warrants based on an independent appraisal. Changes to the fair value of the
put warrants will be recognized in earnings of the Company in accordance with
SFAS No. 133 "Accounting for Derivative Instruments and Hedging Activities." The
resulting discount of the subordinated credit facility will be amortized over
the life of the debt.
In connection with the newly acquired entities, the Company issued five notes to
the respective sellers. Two of the notes, aggregating approximately $1,260,000,
were paid in fiscal 2001 and were non-interest bearing. The third note, having
an original principal balance of $900,000, is payable in equal installments in
October over a three year period with interest at the Company's prevailing
borrowing rate. At February 28, 2002 the remaining balance on this note is
$300,000. The fourth note, in the principal amount of $825,000, is payable in
installments: $312,500 was paid in December 2000, $312,500 plus interest of
$12,500 originally due in December 2001 was paid $125,000 in December 2001 and
$200,000 over a ten month period beginning January 2002 and $200,000 in December
2003. Interest is fixed at $12,500, $12,500 and $25,000, respectively. The fifth
note in the original principal amount of $1,600,000, is payable quarterly at
$80,000 plus interest at 8% from October 1, 2000 through October 1, 2005.
In October 2000, the Company entered into an agreement to purchase its Bramalea,
Ontario facility for approximately $988,000. In connection with this purchase,
the Company paid approximately $318,000 in cash and obtained a loan for the
balance from a Canadian lending institution of approximately $670,000 payable
over 10 years at an interest rate to be set annually (6.1% as of February 28,
2002).
On December 23, 2000, the Company entered into an interest rate swap agreement
with its primary lender. The interest rate swap agreement hedges the Company's
exposure on certain floating rate obligations in the aggregate principal amount
of $10,000,000. The purpose of the interest rate swap is to convert the
Company's floating rate interest obligations to obligations having a fixed rate
of 6.0% per annum for a one-year period. Prior to this interest rate swap, the
Company had one with the same institution that matured in December 2000. The
fixing of the interest rates reduces in part the Company's exposure to the
uncertainty of floating interest rates. The differential paid or received by the
Company on
14
the interest rate swap agreement is recognized as an adjustment to interest
expense in the period incurred. For the year ended February 28, 2002, the
Company increased interest expense by approximately $162,000 as a result of the
interest rate swap agreements that were in place during that period. The
interest rate swap agreement expired in December 2001 and was not renewed.
The Company believes its existing cash balances, internally generated funds from
operations and its available bank lines of credit will provide the liquidity
necessary to satisfy the Company's working capital needs, including the growth
in inventory and accounts receivable balances, and will be adequate to finance
anticipated capital expenditures and debt obligations for the next twelve
months. There can be no assurance, however, that the assumptions upon which the
Company bases its future working capital and capital expenditure requirements
and the assumptions upon which it bases that funds will be available to satisfy
such requirements will prove to be correct. If these assumptions are not
correct, the Company's assessment of its liquidity position could prove to be
incorrect.
Recently Issued Accounting Standards
On July 20, 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
combinations," and SFAS No. 142, "Goodwill and Intangible Assets." SFAS No. 141
is effective for all business combinations completed after June 30, 2001. SFAS
No. 142 is effective for fiscal years beginning after December 15, 2001;
however, certain provisions of this Statement apply to goodwill and other
intangible assets acquired between July 1, 2001 and the effective date of SFAS
No. 142. Major provisions of these Statements and their effective dates for the
Company are as follows:
... All business combinations initiated after June 30, 2001 must use the
purchase method of accounting. The pooling-of-interests method of
accounting is prohibited except for transactions initiated before July 1,
2001;
... Intangible assets acquired in a business combination must be recorded
separately from goodwill if they arise from contractual or other legal
rights or are separable from the acquired entity and can be sold,
transferred, licensed, rented or exchanged, either individually or as part
of a related contract, asset or liability;
... Goodwill, as well as intangible assets with indefinite lives, acquired
after June 30, 2001, will not be amortized. Effective March 1, 2002, all
previously recognized goodwill and intangible assets with indefinite lives
will no longer be subject to amortization;
... Effective March 1, 2002, goodwill and intangible assts with indefinite
lives will be tested for impairment annually and whenever there is an
impairment indicator; and,
... All acquired goodwill must be assigned to reporting units for purposes of
impairment testing and segment reporting.
The Company will continue to amortize goodwill recognized prior to July 1, 2001,
under its current method, until March 1, 2002, at which time quarterly and
annual goodwill amortization of approximately $118,000 and $471,000
respectively, will no longer be recognized.
The Company is in the process of completing its evaluation and believes that
there will be an effect on the amount it currently has recorded as intangible
assets as they relate to the Company's Latin American and European operations.
Any impairment loss will be recorded in the Company's first quarter of fiscal
2003 as a cumulative effect of a change in accounting principle.
15
In August 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or
Disposal of Long Lived Assets". SFAS No. 144 supercedes SFAS No. 121 "Accounting
for the Impairment of Long Lived Assets and for Long Lived Assets to be Disposed
Of". SFAS 144 retains substantially all of the requirements of SFAS 121 while
resolving certain implementation issues. SFAS 144 is effective for fiscal years
beginning after December 15, 2001 with earlier implementation encouraged. The
Company is currently evaluating the impact on its financial statements of
adopting SFAS 144.
Forward-Looking Statements
This report contains certain forward-looking statements which are made pursuant
to the safe harbor provisions of the Securities Litigation Reform Act of 1995.
Statements as to what the Company "believes," "intends," "expects," or
"anticipates" and other similar anticipatory expressions, are generally forward-
looking and are made only as of the date of this report and are not related to
historical results. Such statements include statements relating to the Company's
anticipated revenues from its distribution agreement for tackless carpet strip
and the adequacy of the Company's liquidity sources to meet the Company's
working capital needs and anticipated expenditures. Additionally, the report is
subject to risks and uncertainties which could cause actual results to differ
materially from those discussed in the forward-looking statements and from
historical results of operations. Among the risks and uncertainties which could
cause such a difference are the Company's anticipation of performance by
distributors of its tackless carpet strip, the assumptions upon which the
Company bases its assessments of its future working capital and capital
expenditure requirements and those relating to the Company's ability to satisfy
its working capital needs and to finance its anticipated capital expenditures
which could prove to be different than expected, the Company's dependence upon a
limited number of customers for a substantial portion of its sales, the
Company's reliance upon suppliers and sales agents for the purchase of finished
products which are then resold by it, the level of demand for the Company's
products among existing and potential new customers, the Company's ability to
successfully manage and integrate the business and operations of its newly
acquired entities, the Company's dependence upon certain key personnel and its
ability to successfully integrate new management personnel into the Company, the
Company's ability to accurately predict the number and type of employees
required to conduct its European operations and the compensation required to be
paid to such personnel, its ability to manage its growth, the risk of economic
and market factors affecting the Company or its customers and other risks and
uncertainties described elsewhere herein.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
On December 23, 2000, the Company entered into an interest rate swap agreement
with its primary lender. The interest rate swap agreement hedges the Company's
exposure on certain floating rate obligations in the aggregate principal amount
of $10,000,000. The purpose of the interest rate swap is to convert the
Company's floating rate interest obligations to obligations having a fixed rate
of 6.0% per annum for a one-year period. Prior to this interest rate swap, the
Company had a similar arrangement with the same institution that matured in
December 2000. The fixing of the interest rates reduces in part the Company's
exposure to the uncertainty of floating interest rates. The differential paid or
received by the Company on the interest rate swap agreement is recognized as an
adjustment to interest expense in the period incurred. For the year ended
February 28, 2002, the Company increased interest expense by approximately
$162,000 as a result of the interest rate swap agreements that were in place
during that period. The interest rate swap agreement expired in December 2001
and was not renewed.
The Company averaged approximately $10,202,000 of variable rate debt not covered
by the interest rate swap agreement during fiscal 2002. If interest rates would
have increased by 10%, the effect on the Company would have been an increase in
interest expense of approximately $43,000.
The Company issued 325,000 warrants associated with certain of its subordinated
debt. These warrants contain put and call provisions as defined in the agreement
of the price of the warrant charges by $0.10, the effect on the Company would be
an adjustment to Earnings of $32,500.
Item 8. Financial Statements and Supplementary Financial Data
The response to this item is submitted on pages F1 - F24 of this Report.
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
None.
16
PART III
Item 10. Directors and Executive Officers of the Registrant
Information required by this item regarding directors and officers is
incorporated by reference from the definitive Proxy Statement to be filed by the
Company for the Annual Meeting of Stockholders to be held on July 12, 2002.
Item 11. Executive Compensation
Information required by this item regarding compensation of officers and
directors is incorporated by reference from the definitive Proxy Statement to be
filed by the Company for the Annual Meeting of Stockholders to be held on July
12, 2002.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Information required by this item is incorporated by reference from the
definitive Proxy Statement to be filed by the Company for the Annual Meeting of
Stockholders to be held on July 12, 2002.
