UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC  20549

 

FORM 10-Q

 

ý		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2004
o		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 333-110441

 

THE SHERIDAN GROUP, INC.

(Exact name of registrant as specified in its charter)

 

 

410-785-7277

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes  o  No  ý

 

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes o  No  ý

 

Indicate the number of shares outstanding of each of the Registrant’s classes of common stock, as of the latest practicable date.

 

There was 1 share of Common Stock outstanding as of November 12, 2004.

 

 

The Sheridan Group, Inc. and Subsidiaries

Quarterly Report

For the Quarter Ended September 30, 2004

 

INDEX

 

PART I – FINANCIAL INFORMATION
Item 1.	Financial Statements:
	Consolidated Balance Sheets at September 30, 2004 (unaudited) and December 31, 2003
	Consolidated Statements of  Income for the three and nine months ended September 30, 2004 (unaudited) and the one-month and eleven-days ended September 30, 2003 (unaudited) and the one-month and twenty-days ended August 20, 2003 (unaudited) and the seven-months and twenty-days ended August 20, 2003
	Consolidated Statements of Cash Flows for the nine months ended September 30, 2004 (unaudited) and the one-month and eleven-days ended September 30, 2003 (unaudited) and the seven-months and twenty-days ended August 20, 2003
	Notes to Consolidated Interim Financial Statements (unaudited)
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.	Quantitative and Qualitative Disclosures About Market Risk
Item 4.	Controls and Procedures
PART II – OTHER INFORMATION
Item 1.	Legal Proceedings
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds
Item 3.	Defaults Upon Senior Securities
Item 4.	Submission of Matters to a Vote of Security Holders
Item 5.	Other Information
Item 6.	Exhibits
SIGNATURES
EXHIBIT INDEX

 

2

 

PART I – FINANCIAL INFORMATION

 

Item 1.  Financial Statements.

 

THE SHERIDAN GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

 

		September 30, 2004			December 31, 2003
		(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents		$	393,017		$	9,917,752
Accounts receivable, net		34,844,678			25,156,695
Inventories		20,981,807			5,993,361
Other current assets		5,971,624			3,761,439
Refundable income taxes		918,818			95,221
Assets held for sale		1,353,688			—
Total current assets		64,463,632			44,924,468
Property, plant and equipment, net		111,870,198			57,277,009
Intangibles, net		48,714,163			46,440,867
Goodwill		48,132,948			44,641,054
Deferred financing costs, net		8,766,922			6,426,628
Other assets		3,710,270			2,777,817
Total assets		$	285,658,133		$	202,487,843
LIABILITIES
Current liabilities:
Accounts payable		$	14,804,818		$	8,677,022
Accrued expenses		20,479,953			16,369,213
Total current liabilities		35,284,771			25,046,235
Notes payable		169,406,190			103,641,351
Deferred income taxes and other liabilities		26,788,437			26,040,044
Total liabilities		231,479,398			154,727,630
STOCKHOLDERS’ EQUITY
Common stock ($0.01 par value)		—			—
Additional paid-in capital		50,975,000			47,000,000
Retained earnings		3,203,735			760,213
Total stockholders’ equity		54,178,735			47,760,213
Total liabilities and stockholders’ equity		$	285,658,133		$	202,487,843

 

See Accompanying Notes to the Consolidated Interim Financial Statements

 

3

 

THE SHERIDAN GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(unaudited)

 

		Three Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			One Month and Twenty-Days Ended August 20, 2003			Nine Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			Seven Months and Twenty-Days Ended August 20, 2003
		(Successor Company)			(Successor Company)			(Predecessor Company)			(Successor Company)			(Successor Company)			(Predecessor Company)
Net sales		$	82,515,682		$	24,797,510		$	27,315,572		$	200,850,482		$	24,797,510		$	131,904,436
Cost of sales		65,929,708			19,113,113			20,873,726			156,022,663			19,113,113			100,065,635
Gross profit		16,585,974			5,684,397			6,441,846			44,827,819			5,684,397			31,838,801
Selling and administrative expenses		9,784,739			3,747,627			7,724,676			27,581,978			3,747,627			23,645,981
Amortization of intangibles		487,551			185,473			16,807			1,350,522			185,473			85,079
Total operating expenses		10,272,290			3,933,100			7,741,483			28,932,500			3,933,100			23,731,060
Operating income		6,313,684			1,751,297			(1,299,637		)	15,895,319			1,751,297			8,107,741
Other (income) expense:
Interest expense		4,934,046			1,245,058			1,908,909			11,873,377			1,245,058			4,415,270
Interest income		(38,272		)	(11,433		)	(25,461		)	(131,384		)	(11,433		)	(66,603		)
Other		123,518			(31,352		)	(74,845		)	131,827			(31,352		)	(93,154		)
Total other expense		5,019,292			1,202,273			1,808,603			11,873,820			1,202,273			4,255,513
Income (loss) before income taxes		1,294,392			549,024			(3,108,240		)	4,021,499			549,024			3,852,228
Income tax provision (benefit)		523,108			203,557			(3,429		)	1,577,978			203,557			2,683,312
Net income (loss)		$	771,284		$	345,467		$	(3,104,811	)	$	2,443,521		$	345,467		$	1,168,916

