UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: October 4, 2003
Commission file number: 1-11908
Department 56, Inc. |
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(Exact name of registrant as specified in its charter) |
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Delaware |
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13-3684956 |
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(State or
other jurisdiction of |
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(I.R.S.
Employer |
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One Village Place, 6436 City West Parkway, Eden Prairie, MN 55344
(Address of principal executive offices)
(Zip Code)
(952) 944-5600
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes ý No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).
Yes ý No o
As of October 4, 2003, 13,161,161 shares of the registrants common stock, par value $.01 per share, were outstanding.
Item 1. Financial Statements
DEPARTMENT 56, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(In thousands)
|
|
OCTOBER 4, |
|
DECEMBER 28, |
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SEPTEMBER 28, |
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ASSETS |
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|
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CURRENT ASSETS: |
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|
|
|
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Cash and cash equivalents |
|
$ |
1,322 |
|
$ |
42,494 |
|
$ |
3,535 |
|
Accounts receivable, net |
|
91,205 |
|
32,620 |
|
95,521 |
|
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Inventories |
|
26,367 |
|
14,324 |
|
21,550 |
|
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Other current assets |
|
8,159 |
|
9,093 |
|
10,213 |
|
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Total current assets |
|
127,053 |
|
98,531 |
|
130,819 |
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|
|
|
|
|
|
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|
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PROPERTY AND EQUIPMENT, net |
|
18,893 |
|
20,908 |
|
21,519 |
|
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GOODWILL, TRADEMARKS AND OTHER, net |
|
59,883 |
|
60,061 |
|
60,118 |
|
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OTHER ASSETS |
|
2,589 |
|
1,825 |
|
2,165 |
|
|||
|
|
$ |
208,418 |
|
$ |
181,325 |
|
$ |
214,621 |
|
|
|
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LIABILITIES AND STOCKHOLDERS EQUITY |
|
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CURRENT LIABILITIES: |
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|
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Current portion of long-term debt |
|
$ |
22,000 |
|
$ |
2,235 |
|
$ |
2,235 |
|
Borrowings on revolving credit agreement |
|
41,000 |
|
|
|
36,000 |
|
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Accounts payable |
|
7,823 |
|
8,172 |
|
10,527 |
|
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Other current liabilities |
|
12,733 |
|
15,239 |
|
18,447 |
|
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Total current liabilities |
|
83,556 |
|
25,646 |
|
67,209 |
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|
|
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|
|
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|
|
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OTHER LIABILITIES |
|
2,433 |
|
1,358 |
|
1,602 |
|
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DEFERRED TAXES |
|
5,115 |
|
5,808 |
|
5,409 |
|
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LONG-TERM DEBT |
|
|
|
51,765 |
|
51,765 |
|
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STOCKHOLDERS EQUITY |
|
117,314 |
|
96,748 |
|
88,636 |
|
|||
|
|
$ |
208,418 |
|
$ |
181,325 |
|
$ |
214,621 |
|
See notes to condensed consolidated financial statements.
2
DEPARTMENT 56, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(In thousands, except per share amounts)
|
|
QUARTER ENDED |
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|
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OCTOBER 4, |
|
SEPTEMBER 28, |
|
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NET SALES |
|
$ |
54,642 |
|
$ |
58,562 |
|
COST OF SALES |
|
26,204 |
|
27,869 |
|
||
Gross profit |
|
28,438 |
|
30,693 |
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||
|
|
|
|
|
|
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OPERATING EXPENSES: |
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|
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Selling, general, and administrative |
|
15,019 |
|
15,577 |
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||
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|
|
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|
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INCOME FROM OPERATIONS |
|
13,419 |
|
15,116 |
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||
|
|
|
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|
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OTHER EXPENSE: |
|
|
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|
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Interest expense |
|
451 |
|
761 |
|
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Other, net |
|
37 |
|
233 |
|
||
|
|
|
|
|
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INCOME BEFORE INCOME TAXES |
|
12,931 |
|
14,122 |
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||
|
|
|
|
|
|
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INCOME TAX PROVISION |
|
4,655 |
|
5,084 |
|
||
|
|
|
|
|
|
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NET INCOME |
|
$ |
8,276 |
|
$ |
9,038 |
|
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|
|
|
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|
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NET INCOME PER SHARE BASIC |
|
$ |
0.63 |
|
$ |
0.69 |
|
|
|
|
|
|
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NET INCOME PER SHARE ASSUMING DILUTION |
|
$ |
0.62 |
|
$ |
0.69 |
|
|
|
|
|
|
|
||
WEIGHTED AVERAGE SHARES OUTSTANDING BASIC |
|
13,138 |
|
13,044 |
|
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WEIGHTED AVERAGE SHARES OUTSTANDING ASSUMING DILUTION |
|
13,294 |
|
13,181 |
|
See notes to condensed consolidated financial statements.