Item 13. Certain Relationships and Related Transactions
Information required by this item is incorporated by reference from the
definitive Proxy Statement to be filed by the Company for the Annual Meeting of
Stockholders to be held on July 12, 2002.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) The following documents are filed as part of the report:
1. and 2. The financial statements filed as part of this report are
listed separately in the index to Financial Statements beginning on
page F-1 of this report.
3. For Exhibits see Item 14 (c), below. Exhibit Nos. 10.1 and 10.1.1
consist of management contracts or compensatory plans or arrangements
required to be filed as exhibits to this report.
(b) Reports on Form 8-K
-------------------
None
(c) List of Exhibits:
Exhibit Description
- ------- -----------
No.
- ---
2.1 Form of Agreement and Plan of Merger regarding the change in
incorporation of the Company from a New York Corporation to a Delaware
Corporation*
2.1.1 Stock Purchase Agreement dated October 21, 1997 between the Company
and RCI Holdings, Inc.****
3.1.1 Certificate of Incorporation of the Company*
3.1.2 Bylaws of the Company**
3.3 Form of Indemnification Agreement executed by Officers and Directors
of the Company*
17
4.1 Form of specimen certificate for Common Stock of the Company*
4.1.1 Form of Warrant issued by the Company to the representative of the
underwriters of the Company's initial public offering*
9 Voting Trust Agreement, dated August 3, 1996, by and between Lewis
Gould and Susan J. Gould*
10.1 Employment Agreement, dated August 3, 1996, by and between Lewis Gould
and the Company*
10.1.1 Q.E.P. Co., Inc. Omnibus Stock Plan of 1996**
10.2.6 Lease Agreement, dated September 17, 1996, by and among the Company
and Lawrence Z. Crockett, as Trustee of the Lawrence Z. Crockett Trust
dated March 31, 1994 and Marilyn M. Crockett, as Trustee of the
Marilyn M. Crockett Trust dated March 31, 1994, including amendment
thereto dated January 22, 1997**
10.2.7 Industrial Lease, dated August 1, 1996, by and between
JMB/Pennsylvania Advisors - IV, L.P., and the Company**
10.3.1.1 Revolving Loan and Security Agreement and Assignment of Leases, dated
October 13, 1995, by and between Shawmut Bank Connecticut, N.A., a
national banking association, and the Company, including Promissory
Note dated October 13, 1995, Limited Guaranty of Lewis Gould dated
October 13, 1995, and form of Guaranty executed by the Company's
subsidiaries*
10.3.2 First Amendatory Agreement to Revolving Loan and Security Agreement,
dated as of July 25, 1997, by and among Q.E.P. Co., Inc. and its
subsidiaries and Fleet National Bank (f/k/a Shawmut Bank Connecticut,
N.A.), including Amended and Restated Revolving promissory Note dated
July 25, 1997 and Release of Limited Guaranty of Lewis Gould, dated
July 25, 1997.***
10.3.3 Amended and Restated Loan Agreement by and among Q.E.P. Co., Inc.,
Q.E.P.-O'Tool, Inc., Marion Tool Corporation, Westpoint Foundry, Inc.,
Roberts Consolidated Industries, Inc., Roberts Holding International,
Inc., and Roberts Company Canada Limited and Fleet National Bank dated
as of October 21, 1997.*****
10.3.3A First Amendatory Agreement to the Amended and Restated Loan Agreement
by and among Q.E.P. Co., Inc., Q.E.P.-O'Tool, Inc., Marion Tool
Corporation, Westpoint Foundry, Inc., Roberts Consolidated Industries,
Inc., Roberts Holding International, Inc., and Roberts Company Canada
Limited and Fleet National Bank dated as of October 21, 1997.*******
10.3.4 Stock Purchase Agreement effective January 1, 1998 between Q.E.P.
Holding B.V. and Roberts Beheer B.V.******
10.3.5 Purchase and Sale Agreement effective as of December 31, 1997 between
Roberts Beheer B.V., Q.E.P. Co., Inc. and Roberts Consolidated
Industries, Inc.******
10.3.6 Subordinated Loan and Security Agreement, dated April 5, 2001, by and
between The HillStreet Fund, L.P. and the Company, including
Subordinated Term Promissory Note dated April 5, 2001, Warrant
Agreement dated April 5, 2001, and Warrant dated April 5,
2001.********
10.3.7. Fourth Agreement of Amendment, dated April 5, 2001, by and between
Fleet Capital Corporation and the Company, including 2001 Term Note
dated April 5, 2001, Guaranty of Lewis Gould dated April 5, 2001,
Amended Trademark Collateral Security Agreement********
21 Subsidiaries of the Company********
18
99.1 Form of Warrant issued to the following persons in the following
amounts: RCI Holdings, Inc. (100,000) and Marlborough Capital Fund,
Ltd. (100,000) ****
99.2 Form of 8% Convertible Subordinated Debenture issued to the following
persons in the following amounts: RCI Holdings, Inc. ($1,911,673.30),
Marlborough Capital Fund, Ltd. ($5,088.326.70), and IBJ Schroeder as
Escrow Agent ($500,000).****
99.3 Escrow Agreement dated October 21, 1997 among the Company, RCI
Holdings, Inc., and IBJ Schroeder.****
__________________
* Incorporated by reference to Exhibit of the same number filed with the
Company's Registration Statement on Form S-1 (Reg. No. 333-07477).
** Incorporated by reference to Exhibit of the same number filed with the
Company's Annual Report on Form 10-K filed on May 28, 1997.
*** Incorporated by reference to Exhibit of the same number filed with the
Company's Quarterly Report on Form 10-Q filed on October 14, 1997.
**** Incorporated by reference to Exhibit of the same number filed with the
Company's Report on Form 8-K filed on November 3, 1997 (except that
Exhibit 2.1.1 above was numbered 2.1 in the Form 8-K).
***** Incorporated by reference to Exhibit of the same number filed with the
Company's Quarterly Report on Form 10-Q filed on January 14, 1998.
****** Incorporated herein by reference to Exhibit of the same number filed
with the Company's Annual Report on Form 10-K filed on May 28, 1998.
******* Incorporated herein by reference to Exhibit of the same number filed
with the Company's Annual Report on Form 10-K filed on May 27, 2000.
******** Incorporated herein by reference to Exhibit of the same number filed
with the Company's Annual Report on Form 10-K filed on May 28, 2001.
(d) The financial statement schedule filed as part of this report is
listed separately in the Index to Financial Statements beginning on
page F-1 of this report.
19
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, in the City of Boca Raton,
Florida, State of Florida, on May 28, 2002.
Q.E.P. CO., INC,
By: /s/ Lewis Gould
------------------------------------
Lewis Gould
Chairman and Chief Executive Officer
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Lewis Gould and Marc Applebaum and each of them, his
true and lawful attorney-in-fact and agents, with full power of substitution and
resubstitution for him and in his name, place and stead, in any and all
capacities, to sign any and all amendments to this report, and to file the
same, with all exhibits thereto, and other documents in connection therewith,
with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents full power and authority to do and perform each and
every act and thing requisite and necessary to be done in and about the
premises, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that each of said attorneys-in-fact
or his substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
/s/ Lewis Gould Chairman, Chief Executive Officer May 28, 2002
- -------------------------- and Director (Principal Executive Officer)
Lewis Gould
/s/ Marc Applebaum Senior Vice President and Chief Financial May 28, 2002
- -------------------------- Officer (Principal Financial and Accounting Officer)
Marc Applebaum
/s/ Robert Feuerzeig
- -------------------------- Director May 28, 2002
Robert Feuerzeig
/s/ Emil Vogel
- -------------------------- Director May 28, 2002
Emil Vogel
/s/ Christian Nast
- -------------------------- Director May 28, 2002
Christian Nast
/s/ Leonard Gould
- -------------------------- Director May 28, 2002
Leonard Gould
/s/ David Malizia
- -------------------------- Director May 28, 2002
David Malizia
/s/ Pierre Simard Director May 28, 2002
- --------------------------
Pierre Simard
/s/ Ernst Ohnell
- -------------------------- Director May 28, 2002
Ernst Ohnell
C O N T E N T S
Page
----
Report of Independent Certified Public Accountants F-2
Financial Statements
Consolidated Balance Sheets F-3
Consolidated Statements of Income F-4
Consolidated Statement of Shareholders' Equity F-5
Consolidated Statements of Cash Flows F-6
Notes to Consolidated Financial Statements F-7 to F-24
Schedule II - Valuation and Qualifying Accounts S-1
F-1
REPORT OF INDEPENDENT CERTIFIED
PUBLIC ACCOUNTANTS
Board of Directors and Shareholders
Q.E.P. Co., Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of Q.E.P. Co., Inc.
(a Delaware corporation) and Subsidiaries as of February 28, 2002 and February
28, 2001, and the related consolidated statements of income, shareholders'
equity, and cash flows for each of the three years in the period ended February
28, 2002. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United states of America. Those standards require that we plan and
perform the audit to maintain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Q.E.P. Co., and
Subsidiaries as of February 28, 2002 and February 28, 2001, and the results of
their operations and their cash flows for each of the three years in the period
ended February 28, 2002 in conformity with accounting principles generally
accepted in the United States of America.
