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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended October 2, 2004
---------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _________ to ___________
Commission file number 0-17038
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Concord Camera Corp.
--------------------
(Exact name of registrant as specified in its charter)
New Jersey 13-3152196
--------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4000 Hollywood Blvd., 6th Floor, North Tower, Hollywood, Florida 33021
----------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(954) 331-4200
---------------------
(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 No X
---- ---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock, no par value - 28,681,342 shares as of January 31, 2005
Index
Concord Camera Corp. and Subsidiaries
Part I. FINANCIAL INFORMATION Page No.
--------
Item 1. Financial Statements (Unaudited)
Condensed consolidated balance sheets as of October 2, 2004 (Unaudited) and July 3,
2004............................................................................................3
Condensed consolidated statements of operations (Unaudited) for the quarters ended
October 2, 2004 and September 27, 2003..........................................................4
Condensed consolidated statements of cash flows (Unaudited) for the quarters ended
October 2, 2004 and September 27, 2003..........................................................5
Notes to condensed consolidated financial statements............................................6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................................................................16
Item 3. Quantitative and Qualitative Disclosures About Market Risk...........................................27
Item 4. Controls and Procedures..............................................................................27
Part II. OTHER INFORMATION
Item 1. Legal Proceedings....................................................................................29
Item 5. Other Information....................................................................................29
Item 6. Exhibits.............................................................................................29
2
PART I. FINANCIAL INFORMATION.
ITEM 1. FINANCIAL STATEMENTS
CONCORD CAMERA CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
OCTOBER 2, 2004 JULY 3,
(UNAUDITED) 2004
-------------------- ---------------------
ASSETS
Current Assets:
Cash and cash equivalents $ 26,369 $ 18,323
Short-term investments 40,100 39,600
Accounts receivable, net 28,172 29,367
Inventories 54,008 52,418
Prepaid expenses and other current assets 4,883 11,563
--------- ---------
Total current assets 153,532 151,271
Property, plant and equipment, net 21,557 20,597
Other assets 16,771 17,649
--------- ---------
Total assets $ 191,860 $ 189,517
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Short-term borrowings under credit facilities $ 17,568 $ 9,170
Accounts payable 27,202 18,783
Accrued expenses 16,677 16,395
Other current liabilities 1,362 6,320
--------- ---------
Total current liabilities 62,809 50,668
Other long-term liabilities 11,217 11,724
--------- ---------
Total liabilities 74,026 62,392
Commitments and contingencies
Stockholders' equity:
Blank check preferred stock, no par value,
1,000 shares authorized, none issued -- --
Common stock, no par value, 100,000 shares
authorized; 30,898 and 30,572 shares issued
as of October 2, 2004 and July 3, 2004, respectively 143,465 143,073
Additional paid-in capital 4,853 4,853
Deferred stock-based compensation (18) (29)
Deferred share arrangement 624 413
Accumulated deficit (25,473) (16,152)
--------- ---------
123,451 132,158
Less: treasury stock, at cost, 1,735 and 1,599
shares as of October 2, 2004 and July 3, 2004, respectively (4,993) (4,620)
Less: common stock held in trust, 509 and 331
shares as of October 2, 2004 and July 3, 2004, respectively (624) (413)
--------- ---------
Total stockholders' equity 117,834 127,125
--------- ---------
Total liabilities and stockholders' equity $ 191,860 $ 189,517
========= =========
See accompanying notes.
3
CONCORD CAMERA CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(in thousands, except per share data)
FOR THE QUARTER ENDED
-------------------------------------------
OCTOBER 2, SEPTEMBER 27,
2004 2003
--------------- --------------------
Net sales $ 43,014 $ 57,401
Cost of products sold 42,549 46,661
-------- --------
Gross profit 465 10,740
Selling expenses 4,025 2,381
General and administrative
expenses 6,441 5,957
Variable stock-based
compensation expense -- 3,050
Interest expense 222 163
Other income, net (962) (109)
-------- --------
Loss before (9,261) (702)
income taxes
Provision (benefit) for
income taxes 60 (88)
-------- --------
Net loss $ (9,321) $ (614)
======== ========
Basic and diluted loss per
common share $ (0.32) $ (0.02)
======== ========
Weighted average common
shares outstanding-
basic and diluted
29,200 28,455
======== ========
See accompanying notes.
4
CONCORD CAMERA CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in thousands)
FOR THE QUARTER ENDED
-----------------------------------------------
OCTOBER 2, SEPTEMBER 27,
2004 2003
-------------------- ---------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (9,321) $ (614)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization 2,063 1,435
Variable stock-based compensation expense -- 3,050
Changes in operating assets and liabilities:
Accounts receivable 1,195 6,810
Inventories (1,590) (14,083)
Prepaid expenses and other current assets 1,630 (664)
Other assets 784 (625)
Accounts payable 8,965 6,648
Accrued expenses (265) (1,221)
Other current liabilities (1,839) 417
Other liabilities (508) (777)
-------- --------
Net cash provided by operating activities 1,114 376
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (985) (510)
Purchases of short-term investments, net (500) (458)
-------- --------
Net cash used in investing activities (1,485) (968)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Short-term borrowings under credit facilities, net 8,398 --
Net proceeds from issuance of common stock 19 663
-------- --------
Net cash provided by financing activities 8,417 663
-------- --------
Net increase in cash and cash equivalents 8,046 71
Cash and cash equivalents at beginning of period 18,323 38,221
-------- --------
Cash and cash equivalents at end of period $ 26,369 $ 38,292
======== ========
See accompanying notes.
5
CONCORD CAMERA CORP. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
OCTOBER 2, 2004
(UNAUDITED)
NOTE 1 - BASIS OF PRESENTATION:
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and with the instructions to
Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all
of the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. In the opinion
of management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. Operating
results for the quarter ended October 2, 2004 ("First Quarter Fiscal 2005") are
not necessarily indicative of the results that may be expected for the fiscal
year ending July 2, 2005 ("Fiscal 2005"). For comparative purposes, the quarter
ended September 27, 2003 has been defined as the "First Quarter Fiscal 2004".
The balance sheet at July 3, 2004 has been derived from the audited financial
statements at that date, but does not include all of the information and
footnotes required by accounting principles generally accepted in the United
States for complete financial statements. Concord Camera Corp., a New Jersey
corporation, and its consolidated subsidiaries (collectively referred to as the
"Company") manage their business on the basis of one reportable segment. For
further information, refer to the consolidated financial statements and
footnotes thereto included in the Company's Annual Report on Form 10-K for the
fiscal year ended July 3, 2004 ("Fiscal 2004").