 

See Accompanying Notes to the Consolidated Interim Financial Statements

 

4

 

THE SHERIDAN GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

 

		Nine Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			Seven Months and Twenty-Days Ended August 20, 2003
		(Successor Company)			(Successor Company)			(Predecessor Company)
Cash flows from operating actvities:
Net income		$	2,443,521		$	345,467		$	1,168,916
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation		9,034,410			918,070			4,591,401
Amortization of assets under capital lease		—			—			197,527
Amortization of intangible assets		1,350,522			185,473			85,079
Provision for doubtful accounts		197,990			—			267,000
Fair value adjustment to interest rate collar		—			—			(283,123		)
Amortization of deferred financing costs and debt discount		1,186,545			54,111			1,681,665
Deferred income tax benefit		—			—			284,109
(Gain)/loss on disposition of fixed assets		19,807			—			26,583
Changes in operating assets and liabilities
Accounts receivable		(3,650,669		)	(2,022,826		)	3,436,095
Notes receivable		—			—			70,636
Inventories		4,375,103			819,159			(311,887		)
Other current assets		(985,224		)	241,678			284,837
Refundable taxes		(823,597		)	266,819			(311,135		)
Other assets		(578,223		)	6,411			(633,394		)
Accounts payable		719,107			583,434			(646,728		)
Accrued expenses		(2,711,767		)	(1,176,842		)	2,243,055
Accrued interest		(1,642,381		)	636,159			(1,085,925		)
Other liabilities		356,600			(533,152		)	284,288
Net cash provided by operating activities		9,291,743			323,961			11,348,999
Cash flows used in investing activities:
Purchases of equipment and leasehold improvements		(15,936,482		)	(596,214		)	(5,213,268		)
Proceeds from sale of fixed assets		32,480			—			26,155
Acquisition of business, net of cash acquired		(65,348,714		)	(77,868,986		)	—
Net cash used in investing activities		(81,252,716		)	(78,465,200		)	(5,187,113		)
Cash flows provided by (used in) financing activities:
Repayment of obligation under capital leases		—			(1,469,565		)	(164,376		)
Net borrowings (repayments) of revolving line of credit		4,514,649			—			(779,685		)
Repayment of long term debt		—			(58,866,210		)	(5,185,798		)
Proceeds from issuance of long term debt		61,200,000			103,600,350			—
Payment of deferred financing costs in connection with long term debt		(3,278,411		)	(6,635,502		)	—
Collection of notes receivable		—			430,630			—
Proceeds from issuance of stock, net of costs		—			44,985,050			—
Net cash provided by (used in) financing activities		62,436,238			82,044,753			(6,129,859		)
Net increase (decrease) in cash		(9,524,735		)	3,903,514			32,027
Cash at beginning of period		9,917,752			80,130			48,103
Cash at end of period		$	393,017		$	3,983,644		$	80,130
Non-cash investing and financing activities
Asset additions in accounts payable		$	426,641		$	164,000		$	176,000
Deferred financing costs related to issuance of long term debt in accrued expenses		$	198,238		$	—		$	—

 

See Accompanying Notes to the Consolidated Interim Financial Statements

 

5

 

THE SHERIDAN GROUP, INC. and SUBSIDIARIES

Notes to Consolidated Interim Financial Statements

(Unaudited)

 

1.     Company Information and Significant Accounting Policies

 

The accompanying unaudited financial statements of The Sheridan Group, Inc. and Subsidiaries (together, the “Company”) have been prepared by the Company pursuant to the rules of the Securities and Exchange Commission (the “SEC”).  In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly, in all material respects, the Company’s financial position as of September 30, 2004 and December 31, 2003 and its results of operations for the three-month and nine-month periods ended September 30, 2004 and for the one month and eleven-day period ended September 30, 2003 and the one month and twenty-day and seven month and twenty-day periods ended August 20, 2003 and its cash flows for the nine-month period ended September 30, 2004 and the one month and eleven-day period ended September 30, 2003 and the seven month and twenty-day period ended August 20, 2003.  All such adjustments are deemed to be of a normal and recurring nature and all material intercompany balances and transactions have been eliminated.