We have also audited Schedule II of Q.E.P. Co., Inc. and Subsidiaries for each
of the three years in the period ended February 28, 2002. In our opinion, this
schedule presents fairly, in all material respects, the information required to
be set forth therein.
/s/ Grant Thornton LLP
Grant Thornton LLP
Miami, Florida
April 15, 2002
F-2
Q.E.P. CO., INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS February 28, 2002 February 28, 2001
----------------- -----------------
CURRENT ASSETS
Cash and cash equivalents $ 435,320 $ 397,817
Accounts receivable, less allowance for doubtful accounts of
approximately $422,000 and $662,000 as of February 28, 2002
and February 28, 2001, respectively. 17,267,501 17,576,040
Notes receivable 21,845 21,845
Inventories 19,878,478 20,132,585
Prepaid expenses 1,798,773 1,582,627
Deferred income taxes 485,770 582,107
------------- -------------
Total current assets 39,887,687 40,293,021
Property and equipment, net 6,300,022 7,155,327
Deferred income taxes 1,232,031 1,019,095
Intangible assets, net 14,709,988 15,366,260
Notes receivable 28,586 33,886
Other assets 212,205 168,165
------------- -------------
Total assets $ 62,370,519 $ 64,035,754
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Lines of credit $ 16,763,214 $ 15,484,622
Current maturities of long term debt 2,053,179 2,016,385
Acquisition notes payable 767,500 932,500
Accounts payable 8,208,136 8,947,842
Accrued liabilities 2,385,755 3,123,469
------------- -------------
Total current liabilities 30,177,784 30,504,818
Notes payable 3,118,629 5,120,566
Acquisition notes payable 1,000,000 1,620,000
Subordinated long term debt 3,944,792 4,500,000
Deferred income taxes 504,740 177,621
Warrant Put Liability 575,000 ---
Commitments and Contingencies
SHAREHOLDERS' EQUITY
Preferred stock, 2,500,000 shares authorized, $1.00 par
value; 336,660 shares issued and outstanding at February
28, 2002 and February 28, 2001 336,660 336,660
Common stock; 20,000,000 shares authorized, $.001 par value;
3,381,190 shares issued and outstanding at February 28,
2002 and February 28, 2001 3,381 3,381
Additional paid-in capital 9,068,703 9,082,087
Retained earnings 15,842,783 13,758,547
Cost of stock held in treasury (390,642) (350,993)
Accumulated other comprehensive income (1,811,311) (716,933)
------------- -------------
23,049,574 22,112,749
------------- -------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 62,370,519 $ 64,035,754
============= =============
The accompanying notes are an integral part of these statements
F-3
Q.E.P. CO., INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Year ended
--------------------------------------------
February 28, February 28, February 29,
2002 2001 2000
------------ ------------ ------------
Net sales $109,674,723 $113,003,087 $113,571,475
Cost of goods sold 72,602,550 76,939,755 79,036,635
------------ ------------ ------------
Gross profit 37,072,173 36,063,332 34,534,840
------------ ------------ ------------
Costs and expenses:
Shipping 9,588,832 9,801,247 8,987,252
General and administrative 9,740,543 9,650,354 9,393,494
Selling and marketing 11,894,600 11,616,403 9,494,325
Restructuring charge --- 637,462 ---
Other (income) expense, net (217,133) (93,527) (13,458)
------------ ------------ ------------
31,006,842 31,611,939 27,861,613
------------ ------------ ------------
Operating income 6,065,331 4,451,393 6,673,227
Interest income 9,897 175,389 133,287
Interest expense (2,567,455) (2,306,584) (1,833,675)
------------ ------------ ------------
Income before provision
for income taxes and extraordinary item 3,507,773 2,320,198 4,972,839
Provision for income taxes 1,404,795 887,493 1,951,447
------------ ------------ ------------
Net income before extraordinary item 2,102,978 1,432,705 3,021,392
Extraordinary item, gain on early
extinguishment of debt -- -- 181,559
------------ ------------ ------------
Net income $ 2,102,978 $ 1,432,705 $ 3,202,951
============ ============ ============
Basic and diluted earnings per common
share:
Income before extraordinary item $ 0.62 $ 0.42 $ 0.90
Extraordinary item --- --- .05
------------ ------------ ------------
Net income $ 0.62 $ 0.42 $ 0.95
============ ============ ============
The accompanying notes are an integral part of these statements
F-4
Q.E.P. CO. INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
Accumulated
Other
Preferred Stock Common Stock Paid-in Retained Comprehensive
---------------- ------------
Shares Amount Shares Amount capital earnings Income
------ ------ ------ ------ ------- -------- ------
Balance at February 28, 1999 336,660 $336,660 2,654,894 $2,655 $8,746,876 $ 9,147,105 ($277,000)
Net income 3,202,951
Other comprehensive income:
Foreign currency translation adjustment (105,875)
Exercise of stock options 30,000 30 199,185
Dividends (11,771)
------- --------- --------- ------ ---------- ----------- ------------
Balance at February 29, 2000 336,660 $336,660 2,684,894 $2,685 $8,946,061 $12,338,285 ($382,875)
Net income 1,432,705
Other comprehensive income:
Foreign currency translation adjustment (334,058)
Purchase of Treasury Stock
Stock Dividend 673,796 673 (673)
Exercise of stock options 22,500 23 136,026
Dividends (11,770)
------- --------- --------- ------ ---------- ----------- ------------
Balance at February 28, 2001 336,660 $336,660 3,381,190 $3,381 $9,082,087 $13,758,547 ($716,933)
Net income 2,102,978
Other comprehensive income:
Foreign currency translation adjustment (1,094,378)
Purchase of Treasury Stock
Purchase of Warrants (13,384)
Dividends (18,742)
------- --------- --------- ------ ---------- ----------- ------------
Balance at February 28, 2002 336,660 $336,660 3,381,190 $3,381 $9,068,703 $15,842,783 ($1,811,311)
======= ========= ========= ====== ========== =========== ============
Other
Treasury Comprehensive
stock Income
------------ -----------
Balance at February 28, 1999 (57,900)
Net income 3,202,951
Other comprehensive income:
Foreign currency translation adjustment (105,875)
Exercise of stock options
Dividends
------------ -----------
Balance at February 29, 2000 (57,900) $3,097,076
===========
Net income 1,432,705
Other comprehensive income:
Foreign currency translation adjustment (334,058)
Purchase of Treasury Stock (293,093)
Stock Dividend
Exercise of stock options
Dividends
------------ -----------
Balance at February 28, 2001 ($350,993) $1,098,647
===========
Net income 2,102,978
Other comprehensive income:
Foreign currency translation adjustment (1,094,378)
Purchase of Treasury Stock (39,649)
Purchase of Warrants
Dividends
------------ -----------
Balance at February 28, 2002 ($390,642) $1,008,600
============ ===========
The accompanying notes are an integral part of these statements
F-5
Q.E.P. CO., INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended
-------------------------------------------------------
February 28, February 28, February 29,
2002 2001 2000
---- ---- ----
Cash flows from operating activities:
Net income $ 2,102,978 $ 1,432,705 $ 3,202,951
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,524,090 1,356,927 949,155
Amortization of costs in excess of assets acquired 471,126 457,081 368,134
Amortization of discount on long term debt 18,080 213,092 267,112
Bad debt expense 94,909 127,119 277,734
Loss on sale of property and equipment --- 26,023 ---
Deferred income taxes 210,520 147,207 5,502
Gain on early extinguishments of debt --- --- (181,559)
Changes in assets and liabilities, net of acquisitions:
Accounts receivable (172,907) (1,446,741) 9,369
Inventories (292,666) (2,230,277) (1,186,665)
Prepaid expenses (224,234) (609,635) (543,250)
Other assets (218,487) (368,620) 707,821
Accounts payable and accrued liabilities (899,185) 1,262,131 (1,339,946)
----------- ----------- -----------
Net cash provided by operating activities 2,614,224 367,012 2,536,358
----------- ----------- -----------
Cash flows from investing activities
Capital expenditures (576,907) (2,018,793) (719,880)
Purchase of trademarks and licenses --- (200,000) (833,050)
Acquisitions, net of cash acquired --- (1,116,517) (2,668,000)
Proceeds from sale of property & equipment --- 150,000 ---
----------- ----------- -----------
Net cash used in investing activities (576,907) (3,185,310) (4,220,930)
----------- ----------- -----------
Cash flows from financing activities:
Net borrowings under lines of credit 1,278,592 5,069,876 4,330,537
Borrowings of long term debt 6,000,000 --- ---
Repayments of long term debt (7,999,681) (1,384,925) (1,515,397)
Repayments of acquisition debt (785,000) (2,462,843) (377,851)
Purchase of subordinated debt --- --- (1,093,817)
Purchase of treasury stock (39,649) (293,093) ---
Proceeds from exercise of stock options --- 136,047 199,185
Payments on notes receivable 5,300 1,667,818 798,558
Purchase of common stock warrants (13,384) --- ---
Dividends (18,742) (11,770) (11,771)
----------- ----------- -----------
Net cash (used in) provided by financing activities (1,572,564) 2,721,110 2,329,444
----------- ----------- -----------
Cumulative currency translation adjustment (427,250) (334,058) (105,875)
----------- ----------- -----------
Net increase (decrease) in cash 37,503 (431,246) 538,997
Cash and cash equivalents at beginning of year 397,817 829,063 290,066
----------- ----------- -----------
Cash and cash equivalents at end of year $ 435,320 $ 397,817 $ 829,063
=========== =========== ===========
The accompanying notes are an integral part of these statements.