The First Quarter Fiscal 2005 includes three months of operating results of
Jenimage Europe GmbH, a German corporation, acquired by the Company in the
fourth quarter of Fiscal 2004.
NOTE 2 - SIGNIFICANT CUSTOMERS:
During the First Quarter Fiscal 2005, we experienced a significant reduction in
sales to a significant retail customer due to such retail customer's overstocked
inventory levels. This decrease in sales had a material adverse impact on
results of operations. We expect sales to this customer will increase as this
customer's inventory levels decrease. As previously reported in our Form 10-K
for Fiscal 2004, we have received notification from Kodak that it intends to
cease purchases under our two design and manufacturing services ("DMS")
contracts by the end of the second quarter of Fiscal 2005. During First Quarter
Fiscal 2005 and First Quarter Fiscal 2004, sales to Kodak totaled $7.8 million
and $11.8 million, respectively. We expect that the cessation of sales to Kodak
will have a material adverse effect on our results of operations unless we are
able to substantially increase sales to other customers. The loss of any other
significant customers or substantially reduced sales to any other significant
customers could have a material adverse impact on results of operations.
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION
The accompanying condensed consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
and include the accounts of the Company and its subsidiaries. All significant
intercompany balances and transactions have been eliminated.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates. The more significant of the
Company's estimates include sales returns and other allowances, provision for
bad debts, inventory valuation charges, realizability of long-lived and other
assets, realizability of deferred tax assets, and accounting for litigation and
settlements, among others.
6
FOREIGN CURRENCY TRANSACTIONS
The Company operates on a worldwide basis and its results may be adversely or
positively affected by fluctuations of various foreign currencies against the
U.S. Dollar, specifically, the Canadian Dollar, European Euro, British Pound
Sterling, PRC Renminbi, Hong Kong Dollar and the Japanese Yen. Although certain
net sales to customers and purchases of certain components and services are
transacted in local currencies, each of the Company's foreign subsidiaries
purchases substantially all of its finished goods inventories in U.S. Dollars.
Accordingly, the Company has determined the U.S. Dollar is the functional
currency for all of its subsidiaries. The accounting records for subsidiaries
that are maintained in a local currency are remeasured into the U.S. Dollar.
Accordingly, most non-monetary balance sheet items and related statement of
operations accounts are remeasured from the applicable local currency to the
U.S. Dollar using average historical exchange rates, producing substantially the
same result as if the entity's accounting records had been maintained in the
U.S. Dollar. Adjustments resulting from the remeasurement process are recorded
into earnings. Gains or losses resulting from foreign currency transactions and
remeasurement are included in "Other income, net" in the accompanying condensed
consolidated statements of operations. For First Quarter Fiscal 2005 and First
Quarter Fiscal 2004, included in "Other income, net" in the accompanying
condensed consolidated statements of operations, are approximately $(0.8)
million and $(0.3) million, respectively, of net foreign currency (gains)
losses.
HEDGING ACTIVITIES
During First Quarter Fiscal 2005 and First Quarter Fiscal 2004, the Company had
no forward exchange contracts or other derivatives outstanding and did not
participate in any other type of hedging activities.
INVESTMENTS
At October 2, 2004 and July 3, 2004, the Company's "Short-term investments," as
classified in the accompanying condensed consolidated balance sheets, consisted
of auction rate debt securities and are considered available for-sale
securities. During First Quarter Fiscal 2005, no other comprehensive income is
recorded because the variable interest rate feature and short maturities of the
auction rate debt securities causes their carrying values to approximate market.
Available-for-sale securities are carried at fair value, with the unrealized
gains and losses, net of tax, reported as a component of accumulated other
comprehensive income (loss) reported in the stockholders' equity section in the
accompanying condensed consolidated balance sheets, unless the loss is other
than temporary, and then it would be recorded as an expense. Realized gains and
losses, interest and dividends are classified as investment income in "Other
income, net" in the accompanying condensed consolidated statements of
operations. Investment income of $0.2 million and $0.5 million related to the
short-term investments is included in "Other income, net" for First Quarter
Fiscal 2005 and First Quarter Fiscal 2004, respectively. Investments held in
deferred compensation rabbi trusts directed by participants are classified as
trading securities.
IMPAIRMENT OF LONG-LIVED AND OTHER ASSETS
In accordance with SFAS No. 144, Accounting for the Implementation or Disposal
of Long-Lived Assets, the Company continually evaluates whether events and
circumstances have occurred that provide indications of impairment. The Company
records an impairment loss when indications of impairment are present and when
the undiscounted cash flows estimated to be generated by those assets are less
than the assets' carrying amounts. The Company performs an impairment test by
summarizing the undiscounted cash flows expected to result from the use and
eventual sale of its long-lived assets. If the sum of the undiscounted cash
flows exceeds the carrying values of these assets then accordingly, the Company
concludes these carrying values are recoverable. No impairment charges were
recorded in First Quarter Fiscal 2005 and First Quarter Fiscal 2004.
For royalty-related assets, the Company will record an impairment loss if the
total expected royalty payments to be made over the life of an agreement,
excluding any minimum required payments, are less than the royalty-related
assets' carrying value. The total expected royalty payments to be made over the
life of an agreement are dependent on management's estimates about future sales
volumes. Because judgment is required to estimate future sales volumes, the
estimates are not necessarily indicative of the sales volumes that will actually
be realized in the future. Such assets reviewed include patents, prepaid amounts
related to licensing and royalty agreements and certain property, plant and
equipment.
7
REVENUE RECOGNITION
The Company recognizes revenue, in accordance with SAB Nos. 101 and 104, when
title and risk of loss are transferred to the customer, the sales price is fixed
or determinable, and collectibility is probable. Title and risk of loss
generally transfer when the product is delivered to the customer or upon
shipment, depending upon negotiated contractual arrangements. Sales are recorded
net of anticipated returns which the Company estimates based on historical rates
of return, adjusted for current events as appropriate, in accordance with
Statement of Financial Accounting Standard No. 48, Revenue Recognition When
Right of Return Exists ("SFAS No. 48"). If actual future returns are higher than
estimated, then net sales could be adversely affected. Management has assessed
the appropriateness of the timing of revenue recognition in accordance with SFAS
No. 48. After considering the requirements of SFAS No. 48, the Company concluded
it would delay recognition of revenue from one customer during First Quarter
Fiscal 2005 until such customer's transactions meet all of the requirements of
SFAS No. 48.