 

These condensed financial statements should be read in conjunction with the annual consolidated financial statements and the notes thereto of The Sheridan Group, Inc. and Subsidiaries for the period as of and ended December 31, 2003 included in the Registration Statement on Form S-4 filed with the SEC on October 19, 2004 (Registration No. 333-119813).  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted. The results of operations for the three month and nine month periods ended September 30, 2004 are not necessarily indicative of the results to be expected for the full fiscal year.

 

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates.  Certain prior period amounts have been reclassified to conform to the current period presentation with no effect on previously reported net income (loss) or stockholders’ equity.

 

2.     Acquisition

 

On August 21, 2003, Sheridan Acquisition Corp., a newly formed wholly-owned subsidiary of TSG Holdings Corp., completed a private debt offering (the “Offering”) of 10.25% senior secured notes totalling $105.0 million, priced to yield 10.50% that mature August 15, 2011 (the “2003 Notes”).  Proceeds from the Offering of $103.6 million (which was net of discount), together with $47.0 million of new equity investments, were used to purchase 100% of the outstanding capital stock of the Company (the “Acquisition”), cover fees and expenses of the Offering and the Acquisition and repay 100% of the Company’s then outstanding revolving line of credit, Term A & B credit agreements, senior subordinated debt, industrial revenue bonds, and various notes payable and capital leases, which totalled approximately $55.3 million.  The total purchase price for the Acquisition was $186.6 million, which consisted of $55.3 million of

 

6

 

refinanced indebtedness discussed above, cash paid of $79.9 million and liabilities assumed of $51.4 million.  Concurrent with the Acquisition, Sheridan Acquisition Corp. merged with and into the Company.

 

The Acquisition was treated as a purchase business combination requiring a new basis of accounting for the acquired assets and liabilities pursuant to the requirements of Statement of Financial Accounting Standard (“SFAS”) No. 141 “Business Combinations.”  Accordingly, the financial statements of the Company as of and for periods subsequent to August 21, 2003 are referred to as the “Successor basis” statements and all financial statements prior to that date are referred to as the “Predecessor basis” statements.  The aforementioned application of purchase accounting will result in higher depreciation and amortization in future periods.  Accordingly, and because of the Acquisition and new basis of accounting, the Company’s financial statements for the period subsequent to the Acquisition are not comparable to the Predecessor’s financial statements for the periods prior to the Acquisition.

 

3.     The Dingley Acquisition

 

On May 25, 2004, the Company completed a private debt offering (the “2004 Notes Offering”) of 10.25% senior secured notes totalling $60.0 million that mature August 15, 2011 (the “2004 Notes”).  The 2004 Notes have identical terms to the 2003 Notes.  Proceeds from the 2004 Notes Offering of $61.2 million (which included a premium), together with approximately $4.0 million of stock issued by TSG Holdings Corp., which was contributed to the Company as additional paid-in capital, were used to purchase substantially all of the assets and business of The Dingley Press of Lisbon, Maine (the “Dingley Acquisition”) and to cover fees and expenses of the 2004 Notes Offering and the Dingley Acquisition.  The aggregate purchase price for the Dingley Acquisition was $69.4 million (including $0.8 million of transaction costs), net of liabilities assumed of $14.8 million.  Included in the purchase price is a standard seller indemnity escrow fund totalling $3.0 million which expires on November 25, 2005.  The results of operations of The Dingley Press have been included in the Company’s results of operations since the date of the Dingley Acquisition.

 

The Dingley Acquisition was accounted for as a purchase in accordance with SFAS No. 141, “Business Combinations,” and the Company accordingly allocated the estimated purchase price of The Dingley Press based upon the fair value of net assets acquired and liabilities assumed. The Company is in the process of finalizing certain estimates including those for certain liabilities and, as a result, the allocation of the purchase price is subject to further adjustments.  The preliminary components and allocation of the purchase price, which are expected to be finalized within six months of the acquisition date, consisted of the following (in thousands):

 

7

 

Current assets		$	26,926
Property, plant & equipment		49,711
Intangible assets		3,978
Goodwill		3,641
Total assets acquired		84,256
Liabilities assumed		(14,818		)
Net assets acquired		$	69,438

 

The acquisition of The Dingley Press provides the Company with an opportunity for future growth while diversifying its product offering.  Importantly, the catalog market, in which The Dingley Press competes, has characteristics that are similar to the other business segments of the Company.  The purchase price of The Dingley Press was based on the projected business growth and cash flows of The Dingley Press over the next several years and indicated a value that was significantly in excess of the current net book value of the business resulting in the recognition of various intangible assets and goodwill.  The goodwill is deductible for tax purposes and the intangible assets consist primarily of customer relationships.