F-6
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - DESCRIPTION OF BUSINESS
Q.E.P. Co., Inc. is a leading manufacturer, marketer and distributor of a broad
line of specialty tools and flooring related products for the home improvement
market. Under brand names including Q.E.P.(TM), O'TOOL(TM) and ROBERTS(TM) the
Company markets specialty tools and flooring related products used primarily for
the surface preparation and installation of ceramic tile, carpet and marble.
During fiscal 2002 the Company reduced the amount of items it sells through its
subsidiaries. Total products marketed by Q.E.P. and subsidiaries now approximate
3,000. The Company sells its products to large home improvement retail centers,
as well as traditional distribution outlets in 50 states and more than 49
countries worldwide.
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
1. Principles of Consolidation
The consolidated financial statements include the accounts of Q.E.P. Co.,
Inc. and its wholly owned subsidiaries, after eliminating all significant
inter-company accounts and transactions.
2. Warrants
In connection with an acquisition, the Company has issued a total of
250,000 warrants to purchase common stock at $8.00 per share. These
warrants expire on October 21, 2002. In connection with the refinancing of
certain subordinated debt (see Note K), the Company issued 325,000 warrants
at $3.63, which will to expire on April 4, 2011. These warrants can be put
to the Company after the fifth year based on certain criteria. Further, the
Company may call these warrants, based on certain criteria, after the sixth
year.
3. Cash Equivalents
The Company considers all highly liquid debt instruments purchased with an
original maturity of three months or less to be cash equivalents.
4. Inventories
Inventories are stated at the lower of standard cost or market.
5. Property and Equipment
Property and equipment are stated at cost. Depreciation is provided by
straight-line methods in amounts sufficient to relate the cost of
depreciable assets to operations over their estimated service lives.
Leasehold improvements are amortized over their expected useful life or the
life of the respective lease, whichever is shorter.
The following are the estimated lives of the Company's property and
equipment:
Machinery and warehouse equipment 5 to 10 years
Furniture and equipment 5 to 10 years
Capital leases 3 to 5 years
Building 30 to 33 years
Leasehold improvements 5 to 15 years
F-7
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Maintenance and repairs are charged to expense, and significant renewals
and betterments are capitalized. When property is sold or otherwise
disposed of, the cost and related depreciation are removed from the
accounts, and any resulting gain or loss is reflected in operations for the
period.
6. Intangible Assets
Intangible assets (predominately goodwill which represents the cost in
excess of net assets of businesses acquired) are recorded and amortized
over periods ranging from five to thirty five years using the straight-line
method. The Company will adopt FASB No. 142 "Goodwill and Other
Intangibles" beginning March 1, 2002; consequently, amortization of
goodwill will cease (See Note U).
7. Impairment of Long-Lived Assets and Long-Lived Assets To Be Disposed Of
The Company evaluates its long-lived assets and certain intangibles for
impairment whenever events or changes in circumstances indicate that the
carrying amount of such assets or intangibles may not be recoverable.
Recoverability of assets to be held and used is measured by a comparison of
the carrying amount of an asset to future net cash flows expected to be
generated by the asset. If such an asset is considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the asset exceeds the fair value of the assets (See Note U).
Assets to be disposed of are reported at the lower of the carrying amount
or fair value less costs to sell.
8. Income Taxes
Deferred income taxes are recorded to reflect the tax consequences on
future years of differences between the tax basis of assets and liabilities
and their financial reporting amounts each year-end.
9. Leases
Leases which meet certain criteria are classified as capital leases. For
such leases, assets and obligations are recorded initially at the fair
market values of the leased assets. The capitalized leases are amortized
using the straight-line method over the assets' estimated economic lives.
Interest expense relating to the lease liabilities is recorded to affect a
constant rate of interest over the terms of the obligations. Leases not
meeting capitalization criteria are classified as operating leases and
related rentals are charged to expense as incurred.
10. Stock-Based Compensation
The Company grants stock options for a fixed number of shares to employees
and directors with an exercise price equal to at least 85% of the fair
market value of the shares at the date of grant. The Company has adopted
the disclosure-only provision of Financial Accounting Standards ("SFAS")
No. 123, "Accounting for Stock-Based Compensation," which permits the
Company to account for stock option grants in accordance with APB Opinion
No. 25, "Accounting for Stock Issued to Employees." Under APB 25,
compensation expense is recorded when the exercise price of the Company's
employee stock option is less than the market price of the underlying stock
at the date of grant.
F-8
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. Earnings Per Share
Basic earnings per share is computed based on weighted average shares
outstanding during the period. Diluted earnings per share is computed using
the weighted average number of common and dilutive common stock equivalent
shares outstanding during the period. Dilutive common stock equivalent
shares consist of stock options and warrant common stock equivalent shares
which are not utilized when the effect is antidilutive.
12. Comprehensive Income
The Company records comprehensive income in accordance with SFAS No. 130,
"Reporting Comprehensive Income." SFAS 130 requires foreign currency
translation adjustments to be included in other comprehensive income.
The components of comprehensive income and the effect on earnings for the
year ended February 28, 2002 are detailed in the Company's accompanying
Consolidated Statement of Shareholders' Equity.
13. Post Employment Benefits
The Company has a policy which provides service benefits to its salaried
employees. The Company records a liability for post employment benefits in
accordance with SFAS No. 112, "Employers Accounting for Post Employment
Benefits". Since the Company cannot reasonably estimate post employment
benefits, including severance benefits, on an ongoing basis, these costs
are recorded only when the probability of payment and the amount of such
payment can be reasonably determined.
14. Derivative Instruments and Hedging Activities
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting
for Derivative Instruments and Hedging Activities." SFAS No. 133
establishes accounting and reporting standards requiring that every
derivative instrument (including certain derivative instruments embedded in
other contracts) be recorded in the balance sheet as either an asset or
liability at its fair value. The Statement requires that changes in the
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. In June 2000, the FASB issued SFAS No.
138, "Accounting for Certain Derivative Instruments and Certain Hedge
Activities - an Amendment of FASB Statement No. 133." See Note K(B)
15. Interest Rate Swap
The interest rate swap agreement, (the "Swap") involves the exchange of
fixed and floating interest rate payment obligations over various terms
without the exchange of the underlying notional principal amount. The
differential to be paid or received is recognized as an adjustment to
interest expense in the period incurred. The swap agreement expired in
December, 2001.
F-9
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
16. Fair Value of Financial Instruments
The following methods and assumptions were used in estimating the indicated
fair values of financial instruments:
Cash and cash equivalents: The carrying amount approximates fair value due
to the short maturity of these instruments.
Short term debt: The carrying amount approximates fair value due to the
short maturity of these instruments.
Long term debt: The fair value of the Company's borrowings approximates the
carrying value based on current rates offered to the Company for similar
debt.
Warrant put liability: The carrying amount approximates fair value based on
the market value of the Company's stock or contract value as defined.
17. Foreign Currencies
The financial statements of subsidiaries outside the United States are
generally measured using the local currency as the functional currency.
Assets and liabilities recorded in foreign currencies on the books of
foreign subsidiaries are translated at the exchange rate on the balance
sheet date. Translation adjustments resulting from this process are charged
or credited to equity. Revenues, costs, and expenses are translated at
average rates of exchange prevailing during the year. Gains and losses on
foreign currency transactions are included in operating expenses.
18. Revenue Recognition
Sales are recognized when merchandise is shipped and such revenue is
recorded net of estimated sales returns, discounts and allowances. The
Company establishes reserves for returns and allowances based on current
and historical information and trends. Sales and accounts receivable have
been reduced by such amounts.
19. Shipping and Handling Costs
Shipping and handling costs are classified as a separate operational
expense on the accompanying Consolidated Statements of Income.
20. Advertising Cost
Advertising costs are expensed in the period incurred except those costs
which result in tangible assets, such as catalogs, which are treated as
prepaid supplies and charged to operations as consumed.
21. Research and Development
Research and development costs are charged to expense in the period
incurred.
22. Use of Estimates
In preparing financial statements in conformity with accounting principles
generally accepted in the United States, management is required to make
certain 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 revenues and expenses during
the reporting period. Actual results could differ from those estimates.
F-10
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company estimates an allowance for doubtful accounts based on the
creditworthiness of its customers as well as general economic conditions.