The Company may enter into arrangements to offer certain pricing discounts and
allowances that do not provide an identifiable separate benefit or service or
may enter into arrangements to provide certain free products. In accordance with
Emerging Issues Task Force ("EITF") Issue No. 01-09, Consideration Given by a
Vendor to a Customer (Including a Reseller of the Vendor's Products), the
Company records the pricing discounts and allowances as a reduction of sales and
records the cost of free products ratably into cost of products sold based upon
the underlying revenue transaction.
ADVERTISING AND PROMOTIONAL ALLOWANCES
Advertising and promotional costs, which include advertising allowances and
other discounts, have been expensed as incurred. In accordance with EITF Issue
No. 00-25, Vendor Income Statement Characterization of Consideration from a
Vendor to a Retailer, which addresses the statement of operations classification
of consideration between a vendor and a retailer, the Company has recorded
certain variable selling expenses including advertising allowances, other
discounts, and other allowances as a reduction of sales.
STOCK-BASED COMPENSATION
As currently permitted by SFAS No. 123, Accounting for Stock-Based Compensation
("SFAS No. 123"), as amended by SFAS No. 148, Accounting for Stock-Based
Compensation and Disclosure ("SFAS No. 148"), the Company has elected to follow
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees ("APB No. 25"), using the intrinsic value method and related
interpretations in accounting for its employee stock-based transactions and has
complied with the disclosure requirement of SFAS No. 148. Under APB No. 25,
compensation expense is calculated at the time of option grant, based upon the
difference between the exercise price of the option and the fair market value of
the Company's no par value common stock ("Common Stock"). Compensation expense
is recognized over the option's vesting period. No compensation expense for
stock options is recognized for stock option awards granted at or above fair
market value.
In Fiscal 2002, the Company consummated an exchange offer for certain
outstanding stock options and, as a result, is required to apply variable
stock-based compensation accounting for the new options issued in the exchange
until they are exercised, cancelled or expired. For the repriced options, the
Company is only subject to variable stock-based compensation expense when the
Company's stock price is greater than $5.97. For First Quarter Fiscal 2005, the
Company recorded $0 in variable stock-based compensation expense in the
condensed consolidated statement of operations because its Common Stock price on
October 2, 2004 was below the new repriced stock options' exercise price of
$5.97. For First Quarter Fiscal 2004, the Company recorded $3.1 million of
variable stock-based compensation expense in the condensed consolidated
statement of operations because its Common Stock price on September 27, 2004 was
higher than the new repriced stock options' exercise price of $5.97. Because the
determination of variable stock-based compensation expense or income associated
with the repriced stock options is significantly dependent upon the market price
of the Common Stock price at the end of the applicable reporting period, it is
not possible to determine its future impact, either favorable or unfavorable, on
the Company's consolidated financial statements for prospective reporting
periods. The Company considers all of its variable stock-based compensation
expense or income as a component of general and administrative expenses.
8
For purposes of pro forma disclosures under SFAS No. 123, as amended by SFAS No.
148, the estimated fair value of the equity awards is amortized to expense over
the options' vesting period. The following table illustrates the effect on net
(loss) income and (loss) income per share if the fair value based method had
been applied to all outstanding and unvested awards in each period (in
thousands, except per share amounts):
For the quarter ended
---------------------------------------
October 2, September 27,
2004 2003
-------------- ------------------
Net loss, as reported $(9,321) $ (614)
Add: variable stock-based compensation
expense, net of related tax effects,
included in the determination of net loss
as reported -- 2,669
Deduct: total stock-based compensation expense
determined under fair value based method
for all awards, net of related tax effects (213) (329)
------- -------
Pro forma net (loss) income $(9,534) $ 1,726
======= =======
(Loss) income per common share:
Basic and Diluted - as reported $ (0.32) $ (0.02)
======= =======
Basic and Diluted - pro forma $ (0.33) $ 0.06
======= =======
INCOME TAXES
Management periodically evaluates the realizability of the Company's deferred
income tax assets. As part of assessing the realizability of its deferred income
tax assets, management evaluated whether it is more likely than not that some
portion, or all of its deferred income tax assets, will be realized. The
realization of its U.S., Europe and Hong Kong deferred income tax assets related
directly to the Company's tax planning initiatives and strategies for U.S.
federal and state, Europe, Japan and Hong Kong tax purposes. In the First
Quarter Fiscal 2005 and Fourth Quarter Fiscal 2004, based on all the
available evidence, management determined that it was not more likely than not
that its deferred income tax assets will be fully realized. Accordingly, the
Company recorded a valuation allowance for the entire balance of its deferred
income tax assets as of October 2, 2004 and July 3, 2004.
The Company estimates its interim effective tax rate before consideration of a
valuation allowance based upon its projected consolidated annual effective
income tax rate. This rate is largely a function of the amounts of pre-tax
income or loss attributed to both domestic and foreign operations, the
application of their respective statutory tax rates and the anticipated
utilization of available net operating loss carryforwards to reduce taxable
income. A significant portion of the Company's pre-tax loss was generated in
Hong Kong, where the statutory tax rate is 8.75%. The Company recorded a
provision (benefit) for income taxes of $60,000 and $(88,000) for First Quarter
Fiscal 2005 and First Quarter Fiscal 2004, respectively. The First Quarter
Fiscal 2005 income tax provision relates to income tax liabilities incurred by
certain of the Company's foreign subsidiaries. These foreign subsidiaries do not
have net operating losses to offset such liabilities.
COMPREHENSIVE (LOSS) INCOME
Comprehensive income in accordance with SFAS No. 130, Reporting Comprehensive
Income, ("SFAS No. 130") includes net (loss) income adjusted for certain
revenues, expenses, gains and losses that are excluded from net (loss) income
under accounting principles generally accepted in the U.S. Unrealized gains and
losses related to the Company's available-for-sale investments are excluded from
net (loss) income. During the First Quarter Fiscal 2005, the Company's total
comprehensive loss totaled ($9.3) million, same as net loss, because the Company
did not have any items of other comprehensive income. During the First Quarter
Fiscal 2004, the Company's total comprehensive loss was ($0.9) million which
includes the Company's only item of other comprehensive income, an unrealized
loss, net of tax, of ($0.3) million related to its available-for-sale
securities.