3
|
|
40 WEEKS |
|
39 WEEKS |
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NET SALES |
|
$ |
143,176 |
|
$ |
150,911 |
|
COST OF SALES |
|
65,952 |
|
68,126 |
|
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Gross profit |
|
77,224 |
|
82,785 |
|
||
|
|
|
|
|
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OPERATING EXPENSES: |
|
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|
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Selling, general, and administrative |
|
45,886 |
|
48,365 |
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||
|
|
|
|
|
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INCOME FROM OPERATIONS |
|
31,338 |
|
34,420 |
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||
|
|
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|
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OTHER EXPENSE (INCOME): |
|
|
|
|
|
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Interest expense |
|
1,404 |
|
2,657 |
|
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Litigation settlement |
|
|
|
(5,388 |
) |
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Other, net |
|
(615 |
) |
(21 |
) |
||
|
|
|
|
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INCOME BEFORE INCOME TAXES AND CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE |
|
30,549 |
|
37,172 |
|
||
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|
|
|
|
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INCOME TAX PROVISION |
|
10,998 |
|
13,382 |
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||
|
|
|
|
|
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INCOME BEFORE CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE |
|
19,551 |
|
23,790 |
|
||
|
|
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|
|
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CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE |
|
|
|
(93,654 |
) |
||
|
|
|
|
|
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NET INCOME (LOSS) |
|
$ |
19,551 |
|
$ |
(69,864 |
) |
|
|
|
|
|
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INCOME PER SHARE BEFORE CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE BASIC |
|
$ |
1.49 |
|
$ |
1.83 |
|
|
|
|
|
|
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CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE BASIC |
|
|
|
(7.22 |
) |
||
|
|
|
|
|
|
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NET INCOME (LOSS) PER SHARE BASIC |
|
$ |
1.49 |
|
$ |
(5.39 |
) |
|
|
|
|
|
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INCOME PER SHARE BEFORE CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE ASSUMING DILUTION |
|
$ |
1.48 |
|
$ |
1.81 |
|
|
|
|
|
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CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE ASSUMING DILUTION |
|
|
|
(7.13 |
) |
||
|
|
|
|
|
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NET INCOME (LOSS) PER SHARE ASSUMING DILUTION |
|
$ |
1.48 |
|
$ |
(5.32 |
) |
|
|
|
|
|
|
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WEIGHTED AVERAGE SHARES OUTSTANDING BASIC |
|
13,100 |
|
12,972 |
|
||
WEIGHTED AVERAGE SHARES OUTSTANDING ASSUMING DILUTION |
|
13,189 |
|
13,139 |
|
See notes to condensed consolidated financial statements.
4
DEPARTMENT 56, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
|
|
40 WEEKS |
|
39 WEEKS |
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|
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CASH FLOWS FROM OPERATING ACTIVITIES - |
|
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Net cash used in operating activities |
|
$ |
(49,325 |
) |
$ |
(55,005 |
) |
|
|
|
|
|
|
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CASH FLOWS FROM INVESTING ACTIVITIES: |
|
|
|
|
|
||
Purchases of property and equipment |
|
(1,577 |
) |
(1,337 |
) |
||
Litigation settlement reduction in net depreciable assets |
|
|
|
5,618 |
|
||
Net cash (used in) provided by investing activities |
|
(1,577 |
) |
4,281 |
|
||
|
|
|
|
|
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CASH FLOWS FROM FINANCING ACTIVITIES: |
|
|
|
|
|
||
Proceeds from the exercise of common stock options |
|
845 |
|
1,222 |
|
||
Payments for treasury stock |
|
(115 |
) |
(51 |
) |
||
Borrowings on revolving credit agreement |
|
41,000 |
|
36,000 |
|
||
Principal payments on long-term debt |
|
(32,000 |
) |
(31,000 |
) |
||
Net cash provided by financing activities |
|
9,730 |
|
6,171 |
|
||
|
|
|
|
|
|
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NET DECREASE IN CASH AND CASH EQUIVALENTS |
|
(41,172 |
) |
(44,553 |
) |
||
|
|
|
|
|
|
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CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD |
|
42,494 |
|
48,088 |
|
||
|
|
|
|
|
|
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CASH AND CASH EQUIVALENTS AT END OF PERIOD |
|
$ |
1,322 |
|
$ |
3,535 |
|
|
|
|
|
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|
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SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION - |
|
|
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|
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Cash paid for: |
|
|
|
|
|
||
Interest |
|
$ |
1,193 |
|
$ |
2,974 |
|
Income taxes |
|
9,433 |
|
13,356 |
|
See notes to condensed consolidated financial statements.
5
DEPARTMENT 56, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share amounts)
1. Basis of Presentation
The accompanying condensed consolidated balance sheet as of December 28, 2002 was derived from the audited consolidated balances as of that date. The remaining accompanying condensed consolidated financial statements are unaudited and, in the opinion of management, include all adjustments necessary for a fair presentation.
The results of operations for the quarter and 40 weeks ended October 4, 2003 are not necessarily indicative of the results for the full fiscal year. It is suggested that these financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the 2002 Annual Report to Stockholders and Annual Report on Form 10-K as filed by Department 56, Inc. (the Company) with the Securities and Exchange Commission.
Reclassifications Certain reclassifications were made to the fiscal 2002 consolidated financial statements in order to conform to the presentation of the fiscal 2003 consolidated financial statements. These reclassifications had no impact on consolidated net income or retained earnings as previously reported.
2. Income per Common Share
Net income per common share is calculated by dividing net income by the weighted average number of shares outstanding during the period. Net income per common share assuming dilution reflects per share amounts that would have resulted had the Companys outstanding stock options been converted to common stock.
3. Legal Proceedings
Reference is made to Item 3, Legal Proceedings, of the Companys Annual Report on Form 10-K for the fiscal year ended December 28, 2002, which Item is incorporated herein in its entirety. On March 1, 2002, the Company received net proceeds (before income taxes) of $11.0 million in settlement of the Companys litigation against Arthur Andersen LLP and Andersen Worldwide Société Coopérative concerning implementation of its information systems. This recovery resulted in other income of $5.4 million and a $5.6 million reduction in net depreciable assets.