Management has used reasonable assumptions in deriving these estimates;
however, actual results could differ from these estimates. Consequently,
an adverse change in those conditions could affect the Company's estimate.
23. Certain amounts in the fiscal year 2001 presentation have been reclassified
to conform with the fiscal year 2002 presentation.
NOTE C - ACQUISITIONS
Acquisitions are accounted for as purchases and, accordingly, have been included
in the Company's consolidated results of operations since the acquisition date.
The purchase price is allocated based on the estimated fair values of assets
acquired and liabilities assumed. Purchase price allocations are subject to
refinement until all pertinent information regarding the acquisitions is
obtained.
During fiscal 2001, the Company made three strategic acquisitions. The purchase
price for these acquisitions, most of which were domestic companies, was
approximately $2,800,000. The excess of aggregate purchase price over the fair
market value of net assets acquired of approximately $500,000 was being
amortized on a straight line basis over 20 years.
During fiscal 2000, the Company made six strategic acquisitions. The purchase
price for all of these acquisitions, the majority of which were international
companies, was approximately $8,750,000. The excess of aggregate purchase price
over the fair market value of net assets acquired of approximately $3,500,000
was being amortized on a straight line basis over 20 years.
Effective March 1, 2002 the Company will stop amortizing goodwill. See Note U.
The unaudited pro forma consolidation of the acquisitions occurring in fiscal
2001 showing the results of operations assuming the above purchases occurred on
March 1, 2000 are not material and are not included herein.
NOTE D - EARNINGS PER SHARE
Basic earnings per share is computed by dividing net income, after deducting
preferred stock dividends accumulated during the period, by the weighted average
number of shares of common stock outstanding during each period. Diluted
earnings per share is computed by dividing net income, after deducting preferred
stock dividends accumulated during the period, by the weighted average number of
shares of common and dilutive common stock equivalent shares outstanding during
each period. Diluted common stock equivalent shares consist of stock options
and warrant common stock equivalent shares which are not used when the effect is
antidilutive. For the three years ended February 28, 2002, the weighted average
number of basic shares of common stock outstanding amounted to 3,381,190 in
2002, 3,343,868 in 2001 and 3,345,701 in 2000. For the three years ended
February 28, 2002 the weighted average number of diluted shares of common stock
outstanding amounted to 3,390,028 in 2002, 3,368,818 in 2001 and 3,364,668 in
2000.
NOTE E - EQUITY
On June 6, 2000, the Board of Directors declared a five for four stock split of
the Company's common stock, affected in the form of a stock dividend which was
paid on August 1, 2000. As a result of this action, approximately 673,000
shares were issued to shareholders of record on July 17, 2000. Par value of the
common stock remained at $0.001 per share and, accordingly, $673 was transferred
from retained earnings to common stock.
F-11
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the years ended February 28, 2001 and 2000, the effect on earnings per share
was a reduction of $0.11 and $0.24, respectively. All references to the number
of common shares and per common share amounts have been restated to give
retroactive effect to the stock split for all periods presented.
NOTE F - LICENSE AGREEMENT
Effective May 15, 2000, the Company entered into an agreement to license the
distribution rights of its tackless carpet strip product to U.S. flooring
products distributors. Under the terms of the agreement, the Company will
receive a total of $2,750,000 at a predetermined rate based on cartons of tack
strip sold by the licensee. The Company is guaranteed to receive a minimum of
$400,000 per year. In addition, the Company will retain the right and will
continue to sell tackless carpet strip to the home center and international
markets. For the two years ended February 28, 2001, the Company sold
approximately $2,957,000 and $14,114,000, respectively. There were no sales of
this product to these distributors for the fiscal year ended February 28, 2002.
NOTE G - SEGMENT INFORMATION
The Company operates in one business segment -- flooring-related products
because of the similarity of economic conditions, products, production
processes, customers and expected long-term performance. The Company
manufactures and distributes flooring-related products to the residential new
construction, do-it-yourself and professional remodeling and renovation markets
and home centers.
Information attributable to the Company's geographic areas is as follows:
United Canada/
States of Latin New Zealand/ Inter-company Consolidated
------------
America America Australia Europe Eliminations Total
------- ------- --------- ------ ------------ -----
2002
----
Sales $87,197,283 $10,866,127 $3,761,605 $7,849,708 $ --- $109,674,723
Transfers between areas 2,534,283 3,001,319 --- --- (5,535,602) ---
----------- ----------- ---------- ---------- ------------ ------------
Total Sales $89,731,566 $13,867,446 $3,761,605 $7,849,708 (5,535,602) $109,674,723
=========== =========== ========== ========== ============ ============
Long-lived Assets $41,431,650 $ 2,325,823 $ 584,501 $ 823,820 $(23,943,579) $ 21,222,215
=========== =========== ========== ========== ============ ============
2001
----
Sales $87,261,192 $12,846,153 $4,112,636 $8,783,106 $ --- $113,003,087
Transfers between areas 1,300,127 --- --- 4,102 (1,304,229) ---
----------- ----------- ---------- ---------- ------------ ------------
Total Sales $88,561,319 $12,846,153 $4,112,636 $8,787,208 $ (1,304,229) $113,003,087
=========== =========== ========== ========== ============ ============
Long-lived Assets $41,136,460 $ 2,696,467 $ 785,885 $ 950,062 $(22,879,122) $ 22,689,752
=========== =========== ========== ========== ============ ============
2000
----
Sales $89,366,768 $13,104,460 $2,192,192 $8,908,055 $ --- $113,571,475
Transfers between areas 947,927 --- --- --- (947,927) ---
----------- ----------- ---------- ---------- ------------ ------------
Total Sales $90,314,695 $13,104,460 $2,192,192 $8,908,055 $ (947,927) $113,571,475
=========== =========== ========== ========== ============ ============
Long-lived Assets $36,628,219 $ 1,632,748 $ 291,024 $1,172,581 $(21,324,963) $ 18,399,609
=========== =========== ========== ========== ============ ============
F-12
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE H - NOTE RECEIVABLE
Concurrent with the acquisition of Roberts, the Company sold certain production
equipment (at their stated value) to an unrelated third party for a note in the
amount of $3,750,000. Such note was collateralized by the equipment. At the
time of issuance, the note was recorded at its net present value of $3,250,000
utilizing its effective interest rate of approximately 9% and was payable
through a reduction in purchase price of goods sold to the Company under a
supply agreement. As a result of the license agreement, with the same third
party (see Note F), this note was paid in its entirety in fiscal 2001.
NOTE I - INVENTORIES
Inventories consisted of the following:
February 28, February 28,
2002 2001
---- ----
Raw materials and work-in-process $ 3,837,402 $ 4,957,226
Finished goods 16,041,076 15,175,359
----------- -----------
$19,878,478 $20,132,585
=========== ===========
NOTE J - PROPERTY AND EQUIPMENT
February 28, February 28,
2002 2001
---- ----
Property and equipment consisted of the following:
Machinery and warehouse equipment $ 4,259,073 $ 4,635,952
Office furniture, equipment and computer equipment 3,556,645 3,168,332
Building and leasehold improvements 2,055,511 2,019,756
----------- -----------
9,871,229 9,824,040
Less accumulated depreciation and amortization (3,571,207) (2,668,713)
----------- -----------
$ 6,300,022 $ 7,155,327
=========== ===========
NOTE K - DEBT
Total debt consists of the following:
February 28, February 28,
2002 2001
---- ----
(A) Payable to banks under revolving credit facilities $16,763,214 $15,484,622
(B) Subordinated debt 4,500,000 4,604,217
(C) Payable to a bank under term loan credit facilities 4,080,357 5,785,713
(D) Payable to a bank under a mortgage agreement 556,559 635,350
(E) Acquisition notes payable 1,767,500 2,552,500
Other debt, including capital leases 534,892 611,671
----------- -----------
28,202,522 29,674,073
Less current installments 19,583,893 18,433,507
----------- -----------
8,618,629 11,240,566
Less unamortized discount (555,208) ---
----------- -----------
Long Term $ 8,063,421 $11,240,566
=========== ===========
F-13
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(A) The Company has a revolving credit and term loan facility agreement with a
United States financial institution. This agreement, which was amended on
April 5, 2001, provides for borrowings of up to $18,000,000 (subsequent to
February 28, 2002 this amount was increased to $20,000,000 through June 3,
2002) against a fixed percentage of eligible accounts receivable and
inventory. Interest is payable based on a sliding scale depending on the
Company's senior debt to EBITDA ranging from LIBOR plus 1.75% to LIBOR plus
2.5%. The facility terminates in July 2003 and is collateralized by
substantially all of the Company's assets. Under the terms of the credit
agreement, the Company is required to maintain certain financial ratios and
conditions. The credit agreement also prohibits the Company from incurring
certain additional indebtedness, limits certain investments, advances or
loans and restricts substantial asset sales and capital expenditures. The
terms of the Company's credit facility also prohibits the payment of
dividends, except with the lender's consent. Interest was charged based on
a sliding scale. As of February 28, 2002 interest was at LIBOR (1.85% at
February 28, 2002) plus 2.00%. At February 28, 2002 the Company had
$1,113,000 available for future borrowings under the credit facility, net
of approximately $444,000 in outstanding letters of credit. The Company's
Chilean subsidiary has a revolving credit facility with a financial
institution, which permits borrowings of up to $100,000 with interest at
18% per year. The facility is secured by a standby letter of credit given
by the Company. This facility expires on May 31, 2002 and is expected to
be renewed at a reduced amount. At February 28, 2002, the Chilean
subsidiary had approximately $54,000 available for future borrowings under
the credit facility. The Company's Australian subsidiary also has an
overdraft facility, which allows it to borrow against a certain percentage
of inventory and receivables. At February 28, 2002 the maximum permitted
borrowing was approximately $361,000 and approximately $86,000 was
available for future borrowings.