9
LOSS PER SHARE
Basic and diluted (loss) income per share are calculated in accordance with SFAS
No. 128, Earnings per Share, ("SFAS No. 128"). All applicable (loss) income per
share amounts have been presented in conformity with SFAS No. 128 requirements.
During the First Quarter Fiscal 2005 and First Quarter Fiscal 2004, the Company
issued 12,500 and 393,363 shares of Common Stock, respectively, upon the
exercise of stock options. In First Quarter Fiscal 2005 and First Quarter Fiscal
2004, the delivery of 178,043 and 331,011 of the shares issued, respectively,
under the Company's Deferred Delivery Plan were deferred but the weighted
average effect of those shares was included in the denominator of both basic and
diluted loss per share calculations for each respective period. In the First
Quarter Fiscal 2005 and First Quarter Fiscal 2004, potentially dilutive
securities were comprised of stock options to purchase 327,250 and 2,246,305
shares of Common Stock, respectively, that were not included in the calculation
of diluted loss per share because their impact was antidilutive.
NOTE 4 - RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS:
On December 16, 2004, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 123 (revised 2004), Share-Based Payment, which is a revision of SFAS
No. 123, Accounting for Stock-Based Compensation. SFAS No. 123(R) supersedes
APB No. 25, Accounting for Stock Issued to Employees, and amends SFAS No. 95,
Statement of Cash Flows. Generally, the approach in SFAS No. 123(R) is similar
to the approach described in SFAS No. 123. However, SFAS No. 123(R) requires
all share-based payments to employees, including grants of employee stock
options, to be recognized in the income statement based on their fair values.
Pro forma disclosure is no longer an alternative. SFAS No. 123(R) must be
adopted no later than the first interim or annual period beginning after June
15, 2005. Early adoption will be permitted in periods in which financial
statements have not yet been issued. The Company expects to adopt SFAS No.
123(R) on July 3, 2005.
SFAS No. 123(R) permits public companies to adopt its requirements using one of
two methods:
1. A "modified prospective" method in which compensation cost is
recognized beginning with the effective date (a) based on the
requirements of SFAS No. 123(R) for all share-based payments granted
after the effective date and (b) based on the requirements of SFAS No.
123 for all awards granted to employees prior to the effective date of
SFAS No. 123(R) that remain unvested on the effective date.
2. A "modified retrospective" method which includes the requirements of
the modified prospective method described above, but also permits
entities to restate based on the amounts previously recognized under
SFAS No. 123 for purposes of pro forma disclosures either (a) all
prior periods presented or (b) prior interim periods of the year of
adoption.
The Company plans to adopt SFAS No. 123 using the modified-prospective method.
As permitted by SFAS No. 123, the company currently accounts for share-based
payments to employees using the intrinsic value method per APB No. 25,
Accounting for Stock Issued to Employees, and, as such, generally recognizes no
compensation cost for employee stock options. Accordingly, the adoption of SFAS
No. 123(R)'s fair value method will have a significant impact on our result of
operations, although it will have no impact on our overall financial position.
The impact of adoption of SFAS No. 123(R) cannot be predicted at this time
because it will depend on levels of share-based payments granted in the future.
However, had we adopted SFAS No. 123(R) in prior periods, the impact of that
standard would have approximated the impact of SFAS No. 123 as described in the
disclosure of pro forma net (loss) income and (loss) income per share in Note 3
- - Summary of Significant Accounting Policies in the accompanying condensed
consolidated financial statements. SFAS No. 123(R) also requires the benefits of
tax deductions in excess of recognized compensation cost to be reported as a
financing cash flow, rather than as an operating cash flow as required under
current literature. This requirement will reduce net operating cash flows and
increase net financing cash flows in periods after adoption. While the Company
cannot estimate what those amounts will be in the future (because they depend
on, among other things, when employees exercise stock options), the Company has
not recognized any operating cash flows in prior periods for such excess tax
deductions.
10
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment
of ARB No. 43, Chapter 4. SFAS No. 151, amends ARB 43, Chapter 4, to clarify
that abnormal amounts of idle facility expense, freight, handling costs, and
wasted material (spoilage) should be recognized as current-period charges. In
addition, the statement requires that allocation of fixed production overheads
to the cost of conversion be based on the normal capacity of the production
facilities. The provisions of the statement will be effective for inventory
costs incurred during fiscal years beginning after June 15, 2005. The Company is
currently evaluating whether this statement will have a material effect on the
Company's consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities, as amended by Interpretation No. 46R. FASB
Interpretation No. 46R requires consolidation of a variable interest entity if a
company's variable interest absorbs a majority of the entity's losses or
receives a majority of the entity's expected residual returns, or both. The
Company does not have any significant interests in any variable interest
entities and, therefore, the adoption of FASB Interpretation No. 46R during
Fiscal 2004 had no impact on the Company's consolidated financial statements.
NOTE 5 - INVENTORIES:
Inventories consist of the following:
(tables in thousands)
OCTOBER 2, JULY 3,
2004 2004
--------------------- ---------------------
Raw materials, components, and work-in-
process $20,012 $12,378
Finished goods 33,996 40,040
------- -------
Total inventories $54,008 $52,418
======= =======
Inventories, consisting of raw materials, components, work-in-process and
finished goods, are stated at the lower of cost or market value and are
determined on a first-in, first-out basis. Work-in-process and component
inventory costs include materials, labor, and manufacturing overhead. The
Company records lower of cost or market value adjustments based upon changes in
market pricing, customer demand, technological developments or other economic
factors and for on hand excess, obsolete or slow-moving inventory.
During First Quarter Fiscal 2005, the Company recorded inventory related pre-tax
charges of approximately $2.1 million to reduce the carrying value of certain
finished goods, components, work-in-process, raw material, and return camera
inventories below their cost basis to their estimated market value at October 2,
2004. This reduction is primarily attributable to price declines. For the First
Quarter Fiscal 2005, the inventory related pre-tax charges had the effect of
decreasing inventories by $2.1 million and increasing cost of products sold by
$2.1 million.