6
4. Stock-Based Compensation
The Company accounts for its stock option plans using the intrinsic value method and has adopted the disclosure only provisions of Statement of Financial Accounting Standards (SFAS) No. 123, as amended by SFAS No. 148, Accounting for Stock-Based Compensation Transition and Disclosure. Accordingly, no compensation cost has been recognized for stock options granted. Had compensation cost been determined based upon fair value (using the Black-Scholes option-pricing method) at the grant date for awards under these plans, the Companys net earnings and earnings per share would have been reduced as follows:
(In thousands, except per share amounts) |
|
|
|
40 WEEKS |
|
39 WEEKS |
|
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OCTOBER 4, |
|
SEPTEMBER 28, |
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Net income (loss): |
|
|
|
|
|
|
|
|
|
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As reported |
|
$ |
8,276 |
|
$ |
9,038 |
|
$ |
19,551 |
|
$ |
(69,864 |
) |
Stock-based compensation, net of related tax effects |
|
(379 |
) |
(795 |
) |
(1,522 |
) |
(1,959 |
) |
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Pro forma |
|
7,897 |
|
8,243 |
|
18,029 |
|
(71,823 |
) |
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|
|
|
|
|
|
|
|
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|
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Net income (loss) per common share basic: |
|
|
|
|
|
|
|
|
|
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As reported |
|
$ |
0.63 |
|
$ |
0.69 |
|
$ |
1.49 |
|
$ |
(5.39 |
) |
Stock-based compensation, net of related tax effects |
|
(0.03 |
) |
(0.06 |
) |
(0.12 |
) |
(0.15 |
) |
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Pro forma |
|
0.60 |
|
0.63 |
|
1.37 |
|
(5.54 |
) |
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|
|
|
|
|
|
|
|
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|
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Net income (loss) per common share assuming dilution: |
|
|
|
|
|
|
|
|
|
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As reported |
|
$ |
0.62 |
|
$ |
0.69 |
|
$ |
1.48 |
|
$ |
(5.32 |
) |
Stock-based compensation, net of related tax effects |
|
(0.03 |
) |
(0.06 |
) |
(0.12 |
) |
(0.15 |
) |
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Pro forma |
|
0.59 |
|
0.63 |
|
1.36 |
|
(5.47 |
) |
5. Other Assets and Other Liabilities
The Company has a compensation plan for its officers and Board of Directors whereby participants may elect to forego a portion of their current compensation in exchange for options to purchase shares from several publicly traded mutual funds. The Company funds this plan by purchasing and owning the underlying assets which are considered trading securities in accordance with SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities, and are consequently marked-to-market. The plan participants bear the potential economic risks and rewards of the underlying investments performance and their interests in the underlying plan assets are subordinate to general creditors. While officers and Board members may request payment at any time, the liability is classified as non-current as supported by historical experience and because any payment would be funded by non-current assets. The assets of the plan (included in other assets on the balance sheet) and the related liability to participants (included in other liabilities on the balance sheet) were $1,602 and $2,433 as of September 28, 2002 and October 4, 2003, respectively.
7
6. Segments of the Company and Related Information
The Company has two reportable segments wholesale and retail. Although the product produced and sold for each segment is similar, the type of customer for the product and the method used to distribute the product are different. The segmentation of these operations also reflects how the Companys chief executive officer (the CEO) currently reviews the results of these operations. Income from operations for each operating segment includes specifically identifiable operating costs such as cost of sales and selling expenses. General and administrative expenses are generally not allocated to specific operating segments and are therefore reflected in the other category. Other components of the statement of operations which are classified below income from operations are also not allocated by segment. In addition, the Company does not account for or report assets, capital expenditures or depreciation and amortization by segment. All transactions between operating segments have been eliminated and are not included in the following table.
(In thousands) |
|
|
|
40 WEEKS |
|
39 WEEKS |
|
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OCTOBER 4, |
|
SEPTEMBER 28, |
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WHOLESALE: |
|
|
|
|
|
|
|
|
|
||||
Net sales |
|
$ |
52,829 |
|
$ |
56,916 |
|
$ |
133,401 |
|
$ |
142,909 |
|
Income from operations |
|
23,242 |
|
25,629 |
|
60,027 |
|
65,209 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
RETAIL: |
|
|
|
|
|
|
|
|
|
||||
Net sales |
|
$ |
1,813 |
|
$ |
1,646 |
|
$ |
9,775 |
|
$ |
8,002 |
|
Loss from operations |
|
(1,199 |
) |
(2,012 |
) |
(4,769 |
) |
(4,807 |
) |
||||
|
|
|
|
|
|
|
|
|
|
||||
OTHER - |
|
|
|
|
|
|
|
|
|
||||
Loss from operations |
|
$ |
(8,624 |
) |
$ |
(8,501 |
) |
$ |
(23,920 |
) |
$ |
(25,982 |
) |
|
|
|
|
|
|
|
|
|
|
||||
CONSOLIDATED: |
|
|
|
|
|
|
|
|
|
||||
Net sales |
|
$ |
54,642 |
|
$ |
58,562 |
|
$ |
143,176 |
|
$ |
150,911 |
|
Income from operations |
|
13,419 |
|
15,116 |
|
31,338 |
|
34,420 |
|
7. Goodwill and Indefinite Lived Intangible Assets
Effective at the beginning of fiscal year 2002, the Company adopted SFAS No. 142, Goodwill and Other Intangible Assets. Upon adoption of SFAS No. 142, amortization of goodwill and indefinite-lived intangible assets ceased. The Company determined that its trademarks were indefinite-lived intangible assets and ceased amortization. The Companys goodwill is principally assigned to its wholesale operating segment, with $7,912 relating to the retail operating segment. Recorded goodwill was tested for impairment by comparing the fair value to its carrying value. Fair value was determined by considering discounted cash flow methodologies, industry control premiums in the marketplace and private transaction financial models. Independent and other market valuation methods were used to determine the fair value of the Companys trademarks and other assets. As a result of the fair market value analysis, the Company recorded a $93,654 charge as a cumulative effect of change in accounting principle during the first quarter of 2002.