(B) In connection with the acquisition of Roberts, the Company issued
$7,500,000 of subordinated debentures bearing an interest rate of 8%.
During fiscal 2000, the Company repurchased approximately $1,229,000 of
such debentures at a discount resulting in an extraordinary gain from early
extinguishments of debt of approximately $181,000. The remaining bonds
matured in April 2001 and were paid. On April 5, 2001, the Company entered
into a new $4,500,000 subordinated credit facility with HillStreet Fund LP.
This facility bears an interest rate of 15% and matures on April 5, 2007.
Beginning July 1, 2005, the Company is required to make equal quarterly
principal payments of $562,500 through April 5, 2007. The agreement also
provides for an additional 3% interest if the Company does not meet certain
financial covenants. In addition, the Company issued 325,000 10-year
warrants at $3.63. These warrants can be put to the Company on and after
April 5, 2006 based on criteria set forth in the warrant agreement. In
addition, the Company may call these warrants on and after April 5, 2007
based on the same criteria. The Company has recorded a liability for these
put warrants based on an independent appraisal. Changes to the fair value
of the put warrants will be recognized in earnings of the Company in
accordance with SFAS No. 133 "Accounting for Derivative Instruments and
Hedging Activities." The resulting discount of the subordinated credit
facility will be amortized over the life of the debt.
(C) The original term loan is payable in equal quarterly installments over a
seven year period. The loan is collateralized by substantially all of the
assets of the Company. The interest rate varies based on conditions, as
defined in the agreement and was approximately 3.90% at February 28, 2002.
The balance of the term loan at February 28, 2002 and February 28, 2001 was
$3,142,857 and $4,285,713, respectively. The Company obtained an
additional term loan ("2001 Term Loan") from its primary lending
institution, the proceeds of which were utilized repay its subordinated
debt which matured in April 2001. This loan in the amount of $1,500,000 is
payable in equal quarterly installments, which commenced on July 1, 2001
and will end on April 1, 2003. The interest rate for this loan is LIBOR
plus 2.75%. At February 28, 2002, the balance of the 2001 Term Loan was
$937,500.
F-14
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(D) During fiscal 2001, the Company purchased the land and building from its
then existing landlord where it operates in Bramalea, Ontario, Canada. The
cost of the facility was approximately $988,000 of which the Company
obtained a mortgage in the approximate amount of $670,000 from a Canadian
financial institution. This facility is payable over 10 years at an
interest rate to be set annually (6.1% as of February 28, 2002) and is
collateralized by the land and building. The facility also requires the
Company to continue remediation efforts on the property as approved by the
Canadian Ministry of Environment. See Note M.
(E) In connection with the acquisitions of certain newly acquired entities, the
Company issued five notes to the respective sellers. During fiscal 2001,
the Company issued a note for $1,600,000, payable in equal quarterly
payments over a five-year period. The note bears an interest rate of 8%.
As of February 28, 2002, the Company is obligated for two additional notes
for prior year acquisitions. One, having an original balance of $900,000,
is payable in equal annual installments over a three year period with
interest at the Company's prevailing borrowing rate. The balance at
February 28, 2002, is $300,000. The other note has a balance of $340,000
and is payable in installments of $20,000 per month for seven months and
$200,000 in December 2003.
On December 23, 2000, the Company entered into an interest rate swap agreement
with its primary lender. The interest rate swap agreement hedges the Company's
exposure on certain floating rate obligations in the aggregate principal amount
of $10,000,000. The purpose of the interest rate swap is to convert the
Company's floating rate interest obligations to obligations having a fixed rate
of 6.0% per annum for a one-year period. Prior to this interest rate swap, the
Company had a similar arrangement with the same institution that matured in
December 2000. The fixing of the interest rates reduces in part the Company's
exposure to the uncertainty of floating interest rates. The differential paid
or received by the Company on the interest rate swap agreement is recognized as
an adjustment to interest expense in the period incurred. For the year ended
February 28, 2002, the Company increased interest expense by approximately
$162,000 as a result of the interest rate swap agreements that were in place
during that period. The interest rate swap agreement expired in December 2001
and was not renewed.
Interest paid for all debt was approximately $2,189,600, $2,025,100 and
$1,486,000 in fiscal 2002, 2001 and 2000 respectively.
The aggregate matur ities of all debt, excluding the put liability, maturing
during each of the next five years as of February 28, 2002 is as follows:
2003 $19,583,893
2004 2,268,431
2005 1,246,633
2006 1,353,298
2007 2,293,500
Thereafter 901,559
-----------
Total $27,647,314
===========
Current $19,583,893
Long Term 8,063,421
-----------
TOTAL $27,647,314
===========
F-15
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE L - ACCRUED LIABILITIES
Accrued liabilities consisted of the following:
February 28, 2002 February 28, 2001
----------------- -----------------
Accrued payroll and employee benefits $ 707,595 $ 838,738
Accrued volume and advertising discount 885,031 1,611,216
Accrued interest 290,709 326,887
Accrued liabilities - other 502,420 346,628
---------- ----------
$2,385,755 $3,123,469
========== ==========
NOTE M - COMMITMENTS AND CONTINGENCIES
The Company provides accruals for all direct costs associated with the estimated
resolution of contingencies at the earliest date at which it is deemed probable
that a liability has been incurred and the amount of such liability can be
reasonably estimated.
The Company is involved in litigation from time to time in the course of its
business. In the opinion of management, no material legal proceedings are
pending to which the Company or any of its property is subject.
1. Future Minimum Obligations
The Company conducts its operations from various leased facilities. Future
minimum payments under non-cancelable operating leases consist of the
following in fiscal years ending after February 28, 2002:
2003 $1,783,104
2004 998,411
2005 560,967
2006 408,665
2007 741,790
----------
Total $4,492,937
==========
Total rent expense under non-cancelable operating leases approximated
$2,201,000, $2,045,000 and $1,891,000 in fiscal 2002, 2001 and 2000,
respectively.
2. Roberts Consolidated Industries, Inc.
The Company is subject to federal, state and local laws, regulations and
ordinances governing activities or operations that may have adverse
environmental effects, such as discharges to air and water, handling and
disposal practices for solid, special and hazardous wastes, and imposing
liability for the cost of cleaning up, and certain damages resulting from
sites of past spills, disposal or other releases of hazardous substances
(together, "Environmental Laws"). Sanctions which may be imposed for
violation of Environmental Laws include the payment or reimbursement of
investigative and clean up costs, administrative penalties and, in certain
cases, prosecution under environmental criminal statutes. The Company's
manufacturing facilities are
F-16
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
subject to environmental regulation by, among other agencies, the
Environmental Protection Agency, the Occupational Safety and Health
Administration, and various state authorities in the states where such
facilities are located. The activities of the Company, including its
manufacturing operations at its leased facilities, are subject to the
requirements of Environmental Laws. The Company believes that the cost of
compliance with Environmental Laws to date has not been material to the
Company. The Company is not currently aware of any situations requiring
remedial or other action, which would involve a material expense to the
Company, or expose the Company to material liability under Environmental
Laws. As the operations of the Company involve the storage, handling,
discharge and disposal of substances which are subject to regulation under
Environmental Laws, there can be no assurance that the Company will not
incur any material liability under Environmental Laws in the future or will
not be required to expend funds in order to effect compliance with
applicable Environmental Laws.
The Company completed testing at its facility in Bramalea, Ontario, Canada
for leakage of hazardous materials and, as a result, in fiscal 1999 the
Company prepared a plan to remediate the contamination over a period of
years and this plan was subsequently approved by the Canadian Ministry of
Environment (MOE). The Company recorded a reserve for potential
environmental liability on the closing date of the Roberts acquisition of
approximately $325,000 and this amount was increased during fiscal 1999 by
$275,000 to $600,000 based on an estimate for the cost of remediation. To
date, the Company has spent approximately $480,000 and anticipates spending
additional amounts on ongoing monitoring of wells and other environmental
activity at the approximate rate of between $5,000 and $25,000 per year for
the next few years.
NOTE N - PENSION AND RETIREMENT PLANS
Profit Sharing and 401(k) Plan
The Company and its subsidiaries offers a 401(k) benefit plan which provides for
voluntary contributions by employees subject to a maximum annual contribution.