 

The following unaudited pro forma summary, for the periods shown below, presents the consolidated results of operations as if the Dingley Acquisition had occurred as of January 1, 2004 and 2003, respectively.  The summary includes adjustments for depreciation and amortization of noncurrent assets, income taxes, interest expense on the debt incurred to fund the Dingley Acquisition, management fees and transaction costs which would have been incurred had the Dingley Acquisition occurred as of the beginning of the periods presented. These unaudited pro forma results have been prepared for comparative purposes only and do not purport to be indicative of what would have occurred had the Dingley Acquisition and other transactions occurred as of that date or results which may occur in the future.

 

		Three months ended			Nine months ended
($s in thousands)		September 30, 2003			September 30, 2004			September 30, 2003
Net sales		$	72,611		$	237,790		$	220,966
Net income		$	(24	)	$	866		$	(436	)

 

4.     Inventory

 

Components of net inventories at September 30, 2004 and December 31, 2003 were as follows (in thousands):

 

8

 

		September 30, 2004			December 31, 2003
Work-in-process		$	8,740		$	3,648
Raw materials (principally paper)		12,242			2,345
		20,982			5,993
Excess of current costs over LIFO inventory value		—			—
Net inventory		$	20,982		$	5,993

 

5.     The 2003 Notes and 2004 Notes

 

The 2003 Notes and the 2004 Notes are collateralized by security interests in substantially all of the assets of the Company and its subsidiaries, subject to permitted liens.  The capital stock, securities and other payment rights of the Company’s subsidiaries will constitute collateral for the 2003 Notes and the 2004 Notes only to the extent that Rule 3-10 and Rule 3-16 of Regulation S-X under the Securities Act do not require separate financial statements of a subsidiary to be filed with the SEC.  Payment obligations under the 2003 Notes and the 2004 Notes are guaranteed jointly and severally, irrevocably and unconditionally, by all of the Company’s subsidiaries. The Sheridan Group, Inc. (the stand-alone parent company) owns 100% of the outstanding stock of all of its subsidiaries and has no material independent assets or operations.  There are no restrictions on the ability of The Sheridan Group, Inc. (the stand-alone parent company) to obtain funds by dividend, advance or loan from its subsidiaries.

 

In connection with the offerings of the 2003 Notes and the 2004 Notes, the Company entered into registration rights agreements pursuant to which the Company was required to register the 2003 Notes and the 2004 Notes with the SEC.  The Company filed Registration Statements on Form S-4 with the SEC in connection with exchange offers of its outstanding 2003 Notes and 2004 Notes for like principal amounts of new senior secured notes.  The Registration Statement covering the 2003 Notes was declared effective on October 13, 2004.  The Registration Statement covering the 2004 Notes was declared effective on October 25, 2004.  The new senior secured notes will be identical in all material respects to the 2003 Notes and the 2004 Notes, except that the new senior secured notes will not bear legends restricting the transfer thereof.

 

The terms of the registration rights agreement relating to the 2003 Notes required the Company to have had an exchange registration statement for the 2003 Notes filed with the SEC and declared effective by February 17, 2004.  Because of additional SEC requirements as a result of the Dingley Acquisition, the Company was not able to satisfy this requirement until October 13, 2004.  Consequently, the Company has accrued liquidated damages with respect to the 2003 Notes totalling approximately $293,000.  The 2004 Notes will not accrue any liquidated damages.

 

9

 

6.     Accrued Expenses

 

Accrued expenses as of September 30, 2004 and December 31, 2003 consisted of the following:

 

(in thousands)		September 30, 2004			December 31, 2003
Payroll and related expenses		$	5,203		$	4,986
Profit sharing accrual		1,337			1,749
Accrued interest		2,248			3,890
Customer prepayments		5,332			1,331
Self-insured health and workers’ compensation accrual		2,672			1,856
Due to former shareholders		—			472
Other		3,688			2,085
Total		$	20,480		$	16,369

 

7.     Stock-Based Compensation

 