8
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
RESULTS OF OPERATIONS
|
|
QUARTER
ENDED |
|
QUARTER
ENDED |
|
||||||
(In millions) |
|
Dollars |
|
% of |
|
Dollars |
|
% of |
|
||
|
|
|
|
|
|
|
|
|
|
||
Net sales |
|
$ |
54.6 |
|
100 |
% |
$ |
58.6 |
|
100 |
% |
|
|
|
|
|
|
|
|
|
|
||
Gross profit |
|
28.4 |
|
52 |
|
30.7 |
|
52 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Selling, general, and administrative expenses |
|
15.0 |
|
27 |
|
15.6 |
|
27 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Income from operations |
|
13.4 |
|
25 |
|
15.1 |
|
26 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Interest expense |
|
0.5 |
|
1 |
|
0.8 |
|
1 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Other, net |
|
|
|
|
|
0.2 |
|
|
|
||
|
|
|
|
|
|
|
|
|
|
||
Income before income taxes |
|
12.9 |
|
24 |
|
14.1 |
|
24 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Income tax provision |
|
4.7 |
|
9 |
|
5.1 |
|
9 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Net income |
|
8.3 |
|
15 |
|
9.0 |
|
15 |
|
||
9
Net Sales
Net sales decreased $3.9 million, or 7%, from $58.6 million in 2002 to $54.6 in 2003. The decrease in sales was principally due to a decrease in wholesale sales to independent gift retailers (wholesale customers).
Wholesale sales decreased $4.1 million, or 7%, from $56.9 million in 2002 to $52.8 million in 2003. The decrease in wholesale sales was principally due to a cautious approach to ordering by the Companys independent gift retailers due to an uncertain economic environment as well as a continued erosion of the Companys collectible account base as well as an increase in the provision for sales returns and credits as a result of the $1.0 million reduction taken in the third quarter of 2002. Wholesale sales of the Companys Village Series products of $23.4 million decreased $7.7 million, or 25%, while sales of General Giftware products increased $3.6 million, or 14% between the two periods. Village Series products represented 44% of the Companys sales during 2003 versus 55% during 2002.
Retail sales increased $0.2 million, or 10%, from $1.6 million in 2002 to $1.8 million in 2003. The Companys retail business is comprised of its Department 56 branded year-round stores, seasonal stores operating under the name Holidays by Department 56, seasonally-operated kiosks operating under the GeppeddoÒ brand and the Companys direct sales division operating under the name Time to Celebrate. The increase in retail sales was principally due to the opening of the Companys fourth year-round store in September 2003 and an increase in Time to Celebrate sales (as the business started operations in the fourth quarter of 2002). The Companys year-round retail stores posted a 5% same store sales decrease between the two periods and are up 2% year-to-date. The Companys retail operations historically generate losses in the first three quarters of the Companys fiscal year and income from operations during the fourth quarter.
Gross Profit
Gross profit as a percentage of net sales was 52% in both the third quarter of 2002 and 2003. The decrease in the gross profit percentage from the shift in the mix of wholesale product toward the General Giftware product lines and the increase in the provision for sales returns and credits was offset by a lower provision for excess and slow moving inventory as a result of the Companys tightened wholesale inventory management.
Selling, General and Administrative Expenses
Selling, general and administrative expenses decreased $0.6 million, or 4%, between 2002 and 2003. Selling, general and administrative expenses as a percentage of net sales were 27% in 2002 and 2003. The decrease in selling, general and administrative expenses in 2003 compared to 2002 is principally due to lower commissions as a result of lower wholesale sales, and corporate-level cost reductions.
10
Interest Expense
Interest expense decreased $0.3 million, or 38%, between 2002 and 2003 principally due to decreased interest rates paid by the Company and a decrease in the amount of term debt outstanding. The Company pre-paid $30 million of its term debt in March 2003.
Provision for Income Taxes
The effective income tax rate was 36% during the third quarter of 2002 and the third quarter of 2003.