The Company may, at the discretion of the Board of Directors, make contributions
to the plan. For the three years ended February 28, 2002, the Company
contributed approximately $62,000, $70,000 and, $68,000, respectively.
Subsequent to the acquisition of Roberts, the Company terminated the Roberts
Salaried Employees Defined Benefit Pension Plan. As of May 31, 1998, the
projected benefit obligation was estimated to be $2,452,000 and the plan assets
were approximately $2,947,000. The Company initially recorded an asset in
excess of projected benefit of approximately $700,000. During fiscal 1999, the
Company had an actuarial valuation prepared which adjusted this amount and
goodwill by approximately $226,000. During fiscal 2001, the Plan distributed
its remaining assets to its participants under a new defined contribution plan
and, with the approval of regulatory authorities, the remainder reverted to the
Company. This new defined contribution plan expects to distribute its assets
upon the retirement of all of its participants. No pension expense was recorded
in each of the three years ended February 28, 2002.
F-17
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE O - INCOME TAXES
Income (loss) before provision for income taxes and extraordinary item consisted
of the following:
Year Ended February 28 or 29,
-----------------------------
2002 2001 2000
---- ----- ----
United States $4,192,810 $ 3,335,414 $4,607,045
Foreign (685,037) (1,015,216) 365,794
---------- ----------- ----------
Total $3,507,773 $ 2,320,198 $4,972,839
========== =========== ==========
The components of the provision for income taxes are as follows:
Year Ended February 28 or 29,
-----------------------------
2002 2001 2000
---- ---- ----
Current:
Federal $1,089,993 $ 623,400 $1,529,932
State 51,848 99,296 261,602
Foreign 52,436 17,590 154,411
---------- --------- ----------
1,194,277 740,286 1,945,945
---------- --------- ----------
Deferred:
Federal 447,443 437,943 143,823
State 35,357 44,052 (11,210)
Foreign (272,282) (334,788) (127,111)
---------- --------- ----------
210,518 147,207 5,502
---------- --------- ----------
Total income tax provision $1,404,795 $ 887,493 $1,951,447
========== ========= ==========
The tax effects of temporary differences which give rise to deferred tax assets
are as follows:
February 28, 2002 February 28, 2001
----------------- -----------------
Provision for doubtful accounts $ 126,383 $ 45,661
Accrued expenses 218,274 230,231
Fixed assets (468,534) (177,621)
Inventory 141,113 149,051
Net operating loss - U.S. 292,928 320,676
Foreign credit carryforwards and net operating
loss 939,103 666,822
Other (36,206) 188,761
---------- ----------
Net deferred tax asset $1,213,061 $1,423,581
========== ==========
The Company has approximately $794,000 in net operating loss carry forwards
which expire in the years 2011 through 2018, all of which relates to the
Company's Fiscal 2000 acquisitions. The net operating loss carry forward is
subject to separate IRC Section 382 Limitation. The Section 382 limitation
limits the Company's utilization of its net operating losses to an annual amount
after an ownership change.
The Company has net operating losses in various foreign countries of
approximately $2,760,000. The Company has recorded a deferred tax asset based
on its estimate of the recoverability prior to their expiration. If the Company
determines in future years that net operating losses will not be realized, then
the asset will be adjusted accordingly. Further, $200,000 of these losses expire
in 2006 and the remainder have no limitation on their expiration.
F-18
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following is a reconciliation of the statutory federal income tax rate to
the effective rate reported in the financial statements:
Year Ended February 28 or 29,
-----------------------------
2002 2001 2000
---- ---- ----
Amount % Amount % Amount %
------ --- ------ --- ------ ---
Provision for federal income taxes
at the statutory rate $1,192,643 34.0 $788,867 34.0 $1,752,214 34.0
State and local income taxes -
net of federal income tax benefit 101,725 2.9 79,351 3.4 176,252 3.4
Other 110,427 3.1 19,275 0.8 22,981 0.4
---------- ---- -------- ---- ---------- ----
Actual provision $1,404,795 40.0 $887,493 38.2 $1,951,447 37.8
========== ---- ======== ---- ========== ====
Cash paid for income taxes was approximately $984,000, $1,504,000 and $2,031,000
fiscal 2002, 2001 and 2000, respectively.
NOTE Q - SIGNIFICANT CUSTOMER AND VENDOR INFORMATION
1. Significant Customer Information
The Company sells products to a large number of customers which are
primarily in the United States. The Company performs ongoing credit
evaluations of its customers' financial condition and, generally, requires
no collateral from its customers. The Company's customer base includes a
high concentration of home center chains with two such customers accounting
for a total of 59%, 50% and 39% of sales in fiscal 2002, 2001 and 2000,
respectively. One customer represented 46%, 41% and 35% and the other
customer represented 13%, 9% and 4% of sales in fiscal 2002, 2001 and 2000,
respectively. These same two customers represented 35% and 10% of accounts
receivable at February 28, 2002 and 29% and 13% of accounts receivable at
February 28, 2001. Although the Company is directly affected by the well-
being of the home center industry, management does not believe significant
credit risk exists at February 28, 2002.
2. Significant Vendor Information
The Company purchased approximately 28% and 12%, 19% and 15% and 19% and
10% of purchases for the fiscal years ended 2002, 2001 and 2000
respectively through two vendors.
NOTE R - SHAREHOLDERS' EQUITY
The Company is authorized to issue a maximum of 2,500,000 shares of $1 preferred
stock.
Series A
500,000 of the Company's 2,500,000 authorized shares of preferred stock, $1 par
value per share, are designated as Series A Preferred Stock. The holders of
each share of Series A Preferred Stock shall be entitled to receive, before any
dividends shall be declared or paid on or set aside for the Company's common
stock, out of funds legally available for that purpose, cumulative dividends in
cash at the rate of $.035 per share per annum through September 30, 2000,
payable in semiannual installments, accruing from the date of issuance of the
shares. Commencing October 1, 2000, the rate of dividends will equal the prime
interest rate on the first day of the month in which the dividends are payable,
less 1-1/4%.
F-19
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company may redeem any or all of the shares of Series A Preferred Stock
outstanding at a price per share of $1.07 plus an amount equal to any accrued
but unpaid dividends thereon during the first year following the issuance of
such shares and such price shall be reduced by one percent (1%) each year
thereafter until $1.00 per share is reached. The Series A Preferred Stock has
no voting rights. During fiscal 1995, the Company issued 425,547 shares of
Series A preferred stock in connection with a business acquisition. In fiscal
1997, 106,387 of these shares were converted to 3,129 shares of common stock.
At February 28, 2002 and February 28, 2001, there were 319,160 shares of Series
A Preferred Stock issued and outstanding. There were $18,142 and $11,170 of
dividends declared and paid during the fiscal years 2002 and 2001.
Series B
1,000,000 of the Company's 2,500,000 authorized shares of preferred stock, $1
par value per share, are designated as Series B Preferred Stock. The holder of
each share of Series B Preferred Stock shall be entitled to receive, out of the
surplus of the Company, a non-cumulative dividend at the rate of $.05 per share
per annum, payable annually before any dividend shall be set apart for or paid
on the common shares for such years. The Series B Preferred Stock has no voting
rights. The Company may redeem any or all of the shares of Series B Preferred
Stock then outstanding at a price per share of $1.00. At February 28, 2002 and
2001, there were no outstanding shares of Series B preferred stock.
Series C
1,000,000 of the Company's 2,500,000 authorized shares of preferred stock, $1
par value per share, are designated as Series C Preferred Stock. The holder of
each share of Series C Preferred Stock shall be entitled to receive, before any
dividends shall be declared or paid on or set aside for the Company's common
stock, out of funds legally available for that purpose, cumulative dividends at
the rate of $.035 per share per annum, payable in annual installments, accruing
from the date of issuance of the shares. The Series C Preferred Stock has no
voting rights. The Company may redeem any or all of the shares of Series C
Preferred Stock then outstanding at a price per share of $1.00. During fiscal
year 1995, 17,500 shares of Series C Preferred Stock were issued in connection
with a business acquisition. In fiscal year 2002, the fiscal 2000 dividends of
approximately $600 were paid. In fiscal year 2002, dividends of approximately
$600 were declared and were unpaid at February 28, 2002.
Treasury Stock
Total common shares purchased in fiscal year 1996 and held in treasury were
15,152 shares for an aggregate cost $57,900. In fiscal 2001, pursuant to a
resolution passed by the Board of Directors, the Company repurchased 42,000
shares of common stock at an aggregate cost of $293,093. Further, pursuant to
the same resolution, the Company repurchased 12,000 shares of common stock at an
aggregate cost of $39,649 in fiscal 2002.
NOTE S - STOCK OPTION PLAN
The Company has adopted a stock option plan (the "Plan") for employees,
consultants and directors of the Company. Stock options granted pursuant to the
Plan shall be authorized by the Board of Directors. The aggregate number of
shares which may be issued under the Plan shall not exceed 400,000 shares of
common stock. Stock options are granted at prices not less than 85% of the fair
market value on the date of the grant. All options granted, for the periods
presented, have been at fair market value. Option terms, vesting and exercise
periods vary, except that the term of an option may not exceed ten years.