The Company accounts for stock options granted to employees and directors in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees.”  Accordingly, no compensation expense has been recognized since the grant price of the options was equal to the fair value of the underlying common stock on the date of grant.  Had compensation cost for the stock-based compensation plan been determined based on the fair value of the options at the grant dates consistent with the method of accounting under SFAS No. 123, “Accounting for Stock Based Compensation,” the Company’s net income would have been adjusted to the pro forma amounts indicated below:

 

($s in thousands)		Three Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			One Month and Twenty-Days Ended August 20, 2003			Nine Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			Seven Months and Twenty-Days Ended August 20, 2003
		Successor Basis			Successor Basis			Predecessor Basis			Successor Basis			Successor Basis			Predecessor Basis
Net income (loss):
As reported		$	771		$	345		$	(3,105	)	$	2,444		$	345		$	1,169
Stock-based compensation cost, net of tax, based on the fair value method		(3		)	—			(7		)	(9		)	—			(32		)
Pro forma		$	768		$	345		$	(3,112	)	$	2,435		$	345		$	1,137

 

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8.     Segments

 

The Company is a specialty printer in the United States offering a full range of printing and value-added support services for the journal, catalog, magazine, book and article reprint markets. The Company’s business includes three business reporting segments comprised of “Short-run Journals,” “Specialty Catalogs” and “Other Publications.” Short-run Journals are primarily medical, technical, scientific or scholarly journals and related reprints with run sizes of less than 5,000 copies.  The Specialty Catalogs segment, which is comprised of the assets and operations of The Dingley Press acquired on May 25, 2004, is focused on catalog merchants that require run sizes between 300,000 and 10,000,000 copies.  The Other Publications business segment is comprised of three operating segments which produce specialty magazines, medium-run journals and short-run books.  Certain operations within the Company’s Other Publications segment have been aggregated following the provisions of SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” due to the similar characteristics of their financial performance and operations, including the nature of their service offerings, processes supporting the delivery of the services, customers, and marketing and sales processes.

 

The accounting policies of the operating segments are the same as those described in Note 3 “Summary of Significant Accounting Policies” in the Company’s financial statements included in the Company’s Registration Statement on Form S-4 filed with the Securities and Exchange Commission on October 19, 2004.  The results of each segment include certain allocations for general, administrative and other shared costs. However, certain corporate costs are not allocated to the segments.

 

The Company’s customer base resides in the continental United States and its manufacturing, warehouse and office facilities are located throughout the East Coast and Midwest.  The Company had one customer, Elsevier, which accounted for 9.8% and 11.6% of total Company net sales for the three month and nine month periods ended September 30, 2004, respectively, 11.4% of total Company net sales for the one month and eleven-days ended September 30, 2003, 11.3% of total Company net sales for the one month and twenty-days ended August 20, 2003 and 12.1%  of total Company net sales for the seven month and twenty-days ended August 20, 2003.  Net sales for this customer are reported in both the “Short-run Journals” and “Other Publications” segments.  The Company had one customer, Dr. Leonard Health Care, which accounted for 12.3% of total Company net sales for the three month period ended September 30, 2004.  Net sales for this customer are reported in the “Specialty Catalog” segment.  Since this segment was acquired on May 25, 2004, as a result of the Dingley Acquisition, Doctor Leonard Health Care was not a significant portion of total Company net sales for the nine month period ended September 30, 2004 or for any of the 2003 periods presented here.

 

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($s in thousands)		Three Months Ended September 30, 2004				One Month and Eleven-Days Ended September 30, 2003				One Month and Twenty-Days Ended August 20, 2003			Nine Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			Seven Months and Twenty-Days Ended August 20, 2003
		Successor Basis				Successor Basis				Predecessor Basis			Successor Basis			Successor Basis			Predecessor Basis
Net sales
Short-run journals		$		23,868		$		9,902		$	12,057		$	71,935		$	9,902		$	55,371
Specialty catalogs		27,712				—				—			35,524			—			—
Other publications		32,139				15,581				15,772			97,083			15,581			79,785
Intersegment eliminations		(1,203			)	(685			)	(513		)	(3,692		)	(685		)	(3,252		)
Consolidated total		$		82,516		$		24,798		$	27,316		$	200,850		$	24,798		$	131,904
Operating income
Short-run journals		$		3,244		$		969		$	33		$	10,313		$	969		$	6,573
Specialty catalogs		2,213				—				—			2,457			—			—
Other publications		1,317				965				(864		)	4,452			965			2,396
Corporate		(460			)	(183			)	(469		)	(1,327		)	(183		)	(861		)
Consolidated total		$		6,314		$		1,751		$	(1,300	)	$	15,895		$	1,751		$	8,108
		September 30, 2004				December 31, 2003
Assets
Short-run journals		$	86,343			$	89,851
Specialty catalogs		88,971				—
Other publications		107,794				110,563
Corporate		2,550				2,074
Consolidated total		$	285,658			$	202,488