RESULTS OF OPERATIONS
|
|
40 WEEKS
ENDED |
|
39 WEEKS
ENDED |
|
||||||
(In millions) |
|
Dollars |
|
% of |
|
Dollars |
|
% of |
|
||
|
|
|
|
|
|
|
|
|
|
||
Net sales |
|
$ |
143.2 |
|
100 |
% |
$ |
150.9 |
|
100 |
% |
|
|
|
|
|
|
|
|
|
|
||
Gross profit |
|
77.2 |
|
54 |
|
82.8 |
|
55 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Selling, general, and administrative expenses |
|
45.9 |
|
32 |
|
48.4 |
|
32 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Income from operations |
|
31.3 |
|
22 |
|
34.4 |
|
23 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Interest expense |
|
1.4 |
|
1 |
|
2.7 |
|
2 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Litigation settlement |
|
|
|
|
|
(5.4 |
) |
4 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Other, net |
|
(0.6 |
) |
|
|
|
|
|
|
||
|
|
|
|
|
|
|
|
|
|
||
Income before income taxes and cumulative effect of change in accounting principle |
|
30.5 |
|
21 |
|
37.2 |
|
25 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Income tax provision |
|
11.0 |
|
8 |
|
13.4 |
|
9 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Income before cumulative effect of change in accounting principle |
|
19.6 |
|
14 |
|
23.8 |
|
16 |
|
||
|
|
|
|
|
|
|
|
|
|
||
Cumulative effect of change in accounting principle |
|
|
|
|
|
(93.7 |
) |
N/A |
|
||
|
|
|
|
|
|
|
|
|
|
||
Net income (loss) |
|
19.6 |
|
14 |
|
(69.9 |
) |
N/A |
|
||
11
Net Sales
Net sales decreased $7.7 million, or 5%, from $150.9 million in 2002 to $143.2 in 2003. The decrease in sales was principally due to a decrease in wholesale sales to independent gift retailers (wholesale customers).
Wholesale sales decreased $9.5 million, or 7%, from $142.9 million in 2002 to $133.4 million in 2003. The decrease in wholesale sales was principally due to a cautious approach to ordering by the Companys independent gift retailers due to an uncertain economic environment as well as a continued erosion of the Companys collectible account base. Wholesale sales of the Companys Village Series products of $68.8 million decreased $14.5 million, or 17%, while sales of General Giftware products increased $5.0 million, or 8% between the two periods. Village Series products represented 52% of the Companys sales during 2003 versus 58% during 2002.
Retail sales increased $1.8 million, or 22%, from $8.0 million in 2002 to $9.8 million in 2003. The Companys retail business is comprised of its Department 56 branded year-round stores, seasonal stores operating under the name Holidays by Department 56, seasonally-operated kiosks operating under the Geppeddo brand and the Companys direct sales division operating under the name Time to Celebrate. The increase in retail revenues was primarily driven by an increase in the number of kiosk locations as well as an increase in average sales per location for the seasonal kiosks during the first quarter of 2003. During January 2003, the Company operated 417 seasonal kiosks compared to 359 seasonal kiosks operated in January 2002 and average sales per location for the seasonal kiosks increased 9%. The Companys year-round retail stores posted a same store sales increase of 2% during the nine months ended October 4, 2003. The Companys retail operations historically generate losses in the first three quarters of the Companys fiscal year and income from operations during the fourth quarter.
Gross Profit
Gross profit as a percentage of net sales was 55% and 54% in 2002 and 2003, respectively. The decrease in the gross profit percentage was principally due to the highly promotional retail environment that resulted in lower gross margins within the seasonal store and kiosk components of the Companys retail business during the first quarter of 2003 as well as a shift in the mix of wholesale product shipments. Management anticipates that fiscal year 2003 gross margins will be approximately 1 to 1 ½ percentage points lower than fiscal year 2002 gross margins principally due to the reasons explained above.
Selling, General and Administrative Expenses
Selling, general and administrative expenses decreased $2.5 million, or 5%, between 2002 and 2003. Selling, general and administrative expenses as a percentage of net sales were 32% in both 2002 and 2003. The decrease in selling, general and administrative expenses as a percentage of net sales in 2003 compared to 2002 is principally due to lower commissions as a result of lower wholesale sales, and corporate-level cost reductions.
12
Interest Expense
Interest expense decreased $1.3 million, or 48%, between 2002 and 2003 principally due to decreased interest rates paid by the Company and a decrease in the amount of term debt outstanding. The Company pre-paid $30 million of its term debt in March 2003.
Litigation Settlement
On March 1, 2002, the Company received net proceeds (before income taxes) of $11.0 million in settlement of the Companys litigation against Arthur Andersen LLP and Andersen Worldwide Société Coopérative concerning implementation of its information systems. This recovery resulted in other income of $5.4 million and a $5.6 million reduction in net depreciable assets.
Provision for Income Taxes
The effective income tax rate was 36% during the 39 weeks ended September 28, 2002 and the 40 weeks ended October 4, 2003.
Cumulative Effect of Change in Accounting Principle
The Company adopted SFAS No. 142, Goodwill and Other Intangible Assets, effective December 30, 2001. Under SFAS No. 142, goodwill and indefinite-lived intangible assets are no longer amortized, but are reviewed for impairment annually, or more frequently if certain indicators arise. With the adoption of this statement, the Company ceased amortization of its goodwill and indefinite-lived trademarks as of December 30, 2001 and recorded a $93.7 million charge to write-down its goodwill related to the leveraged buyout of the Company in 1992.
13
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities decreased $5.7 million from $55.0 million in 2002 to $49.3 million in 2003 principally due to increased cash collections as a result of higher receivable balances at the end of 2002 and lower interest and income tax payments during 2003. However, this decrease was partially offset by the $5.4 million in other income recorded in 2002 as a result of the litigation settlement as well as higher inventory purchases in 2003.