NOTE 6 - SHORT-TERM BORROWINGS AND FINANCING FACILITIES:
HONG KONG FINANCING FACILITIES
The Company's Hong Kong subsidiary has various revolving demand credit
facilities providing an aggregate of approximately $38.3 million in borrowing
capacity. The revolving credit facilities are comprised of: 1) an approximate
$24.0 million Import Facility with an approximate $2.6 million Packing Credit
and Export sub-limit Facility, 2) an approximate $1.9 million Foreign Exchange
Facility, and 3) an approximate $12.4 million Revolving Facility (collectively,
the "Hong Kong Financing Facilities"). The approximately $12.4 million Revolving
Facility is denominated in European Central Bank Euros, whereas the other
facilities are denominated in Hong Kong dollars. Since 1983, the Hong Kong
Dollar has been pegged to the United States Dollar. The Company guarantees all
of the amounts under the Hong Kong Financing Facilities. Pursuant to an
agreement dated June 10, 2004, the Company's Hong Kong subsidiary granted a
security interest in substantially all of its assets to HSBC. All of the Hong
Kong Financing Facilities are subject to certain covenants, and the Company was
in compliance with such covenants as of October 2, 2004 and July 3, 2004,
respectively. The Hong Kong Financing Facilities bear interest at variable
rates. At October 2, 2004, the Company had $12.4 million and $5.2 million in
short-term borrowings outstanding under the Revolving Facility and Import
Facility, respectively. At July 3, 2004, the Company had $6.2 million and $3.0
million in short-term borrowings outstanding under the Revolving Facility and
Import Facility, respectively. The weighted average borrowing rates on the
short-term borrowings as of October 2, 2004 and July 3, 2004, were 3.69% and
3.44%, respectively. On January 31, 2005, the Company's Hong Kong subsidiary
terminated and repaid the Revolving Facility. See Note 11-Subsequent Events.
11
NOTE 7 - DEFERRED SHARE ARRANGEMENT:
The Company's Deferred Delivery Plan allows designated executive officers to
elect, subject to the approval of the Compensation Committee of the Company's
Board of Directors, to defer the gains on certain stock option exercises by
deferring delivery of the "profit" shares to be received upon exercise.
Pursuant to the Deferred Delivery Plan and an election previously made
thereunder, on August 9, 2004, the Company's Chairman, Chief Executive Officer
and President ("Chairman") tendered 136,269 fully paid and owned shares of
Common Stock to the Company in payment of the exercise price (the "Payment
Shares") of his option to purchase 314,312 shares of Common Stock ("2005
Delivery Plan Transaction"). Upon the 2005 Delivery Plan Transaction, the
136,269 Payment Shares were classified as "Treasury stock" and recorded at a
cost of $373,375. The Company issued 314,312 new shares of Common Stock and
classified them as "Common stock" at a cost of $373,375, of which 136,269 shares
were issued to the Chairman in exchange for the Payment Shares. The remaining
178,043 shares, the delivery of which was deferred by the Chairman, were issued
to a rabbi trust. The 178,043 shares held in the rabbi trust have been recorded
at a cost of $211,500 and are classified as "Common stock held in trust." The
corresponding liability to the Chairman has been recorded at $211,500 and is
classified as "Deferred share arrangement" in the stockholders' equity section
of the condensed consolidated balance sheet.
Pursuant to election previously made under the Deferred Delivery Plan, on July
14, 2003, the Chairman exercised an option to purchase 387,000 shares of Common
Stock and tendered 55,989 fully paid and owned shares of Common Stock to the
Company in payment of the exercise price ("2004 Delivery Plan Transaction").
Upon the 2004 Delivery Plan Transaction, the 55,989 Payment Shares were
classified as "Treasury stock" and recorded at a cost of $482,625. The Company
issued 387,000 new shares of Common Stock and classified them as "Common stock"
at a cost of $482,625 of which 55,989 shares were issued to the Chairman in
exchange for the Payment Shares. The remaining 331,011 shares, the delivery of
which was deferred by the Chairman, were issued to a rabbi trust. The 331,011
shares held in the rabbi trust have been recorded at a cost of $412,825 and have
been classified as "Common stock held in trust." The corresponding liability to
the Chairman has been recorded at $412,825 and is classified as "Deferred share
arrangement" in the stockholders' equity section of the condensed consolidated
balance sheet.
NOTE 8 - COMMITMENTS AND CONTINGENCIES:
LICENSE AND ROYALTY AGREEMENTS
In May 2004, the Company entered into a twenty year, worldwide trademark license
agreement with Jenoptik AG for the exclusive use of the JENOPTIK brand name and
trademark on non-professional consumer imaging products including, but not
limited to, digital, single use and traditional cameras, and other imaging
products and related accessories. The license agreement (the "agreement")
provided for a one-time payment of 1,500,000 euros or approximately $1.8
million, a royalty of one-half of one percent (0.5%) of net sales of
non-professional consumer imaging products bearing the JENOPTIK brand name for
the first ten (10) years of the license and a royalty of six-tenths of one
percent (0.6%) for the second ten (10) years of the license. There are no
minimum guaranteed royalty payments.
12
In August 2002, the Company entered into two world-wide trademark license
agreements with Polaroid Corporation. These agreements provide for the exclusive
(with the exception of products already released by Polaroid into the
distribution chain), worldwide use by the Company of the POLAROID brand
trademark in connection with the manufacture, distribution, promotion and sale
of single use cameras and traditional film based cameras, including zoom
cameras, and certain related accessories. The licenses do not include instant or
digital cameras. Each license includes an initial term of three and a half years
and may be renewed under the same economic terms at the Company's option, for an
additional three-year period. Each license agreement provides for the payment by
the Company of $3.0 million of minimum royalties, or $6.0 million in total,
which amounts have been paid and will be fully credited against percentage
royalties. The minimum royalty payments were recorded as prepaid assets. These
royalty-related assets are amortized based upon a percentage of estimated sales
expected over the remaining life of the licensing agreements.
Effective January 1, 2001, the Company entered into a new twenty-year license
agreement with Fuji Photo Film Ltd ("Fuji"). Under the license agreement,
Fuji granted to the Company a worldwide (excluding Japan until January 1, 2005)
non-exclusive license to use certain of Fuji's patents and patent applications
related to single-use cameras. In consideration of the license, the Company
agreed to pay a license fee and certain royalty payments to Fuji. Accordingly, a
significant portion of the balance for patents, trademarks and licenses, net in
"Other assets" in the accompanying condensed consolidated balance sheets at
October 2, 2004 and July 3, 2004, was an asset associated with the Fuji license.