 

A reconciliation of total segment operating profit to consolidated income before income taxes is as follows:

 

($s in thousands)		Three Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			One Month and Twenty-Days Ended August 20, 2003			Nine Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			Seven Months and Twenty-Days Ended August 20, 2003
		Successor Basis			Successor Basis			Predecessor Basis			Successor Basis			Successor Basis			Predecessor Basis
Total operating profit (as shown above)		$	6,314		$	1,751		$	(1,300	)	$	15,895		$	1,751		$	8,108
Interest expense		(4,934		)	(1,245		)	(1,909		)	(11,873		)	(1,245		)	(4,415		)
Interest income		38			12			26			131			12			66
Other, net		(124		)	31			75			(132		)	31			93
Income before income taxes		$	1,294		$	549		$	(3,108	)	$	4,021		$	549		$	3,852

 

9.     Income Taxes

 

The Company’s effective income tax rate was 40.4% for the third quarter of 2004 and 39.2% for the first nine months of 2004, respectively.  For 2003, the effective income tax rate was 37.1% for the one month and eleven days ended September 30, 2003, (0.1%) for the one month and twenty days ended August 20, 2003 and 69.7% for the seven months and twenty days ended August 20, 2003.  The amount of tax expense differs from the amount obtained by application of statutory rates primarily due to the impact of state income taxes in the third quarter and first nine months of 2004 and the one month and eleven days ended September 30, 2003, respectively.  The tax benefit for the one month and twenty days and the tax expense for the seven months and twenty days ended August 20, 2003, respectively, were impacted by tax expense increases resulting from the Acquisition.

 

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10.  Restructuring and Other Exit Costs

 

The Company closed the Sheridan Books, Inc. facility in Fredericksburg, VA and will move the manufacturing operations equipment from this facility to its facility in Chelsea, Michigan.  As a result of this action, and pursuant to SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”, the Company incurred approximately $124,000 of costs related to employee termination and other closure related costs in the three month period ended September 30, 2004.  The Company anticipates that it will incur additional costs related to the closing of approximately $260,000 during 2004, primarily related to the relocation of the operations equipment.

 

11.  Related Party Transactions

 

In connection with the Acquisition, the Company entered into a 10-year management agreement with its principal equity sponsors.  The management fee under this agreement will be equal to the greater of $500,000 or 2% of EBITDA (as defined in the management agreement) plus reasonable out-of-pocket expenses.  The Company expensed $0.2 million and $0.5 million in such fees for the three month and nine month periods ended September 30, 2004.  The management fee was negligible in the comparable 2003 periods.

 

12.  Contingencies

 

The Company is party to legal actions as a result of various claims arising in the normal course of business.  The Company believes that the disposition of these matters will not have a material adverse effect on the financial condition, results of operations or liquidity of the Company.

 

13.  Subsequent Events

 

On October 25, 2004, the Company executed an agreement for the sale of the Fredericksburg, Virginia facility for a sales price of $2,125,000.  The sale is contingent on the buyer conducting satisfactory feasibility and environmental studies on the property within sixty days from the date of the agreement.  The Company anticipates that closing on the sale will take place on or before December 31, 2004.  The Company expects to realize a gain of approximately $1.0 million as a result of this sale.

 

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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

The following discussion should be read in conjunction with, and is qualified in its entirety by reference to, our historical consolidated financial statements and related notes included in the Registration Statement on Form S-4 filed with the Securities and Exchange Commission on October 19, 2004 (Registration No. 333-119813), referred to herein as the “Registration Statement.”  Management’s discussion and analysis of our results of operations includes periods prior to the consummation of the Acquisition.  Accordingly, the discussion and analysis of historical periods prior to August 21, 2003 does not reflect the significant impact that the Acquisition has had and will have on us, including increased leverage and increased liquidity requirements.  References to the “Company” refer to The Sheridan Group, Inc.  The terms “we,” “us,” “our” and other similar terms refer to the consolidated businesses of the company and all of its subsidiaries.  References to the “Acquisition” refer to the acquisition by TSG Holdings Corp., a newly formed corporation, of all of the company’s outstanding capital stock.  References to the “Dingley Acquisition” refer to the acquisition by The Sheridan Group, Inc. of substantially all of the assets and business of The Dingley Press.