Consistent with customary practice in the giftware industry, the Company offers extended accounts receivable terms to many of its wholesale customers. This practice has typically created significant working capital requirements in the second and third quarters which the Company has generally financed with internally generated cash flow and seasonal borrowings. The Companys cash and cash equivalents balances peak early in the first quarter of the subsequent year, following the collection of wholesale customer accounts receivable with extended payment terms and cash receipts from the Companys retail operations.
Accounts receivable, net of reserves, which principally consists of wholesale trade receivables, decreased from $95.5 million at September 28, 2002 to $91.2 million at October 4, 2003. Accounts receivable decreased principally due to reduced wholesale sales.
Inventories increased from $21.6 million at September 28, 2002 to $26.4 million at October 4, 2003. The increase is principally due to the timing of product shipments from overseas vendors for the Companys wholesale segment. Management anticipates that wholesale segment inventories at year-end 2003 will approximate 2002 year-end levels.
Capital expenditures for the third quarter and first nine months of 2003 were $0.7 million and $1.6 million, respectively, compared to $0.5 million and $1.3 million during the third quarter and first nine months of 2002. For 2003, management expects total capital expenditures to be approximately $3.0 to $3.5 million. During September 2003, the Company opened its fourth year-round store at The Florida Mall in Orlando and in October 2003 opened its fifth year-round store at Water Tower Place in Chicago.
The Companys credit agreement provides for a revolving credit facility and a term loan facility. The revolving credit facility provides for borrowings of up to $100 million including letters of credit. The letters of credit are issued primarily in connection with inventory purchases. The credit agreement contains numerous financial and operating covenants, including restrictions on incurring indebtedness and liens, selling property and paying dividends. In addition, the Company is required to satisfy consolidated net worth, interest coverage ratio and leverage ratio tests, in each case at the end of each fiscal quarter. None of these restrictions are expected to have a material adverse effect on the Companys ability to operate in the future.
As of October 4, 2003, the total term debt outstanding was $22 million which comes due in March 2004. The Company is currently negotiating a new credit agreement to replace its current credit agreement which expires March 19, 2004. The Company believes that its internally generated cash flow and seasonal borrowings under the revolving credit facility and replacement credit agreement will be adequate to fund operations and capital expenditures.
14
WHOLESALE CREDIT AND RETURN POLICIES
The Company has credit policies that establish specific criteria related to credit worthiness that its customers must meet prior to the shipment of product to the customer. The Company periodically makes limited and selective exceptions to its policy of not shipping to customers with overdue balances when the particular customer has met specific criteria which are indicative of a wherewithal to pay their past due and future balances.
The Company does not accept returns from wholesale customers without its prior authorization. Returns are typically accepted only for damaged or defective goods, or for pricing or shipping discrepancies. The Company reserves the right to refuse authorization of any returns and to discard any unauthorized returns. If the Company accepts an unauthorized return or if a return is the result of a customer error, the wholesale customer may be subject to a 20% handling charge. The Company reserves the right to cancel open orders or backorders for those wholesale customers who abuse or excessively use return privileges.
CRITICAL ACCOUNTING POLICIES
The following are the accounting policies that management believes require the most difficult, subjective or complex judgments about matters that are inherently uncertain.
Sales Returns and Credits An allowance is established for credits related to possible returned or damaged product. The amount of the allowance is based on historical ratios of credits to sales, the historical average length of time between the sale and the credit, and other factors. Changes in customers behavior versus historical experience, changes in product damage or defect rates, or changes in the Companys return policies are among the factors that would result in materially different amounts for this item. In 2002, sales returns and credits as a percentage of wholesale sales were approximately 3%. Historically, sales returns and credits as a percentage of wholesale sales have been between 3% and 5%. The Company provided $0.8 million and $1.7 million for sales returns and credits in the third quarter of 2002 and 2003, respectively. During the third quarter of 2002, the Company reduced its provision for sales returns and credits by $1.0 million reflecting lower levels of credits for product damages and returns. For the thirty nine weeks ended September 28, 2002 and the forty weeks ended October 4, 2003, the Company provided $2.8 million and $3.5 million, respectively.
Inventory Valuation Inventory is written down for estimated surplus and discontinued inventory items. The amount is determined by analyzing historical and projected sales information, plans for discontinued products and other factors. The Company procures product based on forecasted sales volume. If actual sales were significantly lower than forecasted sales due to unexpected economic or competitive conditions, it could result in materially higher surplus and discontinued inventories.
Allowance for Doubtful Accounts An allowance is established for estimated uncollectible accounts receivable. The required allowance is determined by reviewing customer accounts and making estimates of amounts that may be uncollectible. Factors considered in determining the amount of the reserve include the age of the receivable, the financial condition of the customer, general business, economic and political conditions, and other relevant facts and circumstances. Additionally, since the majority of the Companys wholesale sales have dating terms which come
15
due in November and December, the Company does not have visibility into overdue balances for most of its wholesale customers until the fourth quarter of its fiscal year. Unexpected changes in the aforementioned factors would result in materially different amounts for this item. In addition, results could be materially different if economic conditions worsened for the Companys customers.
FOREIGN EXCHANGE
Approximately 97% of the Companys sales in 2002 were denominated in United States dollars and, as a result, were not subject to changes in exchange rates. Approximately 3% of the Companys sales were denominated in foreign currencies that were subject to changes in exchange rates.