The Company has also recorded as a liability a corresponding amount that was
included in licensing related obligations in "Other long-term liabilities" in
the accompanying condensed consolidated balance sheets at October 2, 2004 and
July 3, 2004, which was equal to the present value of future license fee
payments. These assets are amortized based on quantities of units produced.
Additionally, the Company has other license and royalty agreements that require
the payment of royalties based on the manufacture and/or sale of certain
products. The Company's license and royalty agreements expire at various dates
through Fiscal 2021. Total amortization and royalty expense for all licensing
and royalty agreements for First Quarter Fiscal 2005 and First Quarter Fiscal
2004, was $1.4 million and $1.8 million, respectively.
INTELLECTUAL PROPERTY CLAIMS
From time to time, the Company receives patent infringement claims which it
analyzes and, if appropriate, takes action to avoid infringement, to settle the
claim or to negotiate a license. Those claims for which legal proceedings have
been initiated against the Company are discussed in Note 9 - Litigation and
Settlements. The Company has also received notifications from three entities,
one of which was a significant customer of the Company (the "customer"),
alleging that certain of the Company's digital products infringe upon those
entities' respective patents. The Company is engaged in discussions with these
three entities regarding resolution of the potential claims.
Based on our initial assessment of the first two claims, the Company is engaged
in licensing negotiations with the customer and the other entity. Based upon the
licensing discussions to date, we preliminarily estimate the potential royalties
due to the customer and the other entity for digital camera sales through
November 30, 2004 to be between $0 and approximately $3.4 million in the
aggregate. The actual royalty amounts, if any, for past and future sales are
dependent upon the outcome of the negotiations. The Company has notified certain
of its suppliers of its right to be indemnified in the event it is required to
pay royalties to either the customer or the other entity. No amounts have been
accrued related to these claims as of October 2, 2004.
With respect to the third claim, it is too early to assess the probability of a
favorable or unfavorable outcome or the loss or range of loss, if any. The
Company is assessing potential claims of indemnification against certain of its
suppliers.
PURCHASE COMMITMENTS
At October 2, 2004, the Company had $11.1 million in non-cancelable purchase
commitments relating to the procurement of raw materials, components, and
finished goods inventory from various suppliers.
13
NOTE 9 - LITIGATION AND SETTLEMENTS:
In July 2002, a class action complaint was filed against the Company and certain
of its officers in the United States District Court for the Southern District of
Florida by individuals purporting to be shareholders of the Company. On August
20, 2002, the Company filed a motion to dismiss the complaint and in December
2002, the Company's motion was granted by the court and the complaint was
dismissed. In January 2003, an amended class action complaint (the "Amended
Complaint") was filed adding certain of the Company's current and former
directors as defendants. The lead plaintiffs in the Amended Complaint sought to
act as representatives of a class consisting of all persons who purchased the
Company's Common Stock (i) issued pursuant to the Company's September 26, 2000
secondary offering (the "Secondary Offering") or (ii) during the period from
September 26, 2000 through June 22, 2001, inclusive. On April 18, 2003, the
Company filed a motion to dismiss the Amended Complaint and on August 27, 2004,
the court (i) dismissed all claims against the defendants related to the
Secondary Offering and (ii) dismissed all claims against the defendants related
to allegations of misconduct occurring before February 2001 or after April 2001
(the period February 2001 through April 2001 hereinafter referred to as the
"Shortened Class Period"). The allegations remaining in the Amended Complaint
are centered around claims that the Company failed to disclose, in periodic
reports it filed with the Securities and Exchange Commission ("SEC") and in
press releases it made to the public during the Shortened Class Period regarding
its operations and financial results, that a large portion of its accounts
receivable was represented by a delinquent and uncollectible balance due from
then customer, KB Gear Interactive, Inc ("KB Gear"), and claims that such
failures artificially inflated the price of the Common Stock. The Amended
Complaint seeks unspecified damages, interest, attorneys' fees, costs of suit
and unspecified other and further relief from the court. The Company intends to
vigorously defend the lawsuit and continues to engage in motion practice to
dismiss or otherwise limit the claims set forth in the Amended Complaint. The
lawsuit is in the earliest stage and discovery has not yet commenced. Although
the Company believes this lawsuit is without merit, its outcome cannot be
predicted, and if adversely determined, the ultimate liability of the Company,
which could be material, cannot be ascertained. On September 17, 2002, the
Company was advised by the staff of the SEC that it is conducting an informal
inquiry related to the matters described above. On October 15, 2002, the staff
of Nasdaq requested certain information and materials related to the matters
described above and as to matters related to the previously reported
embezzlement of Company funds by a former employee, uncovered in April 2002. The
Company has not received any further communication from the SEC with respect to
the informal inquiry or from Nasdaq with respect to their request since the
Company last responded in February 2003.
Between September and November of 2004, a number of related class action
complaints were filed against the Company and certain of its officers in the
United States District Court for the Southern District of Florida by individuals
purporting to be shareholders of the Company. If not dismissed by the court, the
Company expects these cases to be consolidated into one case. The plaintiffs in
these complaints seek to act as representatives of a class consisting of all
persons who purchased the Company's Common Stock during either the period from
August 14, 2003 through May 10, 2004, inclusive, or the period from August 14,
2003 through October 4, 2004, inclusive (the "Class Period"), and who were
allegedly damaged thereby. The allegations in the complaints are centered around
claims that the Company failed to disclose, in periodic reports it filed with
the SEC and in press releases it made to the public during the Class Period
regarding its operations and financial results, the full extent of the Company's
excess, obsolete and otherwise impaired inventory, and claims that such failures
artificially inflated the price of the Common Stock. The complaints seek
unspecified damages, interest, attorneys' fees, costs of suit and unspecified
other and further relief from the court. The Company intends to vigorously
defend the lawsuits. The lawsuits are in the earliest stage and discovery has
not yet commenced. Although the Company believes the lawsuits are without merit,
the outcome cannot be predicted, and if adversely determined, the ultimate
liability of the Company, which could be material, cannot be ascertained. In a
letter dated November 19, 2004, the Company was advised by the staff of the SEC
that it is conducting an investigation related to the matters described above.
The Company has provided to the SEC certain information requested by the SEC and
continues to communicate and cooperate with the SEC with respect to the
investigation and all SEC requests for information.