 

Results discussed for the three months and nine months ended September 30, 2003 represent the mathematical addition of the Successor basis results of operations and the Predecessor basis results of operations.  This approach is not consistent with GAAP, and may yield results that are not strictly comparable on a period-to-period basis primarily due to (i) the impact of required purchase accounting adjustments, (ii) the new basis of accounting established as a result of the Acquisition and (iii) the significant increase in debt and related interest expense.  We believe that this is the most meaningful way to present our results of operations.  Such results are not indicative of what the results for the three months and nine months ended September 30, 2003 would have been had the Acquisition not occurred.

 

Overview

 

Company Background

 

We are a leading specialty printer offering a full range of printing and value-added support services for the journal, catalog, magazine, book and article reprint markets.  We provide a wide range of printing services and value-added support services, such as electronic copy-editing, composition, digital proofing, subscriber database maintenance, distribution services and electronic publishing support.  We utilize a decentralized management structure, which provides our customers with access to the resources of a large company while maintaining the high level of service and flexibility of a smaller company.

 

The Transactions

 

On August 21, 2003, TSG Holdings Corp. purchased 100% of the outstanding capital stock of the Company from its existing stockholders for total cash consideration of $142.0 million less net debt (as defined in the stock purchase agreement), resulting in cash of $79.9 million being paid to the selling stockholders.  The accounting purchase price for the Acquisition was $186.6 million, which was comprised of the $79.9 million of cash paid to the selling stockholders, $51.4 million of assumed liabilities and $55.3 million of refinanced indebtedness.  We funded the

 

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purchase price and the related fees and expenses of the Acquisition with the proceeds of the sale of 10.25% senior secured notes due 2011 totalling $105.0 million, priced to yield 10.50% (the “2003 Notes”), together with $47.0 million of new equity investments.  On May 25, 2004, the Company, through a newly formed subsidiary, purchased substantially all of the assets and business of The Dingley Press for an aggregate purchase price of $66.9 million.  We funded the purchase price and the related fees and expenses of the Dingley Acquisition with the proceeds of the sale of 10.25% senior secured notes due 2011 totalling $60.0 million, priced to yield 9.86% (the “2004 Notes”), together with $4.0 million of new equity investments and $4.0 million in available cash.  The 2003 Notes and the 2004 Notes are fully and unconditionally guaranteed on a joint and several basis by all of our subsidiaries.

 

Critical Accounting Policies

 

In the ordinary course of business, we make a number of estimates and assumptions relating to the reporting of results of operations and financial position in the preparation of financial statements in conformity with generally accepted accounting principles.  We believe the estimates, assumptions and judgments described in the section “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies” included in our Registration Statement, have the greatest potential impact on our financial statements, so we consider these to be our critical accounting policies.  These policies include our accounting for allowances for doubtful accounts, accounting for business combinations, impairment of goodwill and other identifiable intangibles, income taxes and self-insurance.  These policies require management to exercise judgments that are often difficult, subjective and complex due to the necessity of estimating the effect of matters that are inherently uncertain.  Actual results could differ significantly from those estimates under different assumptions and conditions.  We believe the consistent application of these policies enables us to provide readers of our financial statements with useful and reliable information about our operating results and financial condition.  There has been no significant change in these policies since December 31, 2003.

 

Results of Operations

 

The following table sets forth, for the periods indicated, information derived from our consolidated statements of income expressed as a percentage of net sales for the periods presented.  The percentage relationships for the three month and nine month periods ended September 30, 2004 are after the date of the Acquisition while the percentage relationships for the three month and nine month periods ended September 30, 2003 include periods preceding and following the date of the Acquisition.  Accordingly, the data for the periods preceding and following the Acquisition were prepared on differing bases of accounting and, as a result, the comparability of such percentage relationships with other periods is limited, primarily as a result of one-time transaction costs, amortization of goodwill and intangibles, depreciation of fixed assets and interest expense related to outstanding debt balances.  In addition, the results of operations of The Dingley Press have been included in our results of operations since the

 

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May 25, 2004 date of acquisition and are reported as a separate specialty catalog business segment.