F-20
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company continues to account for options issued under the intrinsic value
method of APB 25. Had compensation cost been determined based on the fair value
at the grant date for stock option awards consistent with the provisions of SFAS
No. 123, the Company's net income and diluted earnings per share for the year
ended February 28 or 29, 2002, 2001 and 2000 would have been as follows:
(in thousands, except per share data)
2002 2001 2000
------ ------ ------
Net income
As reported $2,103 $1,432 $3,202
Pro forma $1,996 $1,110 $3,064
Net income per share
As reported $ 0.62 $ 0.42 $ 1.19
Pro forma $ 0.56 $ 0.33 $ 1.14
The weighted average fair value at date of grant for options granted during
2002, 2001 and 2000 was $1.18, $1.94 and $3.40 per option, respectively. The
fair value of each option at date of grant was estimated using the Black-Scholes
option pricing model with the following weighted average assumptions for grants.
2002 2001 2000
---- ---- ----
Expected stock price volatility 36.7% 33.7% 35.1%
Expected lives of options
Directors and officers 3 years 3 years 3 years
Employees 3 years 3 years 3 years
Risk-free interest rate 4.4% 5.9% 5.4%
Expected dividend yield 0.0% 0.0% 0.0%
Weighted average
Shares exercise price
------ --------------
Options outstanding at February 28, 1999 451,500
Exercised (37,500) $5.35
Granted 107,000 $6.40
Cancelled or forfeited (123,750) $6.63
--------
Options outstanding at February 29, 2000 397,250
Exercised (25,000) $5.54
Granted 36,000 $6.45
Cancelled or forfeited (16,187) $6.30
--------
Options outstanding at February 28, 2001 392,063
Exercised 0
Granted 123,750 $3.92
Expired (157,813) $5.94
Cancelled or forfeited (1,000) $5.78
--------
Options outstanding at February 28, 2002 357,000
Options currently exercisable 197,868 $6.36
========
F-21
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes information about stock options outstanding as of
February 28, 2002:
Weighted average Weighted Weighted
Range of Number remaining average Number average
exercise prices outstanding contractual life exercise price exercisable exercise price
--------------- ----------- ---------------- -------------- ------------ ----------------
$3.65 - $8.56 357,000 6.68 $5.52 197,868 $6.36
During fiscal 2002, the Company issued 50,000 non-Qualified stock options to an
officer of the Company. These options have an exercise price of $4.00 and
expire in ten years.
NOTE T - NONCASH INVESTING AND FINANCING ACTIVITIES
During fiscal 2001, the Company acquired certain businesses. In connection with
these acquisitions, liabilities were assumed as follows:
Cash paid $ 1,116,517
Liabilities assumed 75,710
Issuance of notes to related sellers 1,620,000
----------
Purchase price $ 2,812,227
Fair value of net assets acquired 2,305,131
----------
Excess of purchase price over fair value of net
assets acquired $ 507,096
==========
Also, during fiscal 2001, the Company made certain capital expenditures as
follows:
Total capital expenditures $ 2,885,675
Amounts representing capitalized leases
and other secured financing $ 866,882
==========
Capital expenditures paid in cash $ 2,018,793
==========
During fiscal 2000, the Company made six strategic acquisitions. In connection
with these acquisitions, liabilities were assumed as follows:
Cash paid $ 2,668,000
Liabilities assumed 3,105,061
Issuance of notes to related sellers 2,985,000
----------
Purchase price $ 8,758,061
Fair value of net assets acquired 5,258,061
----------
Excess of purchase price over fair value of net
assets acquired $ 3,500,000
==========
NOTE U - NEW ACCOUNTING PRONOUNCEMENTS
On July 20, 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
combinations," and SFAS No. 142, "Goodwill and Intangible Assets." SFAS No. 141
is effective for all business combinations completed after June 30, 2001. SFAS
No. 142 is effective for fiscal years beginning after December 15, 2001;
however, certain provisions of this Statement apply to goodwill and other
intangible assets acquired between July 1, 2001 and the effective date of SFAS
No. 142. Major provisions of these Statements and their effective dates for the
Company are as follows:
All business combinations initiated after June 30, 2001 must use the purchase
method of accounting. The pooling-of-interests method of accounting is
prohibited except for transactions initiated before July 1, 2001;
F-22
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
. Intangible assets acquired in a business combination must be recorded
separately from goodwill if they arise from contractual or other legal rights or
are separable from the acquired entity and can be sold, transferred, licensed,
rented or exchanged, either individually or as part of a related contract, asset
or liability;
. Goodwill, as well as intangible assets with indefinite lives, acquired
after June 30, 2001, will not be amortized. Effective January 1, 2002, all
previously recognized goodwill and intangible assets with indefinite lives will
no longer be subject to amortization;
. Effective March 1, 2002, goodwill and intangible assets with indefinite
lives will be tested for impairment annually and whenever there is an impairment
indicator; and,
. All acquired goodwill must be assigned to reporting units for purposes
of impairment testing and segment reporting.
The Company will continue to amortize goodwill recognized prior to July 1, 2001,
under its current method, until March 1, 2002, at which time annual and
quarterly goodwill amortization of approximately $118,000 and $471,000,
respectively, will no longer be recognized. The Company is in the process of
completing its evaluation and believes that there will be an effect on the
amount it currently has recorded as intangible assets as they relate to the
Company's Latin American and European operations. Any impairment lost will be
recorded in the Company's 1st quarter of fiscal 2003 as a cumulative effect of a
change in accounting principle.
In August 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or
Disposal of Long Lived Assets". SFAS No. 144 supercedes SFAS No. 121 "Accounting
for the Impairment of Long Lived Assets and for Long Lived Assets to be Disposed
Of". SFAS 144 retains substantially all of the requirements of SFAS 121 while
resolving certain implementation issues. SFAS 144 is effective for fiscal years
beginning after December 15, 2001 with earlier implementation encouraged. The
Company is currently evaluating the impact on its financial statements of
adopting SFAS 144.
F-23
SUPPLEMENTAL FINANCIAL DATA
QUARTERLY FINANCIAL DATA (UNAUDITED)
The quarterly results for the two years ended February 28, 2002 are set forth in
the following table:
Net Earnings Earnings (Loss)
Sales Gross Profit (Loss) per share
----- ------------ ------------ ---------------
2002
----
First quarter $ 28,886,441 $ 9,755,096 $ 604,294 $ 0.18 (1)
Second quarter 27,267,023 9,154,028 609,003 0.18
Third quarter 26,645,951 8,897,944 338,428 0.10
Fourth quarter 26,875,308 9,265,105 551,253 0.16
------------ ----------- ------------ ------
Total $109,674,723 $37,072,173 $ 2,102,978 $ 0.62
============ =========== ============ ======
2001
----
First quarter $ 31,571,511 $ 9,815,888 $ 942,845 $ 0.28 (1)
Second quarter 28,220,925 9,413,031 855,029 0.25
Third quarter 26,350,670 7,650,377 (796,785) (0.24) (2)
Fourth quarter 26,859,981 9,184,036 431,616 0.13
------------ ----------- ------------ ------
Total $113,003,087 $36,063,332 $ 1,432,705 $ 0.42
============ =========== ============ ======
(1) Includes the impact on sales resulting from the Company's decision to
license the rights of its tackless carpet strip product to U.S. flooring
products distributors in May 2000. Sales of tackless carpet strip amounted
to approximately $2,957,000 predominantly made in the first quarter of
fiscal 2001. There were no sales of this product to these distributors in
fiscal 2002.
(2) Includes the impact of additional sales incentives offered by the Company
to one of its major customers, certain non-recurring charges related to the
Company's decision to relocate its California manufacturing facility to
Nevada and a downsizing of the Company's Holland subsidiary to improve
performance. In connection with these decisions, the Company expensed
approximately $2,000,000 of non-recurring charges in the third quarter of
fiscal 2001. The resultant effect on earnings per share was a reduction of
$0.37 after tax.
F-24
Q.E.P. CO., INC. AND SUBSIDIARIES
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
Column A Column B Column C Column D Column E
-------- -------- -------- -------- --------
Additions
------------------------
Balance at Charged to Charged to Balance at
beginning costs and other Deductions end
Description of period expenses accounts (a) of period
----------- --------- ---------- ---------- ---------- ----------
Year ended February 29, 2000
Deducted from asset accounts
Allowance for doubtful
accounts $381,628 $277,734 (b) 191,466 $110,290 $740,538
Year ended February 28, 2001
Deducted from asset accounts
Allowance for doubtful
accounts $740,538 $127,119 -- $205,831 $661,826
Year ended February 28, 2002
Deducted from asset accounts
Allowance for doubtful
accounts $661,826 $ 94,909 -- $335,129 $421,606
(a) Accounts written off as uncollectable, net of recoveries.
(b) Reserve associated with the Fiscal 2000 acquisitions at the date of
acquisition.
S-1