On November 16, 2004, a shareholder derivative suit was initiated against
certain of the Company's current and former officers and directors, and the
Company as a nominal defendant, in the United States District Court for the
District of New Jersey by an individual purporting to be a shareholder of the
Company. The complaint alleges that the individual defendants breached their
duties of loyalty and good faith by causing the Company to misrepresent its
financial results and prospects, resulting in the class action complaints
described in the preceding paragraph. The complaint seeks unspecified damages,
repayment of salaries and other remuneration from the individual defendants,
interest, attorneys' fees, costs of suit and unspecified other and further
relief from the court. The lawsuit is in the earliest stage and discovery has
not yet commenced. Although the Company believes this lawsuit is without merit,
its outcome cannot be predicted, and if adversely determined, the ultimate
effect on the Company, which could be material, cannot be ascertained.
14
Pursuant to the Company's Certificate of Incorporation, as amended, the personal
liability of the Company's directors is limited to the fullest extent permitted
under the New Jersey Business Corporation Act ("NJBCA"), and the Company is
required to indemnify its officers and directors to the fullest extent permitted
under the NJBCA. In accordance with the terms of the Certificate of
Incorporation and the NJBCA, the Board of Directors approved the payment of
expenses for each of the current and former officers and directors named as
defendants (the "individual defendants") in the above described class action and
derivative action litigation (collectively, the "actions") in advance of the
final disposition of such actions. The individual defendants have executed and
delivered to the Company written undertakings to repay the Company all amounts
so advanced if it shall ultimately be determined that the individual defendants
are not entitled to be indemnified by the Company under the NJBCA.
In April 2004, a patent infringement complaint was filed by Compression Labs,
Inc. against 28 defendants, including the Company, in the United States District
Court for the Eastern District of Texas. The complaint asserts that the
defendants have conducted activities which infringe U.S. Patent No. 4,698,672,
entitled Coding System for Reducing Redundancy. The complaint seeks unspecified
damages, interest, attorneys' fees, costs of suit and unspecified other and
further relief from the court. It is too early to assess the probability of a
favorable or unfavorable outcome or the loss or range of loss, if any. The
Company has notified several third parties of its intent to seek indemnity from
such parties with respect to this action.
On October 6, 2004, a patent infringement complaint was filed by Honeywell
International, Inc. and Honeywell Intellectual Properties, Inc., against 27
defendants, including the Company, in the United States District Court for the
District of Delaware. The complaint asserts that the defendants have conducted
activities which infringe U.S. Patent No. 5,280,371, entitled Directional
Diffuser for a Liquid Crystal Display. The complaint seeks unspecified damages,
interest, attorneys' fees, costs of suit and unspecified other and further
relief from the court. The lawsuit is in the earliest stage, and discovery has
not yet commenced. It is too early to assess the probability of a favorable or
unfavorable outcome or the loss or range of loss, if any. The Company has
notified several third parties of its intent to seek indemnity from such parties
with respect to this action.
The Company is involved from time to time in routine legal matters incidental to
its business. Based upon information known to management, the Company believes
that the resolution of such matters will not have a material adverse effect on
its financial position or results of operations.
NOTE 10 - RELATED PARTY TRANSACTIONS:
From May 1, 2002 through June 15, 2003, William J. Lloyd, who was a member of
the Company's Board of Directors during that time, provided consulting services
to the Company on an as needed basis in exchange for a $5,000 per month retainer
and reimbursement of all reasonable business expenses. The Company accepted Mr.
Lloyd's resignation from the Board of Directors, effective July 31, 2003, and
the consulting relationship was terminated effective June 15, 2003. In
connection with Mr. Lloyd's resignation, the Board approved an extension of the
expiration dates of certain options held by Mr. Lloyd, and the continued vesting
through January 2005 of 12,000 shares subject to one of his options. The
modification of the options' terms resulted in a non-recurring charge of
$105,000 to compensation expense recorded in the First Quarter Fiscal 2004. In
accordance with FASB Interpretation No. 44, Accounting for Certain Transactions
Involving Stock Compensation, an interpretation of APB Opinion No. 25, the
modification of the options' terms did not affect any other options granted
under the relevant stock option plan and did not result in the application of
variable accounting to these options.
NOTE 11 - SUBSEQUENT EVENTS:
Termination and Repayment of Revolving Facility. On January 31, 2005, the
Company's Hong Kong subsidiary terminated its approximately $12.4 million
Revolving Facility (the "Facility") and repaid approximately $13.0 million
(increased from October 2, 2004 quarter-end due to foreign currency rate
fluctuations), constituting all obligations owed thereunder. The Facility was
guaranteed by the Company. Neither the Company nor the Company's Hong Kong
subsidiary incurred any termination fees or penalties in connection with the
repayment and termination of the Facility.
15
Restructuring. As previously announced, on December 6, 2004, the Company
committed to implementing a restructuring plan which involves significantly
reducing its reliance on internally designed and manufactured digital cameras
and increasing the design and co-development of digital cameras with contract
manufacturers. The Company's reliance on internally designed and manufactured
digital cameras is expected to be significantly reduced by the end of the fourth
quarter of Fiscal 2005. The restructuring plan and other cost-reduction
initiatives are a result of the Company's previously announced strategic review
process to determine how the Company may better compete in the digital camera
market. The Company's objective is to significantly reduce costs and expenses
related to the digital camera design and manufacturing process, including
without limitation, (1) capital expenditures, (2) working capital related to raw
materials and components inventory, and (3) digital camera manufacturing
inefficiencies. The Company is continuing to review its strategies including the
extent of its future participation in the digital camera market.
As a result of the restructuring plan, the Company anticipates incurring
restructuring related charges of approximately $6.6 million. Although a
significant portion of these charges were incurred in the second quarter of
Fiscal 2005, additional charges will be incurred during the third and fourth
quarters of Fiscal 2005. The restructuring related charges include approximately
(a) $2.7 million in employee severance and retention costs; and (b) $3.9 million
in anticipated digital camera and component inventory provisions. The Company
also anticipates incurring $0.9 million in accelerated depreciation related to
equipment, tooling and other fixed assets. In addition to the restructuring
related charges and accelerated depreciation, the Company expects to incur
approximately $1.3 million in expenses related to the implementation of other
cost-reduction initiatives during the second, third and fourth quarters of
Fiscal 2005. The Company anticipates that the expenses related to the
cost-reduction initiatives, restructuring related charges, and the accelerated
depreciation will total approximately $8.8 million of which approximately $4.0
million in cash will be disbursed in Fiscal 2005.