 

(Expressed as percentages)		Three Months Ended September 30, 2004		Three Months Ended September 30, 2003		Nine Months Ended September 30, 2004		Nine Months Ended September 30, 2003
Net sales		100.0		100.0		100.0		100.0
Cost of sales		79.9		76.7		77.7		76.1
Gross profit		20.1		23.3		22.3		23.9
Selling and administrative expenses		11.9		22.0		13.7		17.5
Amortization of intangibles		0.6		0.4		0.7		0.2
Total operating expenses		12.5		22.4		14.4		17.7
Operating income		7.6		0.9		7.9		6.2
Other (income) expense:
Interest expense		6.0		6.1		5.9		3.6
Interest income		0.0		(0.1	)	(0.1	)	0.0
Other, net		0.1		(0.2	)	0.1		(0.1	)
Total other expense		6.1		5.8		5.9		3.5
Income (loss) before income taxes		1.5		(4.9	)	2.0		2.7
Income tax provision		0.6		0.4		0.8		1.8
Net income (loss)		0.9		(5.3	)	1.2		0.9

 

Our business includes three reportable segments comprised of “Short-run Journals”, “Specialty Catalogs” and “Other Publications.”  Short-run Journals are primarily medical, technical, scientific or scholarly journals and related reprints with run sizes of less than 5,000 copies.  The Specialty Catalogs segment, which is comprised of the assets and operations of The Dingley Press acquired on May 25, 2004, is focused on catalog merchants that require run sizes between 300,000 and 10,000,000 copies.  The Other Publications business segment is comprised of three operating segments, which produce specialty magazines, medium-run journals and short-run books.

 

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($s in thousands)		Three Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			One Month and Twenty-Days Ended August 20, 2003			Nine Months Ended September 30, 2004			One Month and Eleven-Days Ended September 30, 2003			Seven Months and Twenty-Days Ended August 20, 2003
		Successor Basis			Successor Basis			Predecessor Basis			Successor Basis			Successor Basis			Predecessor Basis
Net sales
Short-run journals		$	23,868		$	9,902		$	12,057		$	71,935		$	9,902		$	55,371
Specialty catalogs		27,712			—			—			35,524			—			—
Other publications		32,139			15,581			15,772			97,083			15,581			79,785
Intersegment eliminations		(1,203		)	(685		)	(513		)	(3,692		)	(685		)	(3,252		)
Consolidated total		$	82,516		$	24,798		$	27,316		$	200,850		$	24,798		$	131,904
Operating income
Short-run journals		$	3,244		$	969		$	33		$	10,313		$	969		$	6,573
Specialty catalogs		2,213			—			—			2,457			—			—
Other publications		1,317			965			(864		)	4,452			965			2,396
Corporate		(460		)	(183		)	(469		)	(1,327		)	(183		)	(861		)
Consolidated total		$	6,314		$	1,751		$	(1,300	)	$	15,895		$	1,751		$	8,108
		September 30, 2004			December 31, 2003
Assets
Short-run journals		$	86,343		$	89,851
Specialty catalogs		88,971			—
Other publications		107,794			110,563
Corporate		2,550			2,074
Consolidated total		$	285,658		$	202,488

 

Net sales for the third quarter of 2004 were $82.5 million, a $30.4 million or 58.3% increase compared to net sales of $52.1 million for the same period of 2003.  Net sales for the first nine months of 2004 were $200.9 million, a $44.2 million or 28.2% increase compared to $156.7 million for the same period of 2003.  The Dingley Acquisition, completed in May 2004, added the specialty catalog segment and accounted for $27.7 million and $35.5 million of the sales growth for the three and nine month periods, respectively.  Significant growth in short-run journals combined with slightly stronger net sales in other publications accounted for the rest of the increase.

 

Net sales for the short-run journal segment for the third quarter of 2004 were $23.9 million, a $1.9 million or 8.6% increase compared to net sales of $22.0 million for the same period of 2003.  Net sales for the short-run journal segment for the first nine months of 2004 were $71.9 million, a $6.6 million or 10.1% increase compared to $65.3 million for the same period of 2003.  The increase in net sales for the short-run journals segment was attributable to new titles that were awarded to us during the first nine months of 2004.  Net sales for the other publications segment for the third quarter of 2004 were $32.1 million, a $0.7 million or 2.2% increase compared to $31.4 million for the same period of 2003.  Net sales in the other publications segment for the first nine months of 2004 were $97.1 million, a $1.7 million or 1.8% increase compared to $95.4 million for the same period of 2003.  Continued growth in medium-run journals and magazine revenues, partially offset by softness in book sales, accounted for the growth in the other publications segment.

 

Gross profit for the third quarter of 2004 was $16.6 million, a $4.5 million or 37.2% increase compared to gross profit of $12.1 million for the same period of 2003.  Gross profit for the first nine months of 2004 was $44.8 million, a $7.3 million or 19.5% increase compared to gross profit of $37.5 million for the same period of 2003.  Gross margin for the third quarter of 2004

 

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