The Company imports more than 90% of its product from manufacturers located in the Pacific Rim, principally China. Although the Company generally pays for its product in United States dollars, the cost of such product may fluctuate with the value of the Chinese currency because the purchase price paid to the Companys vendors in United States dollars would be worth more or less in the Chinese currency. As a result, the Companys costs could be adversely affected if the Chinese currency appreciates significantly relative to the United States dollar. Conversely, its costs could be favorably affected if the Chinese currency depreciates significantly relative to the United States dollar. In addition, the Company purchased less than 2% of its product from Taiwan (Republic of China) in 2002. These purchases were denominated in New Taiwan Dollars and were subject to changes in exchange rates.
The Company, from time to time, will enter into foreign exchange contracts or build foreign currency deposits as a partial hedge against currency fluctuations. The Company intends to manage foreign exchange risks to the extent possible and take appropriate action where warranted. The Company did not enter into any foreign exchange contracts nor have any foreign exchange contracts outstanding in 2002 and 2003.
EFFECT OF INFLATION
The Company continually attempts to minimize any effect of inflation on earnings by controlling its operating costs and selling prices. During the past few years, the rate of inflation has been low and has not had a material impact on the Companys results of operations.
RESTRICTION ON IMPORTS
The Company does not own or operate any manufacturing facilities and imports most of its products from manufacturers in the Pacific Rim, primarily the Peoples Republic of China and the Philippines. The Company also imports a small percentage of its products from sources in India and Europe.
The Companys ability to import products and thereby satisfy customer orders is affected by the availability of, and demands for, quality production capacity abroad. The Company competes with other importers of specialty giftware products for the limited number of foreign manufacturing sources that can produce detailed, high-quality products at affordable prices. Foreign manufacturing and procurement of imports is subject to the following inherent risks: fluctuations in currency exchange rates; labor, economic and political instability; cost and capacity fluctuations and delays in
16
transportation, dockage and materials handling; restrictive actions by governments; nationalizations; the laws and policies of the U.S. affecting importation of goods (including duties, quota and taxes); natural disasters such as hurricanes and epidemics; terrorist activities and international political/military developments; and foreign trade and tax laws. The Companys costs could be adversely affected if the currencies of other countries in which the Company sources product appreciate significantly relative to the U.S. dollar. Moreover, the Company cannot predict what relevant political, legal or regulatory changes may occur, or the type or amount of any financial impact on the Company such changes may have in the future.
The Companys products are subject to customs duties and regulations pertaining to the importation of goods, including requirements for the marking of certain information regarding the country of origin on the Companys products. In its ordinary course of business, the Company may be involved in disputes with the U.S. Customs Service regarding the amount of duty to be paid, the value of merchandise to be reported or other customs regulations with respect to certain of the Companys imports, which may result in the payment of additional duties and/or penalties, or which may result in the refund of duties to the Company. Since the terrorist attacks of September 11, 2001, the U.S. Customs Service has enacted various security protocols affecting the importation of goods. Such protocols can adversely affect the speed or cost involved in the Companys receipt of inventory from its overseas vendors.
In fiscal 2002, approximately 90% of the Companys imports were manufactured in The Peoples Republic of China (China), and the Company anticipates that such percentage will hold constant or increase for the foreseeable future. China has joined the World Trade Organization and been accorded permanent Normal Trade Relations status by the U.S. government. However, various commercial and legal practices widespread in China, including the handling of intellectual properties and certain labor practices, as well as certain political and military actions taken or suggested by China, are under review by the U.S. government. China, moreover, has been designated a Country of Particular Concern (CPC) pursuant to the International Religious Freedom Act of 1998 (IRFA). The IRFA enumerates several specific retaliatory actions which may be taken by the U.S. government; none of which the Company believes would have a material impact on its business. The IRFA, however, also accords the President broad discretion in fashioning other or additional actions and, due to the breadth of the Presidential powers under the IRFA, the Company is unable to predict what, if any, action the President could take in the future.
Accordingly, the ability to continue to conduct business with vendors located in China is subject to political uncertainties, the financial impact of which the Company is unable to estimate. To the extent China may have its exports or transaction of business with U.S. persons subject to political retaliation, the cost of Chinese imports could increase significantly and/or the ability to import goods from China may be materially impaired. In such an event, there could be an adverse effect on the Company until alternative arrangements for the manufacture of its products were obtained on economic, production and operational terms at least as favorable as those currently in effect.
17
SEASONALITY AND WHOLESALE CUSTOMER ORDERS
Wholesale Customer Orders Entered (1)
(In millions)
|
|
1st |
|
2nd |
|
3rd |
|
4th |
|
Total |
|
|||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||
2001 |
|
$ |
110 |
|
$ |
47 |
|
$ |
20 |
|
$ |
1 |
|
$ |
177 |
|
2002 |
|
114 |
|
42 |
|
20 |
|
2 |
|
178 |
|
|||||
2003 |
|
104 |
|
34 |
|
22 |
|
|
|
|
|
|||||
(1) Customer orders entered are orders received and approved by the Company, net of any cancellation for various reasons including credit considerations, inventory shortages, and customer requests. Wholesale customer orders entered exclude orders from company-operated retail stores.
Wholesale customer orders decreased $15.5 million, or 9%, from $176.0 million to $160.5 million through the third quarter of 2002 and 2003, respectively. The decrease in wholesale customer orders was principally due to a cautious approach to ordering by the Companys independent gift retailers due to an uncertain economic environment as well as a continued erosion of the Companys collectible account base. Net wholesale customer orders entered for Village Series products decreased 19% through the third quarter of 2003, while net wholesale customer orders entered for General Giftware products increased 5%.
Historically, due to the timing of wholesale trade shows early in the calendar year, the Company has received the majority of its total annual wholesale customer orders during the first quarter of each year. Changes in the Companys ordering and shipping programs and its sales force organization, together with customers growing recognition of the Companys enhanced ability to receive and fulfill orders throughout the year and increased customer reluctance to commit early at high order levels due largely to general economic uncertainty, have been the principal factors in gradually shifting the seasonality of order input towards later in the year. Thus, the Company entered 68% of its total net annual wholesale customer orders for 2000 during the first quarter of that year; by comparison, first quarter wholesale orders for 2001 and 2002 averaged 63% of the total net annual wholesale order input. Cancellations of total annual wholesale customer orders were approximately 8% and 7% in 2001 and 2002, respectively. Orders not shipped in a particular year, net of cancellations, are carried into backlog for the following year and have historically been orders for Spring and Easter products. The Companys backlog of wholesale customer orders was $40.1 million and $34.2 million at September 28, 2002 and October 4, 2003, respectively.
The Company receives products, pays its suppliers and ships products throughout the year, although historically the majority of wholesale shipments occur in the second and third quarters as retailers stock merchandise in anticipation of the holiday season. As a result of this seasonal pattern, the Company generally records its highest wholesale sales during the second and third quarters of each year. However, the Company can experience fluctuations in quarterly wholesale sales and related net income compared with the prior year due to the timing of receipt of product from suppliers and subsequent shipment of product from the Company to wholesale customers, as well as the timing of orders placed by wholesale customers. In addition, the Company recognizes the majority of its retail sales in the fourth quarter during the peak holiday shopping season. The
18
Company is not managed to maximize quarter-to-quarter results, but rather to achieve annual objectives designed to achieve long-term growth consistent with the Companys business strategy.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
There has been no significant change in the Companys exposure to market risk since year end. The Companys risk is limited to interest rate risk associated with credit instruments and foreign currency exchange rate risk.
Item 4. Controls and Procedures
Prior to the filing date of this quarterly report, an evaluation was carried out under the supervision and with the participation of the Companys management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Companys disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this quarterly report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that those disclosure controls and procedures were effective to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act are recorded, processed, summarized and reported within the time periods specified in the Commissions rules and forms.
There has been no change in the Companys internal control over financial reporting (as defined in Rules 13a-15 and 15d-15 under the Securities Exchange Act of 1934) during the third fiscal quarter of 2003 that has materially affected, or is reasonably likely to materially affect, the Companys internal control over financial reporting.
19
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Reference is made to Item 3, Legal Proceedings, of the Companys Annual Report on Form 10-K for the fiscal year ended December 28, 2002, which Item is incorporated herein in its entirety. On March 1, 2002, the Company received net proceeds (before income taxes) of $11.0 million in settlement of the Companys litigation against Arthur Andersen LLP and Andersen Worldwide Société Coopérative concerning implementation of its information systems. This recovery resulted in other income of $5.4 million and a $5.6 million reduction in net depreciable assets.
Notes concerning forward-looking statements:
Any conclusions or expectations expressed in, or drawn from, the statements in this filing concerning matters that are not historical corporate financial results are forward-looking statements that involve risks and uncertainties. These statements are based on managements estimates, assumptions and projections as of today and are not guarantees of future performance. Actual results may vary materially from forward-looking statements and the assumptions on which they are based. The Company undertakes no obligation to update or publish in the future any forward-looking statements. Please read the bases, assumptions and factors set out in Item 7 in the Companys Form 10-K for 2002 dated March 17, 2003 and filed under the Securities Exchange Act of 1934, all of which is incorporated herein by reference and applicable to the forward-looking statements set forth herein.
20
Item 6. Exhibits and Reports on Form 8-K
|
(a) |
The following documents are exhibits to this Report. |
|
|
|
|
|
|
|
11.1 |
Computation of net income (loss) per share |
|
|
|
|
|
|
31.1 |
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
|
|
|
|
31.2 |
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
|
|
|
|
32.1 |
Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350 |
|
|
|
|
|
|
32.2 |
Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350 |
|
|
|
|
|
(b) |
Reports on Form 8-K. |
|
|
|
|
|
|
|
The Company filed the following Current Reports on Form 8-K during the third quarter of 2003: |
|
|
|
|
|
|
|
Form 8-K dated July 31, 2003 containing a Company press release and financial statements. |
21
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
|
DEPARTMENT 56, INC. |
|
|
|
|
|
|
|
Date: November 17, 2003 |
/s/ Susan E. Engel |
|
|
Susan E. Engel |
|
|
Chairwoman of the Board and Chief Executive Officer |
|
|
(Principal Executive Officer) |
|
|
|
|
|
|
|
Date: November 17, 2003 |
/s/ Timothy J. Schugel |
|
|
Timothy J. Schugel |
|
|
Chief Financial Officer and Executive Vice President |
|
|
(Principal Financial Officer) |
22
EXHIBIT INDEX
Exhibit |
|
Exhibit |
|
|
|
11.1 |
|
Computation of net income (loss) per share |
|
|
|
31.1 |
|
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
|
31.2 |
|
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
|
32.1 |
|
Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350 |
|
|
|
32.2 |
|
Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350 |
23