Nasdaq Delisting Notification. The Company previously announced that it received
a letter from the Nasdaq Listing Qualifications Staff notifying the Company
that, because of the Company's delay in timely filing its Quarterly Report on
Form 10-Q for its first fiscal quarter ended October 2, 2004 ("First Quarter
Form 10-Q"), the Company is not in compliance with the filing requirements for
continued listing on Nasdaq as set forth in Nasdaq Marketplace Rule 4310(c)(14).
The conversion of our management information systems in August 2004 from our
existing Legacy systems to a new world-wide, fully integrated Enterprise
Resource Planning ("ERP") System resulted in inefficiencies and delays in
providing certain information necessary to timely file our First Quarter Form
10-Q. As a result, the Company's common shares are subject to delisting from the
Nasdaq National Market, and the trading symbol for the Company's common stock
was changed from "LENS" to "LENSE" at the opening of business on November 26,
2004. The Company appealed Nasdaq's determination and requested an exception to
regain compliance with the Nasdaq listing standards. In its appeal, the Company
advised Nasdaq that it expected to file its First Quarter Form 10-Q on or before
January 31, 2005. The Company subsequently modified its request for an exception
to regain compliance with the listing standards and advised Nasdaq that it
expected to file its First Quarter Form 10-Q on or before February 14, 2005 and
its Quarterly Report on Form 10-Q for the second quarter of Fiscal 2005 ("Second
Quarter 10-Q") on or before March 31, 2005. Nasdaq notified the Company on
February 10, 2005 that it granted the Company's request for an exception and for
continued listing on the Nasdaq National Market, subject to (a) the Company
disclosing preliminary unaudited financial results for First Quarter Fiscal 2005
on or before February 15, 2005; (b) the Company filing its First Quarter 10-Q on
or before February 18, 2005; and (c) the Company filing its Second Quarter 10-Q
on or before March 31, 2005. In addition, Nasdaq specified that the Company must
be able to demonstrate compliance with all requirements for continued listing on
the Nasdaq National Market. The Company's trading symbol for its common stock
will remain "LENSE" pending a determination by Nasdaq that the Company is fully
compliant with all Nasdaq listing requirements. Nasdaq reserves the right to
reconsider the terms of this exception based on any event, condition, or
circumstance that exists or develops that would make continued listing of the
Company's securities on the Nasdaq National Market inadvisable or unwarranted.
Furthermore, the Nasdaq Listing and Hearing Review Council may, on its own
motion, review the decision within 45 calendar days, and may affirm, modify,
reverse, dismiss or remand the decision. The Company's securities have remained
listed pending the results of the appeal.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
Annual Report on Form 10-K, including the consolidated financial statements, and
the related notes thereto, for the fiscal year ended July 3, 2004 ("Fiscal
2004"), of Concord Camera Corp. and subsidiaries (collectively referred to as
"Concord," the "Company," "we," "us," or "our"). Except for historical
information contained herein, the matters discussed below are forward-looking
statements made pursuant to the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995. Such statements involve risks and uncertainties,
including but not limited to economic, governmental, political, competitive and
technological factors affecting our operations, markets, products, prices and
other factors discussed elsewhere in this report and other reports filed by us
with the Securities and Exchange Commission ("SEC"). These factors may cause
results to differ materially from the statements made in this report or
otherwise made by or on our behalf. See "Forward-Looking Information: Certain
Cautionary Statements" below.
16
OVERVIEW
This overview should be read in conjunction with the overview in Management's
Discussion and Analysis of Financial Condition and Results of Operations in our
Annual Report on Form 10-K for Fiscal 2004.
We design, develop, manufacture and sell on a worldwide basis popularly priced,
easy-to-use image capture products. Our products include digital, 35 mm
traditional and single use cameras. We manufacture and assemble products in the
Peoples Republic of China ("PRC") for sales to our retail sales and distribution
("RSD") customers and to our design and manufacturing services ("DMS")
customers. We also purchase a significant amount of products from third-party
manufacturers for sale to our RSD customers. We expect purchases from
third-party manufacturers to continue to increase in Fiscal 2005 and ensuing
years as a result of our restructuring plan and to ensure that we deliver the
optimal product mix on a timely and cost effective basis to our customers.
During the fourth quarter of Fiscal 2004, the Company acquired Jenimage Europe
GmbH, a German corporation ("Jenimage"). Accordingly, the First Quarter Fiscal
2005 results include three months of Jenimage's operating results. Pro forma
information relating to Jenimage is not included in this report as it is not
required.
As previously reported, Fiscal 2004 losses were primarily attributable to our
digital camera products. As a result, in Fiscal 2004, we initiated a strategic
review process to determine how we may better compete in the digital camera
market. As part of this process, we evaluated and continue to evaluate a number
of strategies related to digital cameras. The strategic review process
undertaken in Fiscal 2004 led to the restructuring plan and other cost-reduction
initiatives announced and implemented in December 2004. The restructuring plan
involves significantly reducing our reliance on internally designed and
manufactured digital cameras and increasing the design and co-development of
digital cameras with contract manufacturers. The objective of the restructuring
plan and other cost-reduction initiatives is to significantly reduce costs and
expenses and to achieve a more competitive business model with a goal to return
to profitability. We are continuing to review our strategies including the
extent of our future participation in the digital camera market.
We anticipate that the expenses relating to the cost-reduction initiatives,
restructuring related charges and accelerated depreciation will total
approximately $8.8 million, of which approximately $4.0 million in cash will be
disbursed in Fiscal 2005. We expect to incur approximately $6.6 million in
restructuring related charges. Although a significant portion of these charges
were incurred in the second quarter of Fiscal 2005, additional charges will be
incurred during the third and fourth quarters of Fiscal 2005. The Company also
anticipates incurring $0.9 million in accelerated depreciation related to
equipment, tooling and other fixed assets. In addition to restructuring related
charges and accelerated depreciation, the Company expects to incur approximately
$1.3 million in expenses related to the implementation of other cost-reduction
initiatives during the second, third, and fourth quarters of Fiscal 2005. See
"Restructuring" in Note 11 - Subsequent Events in the Notes to Condensed
Consolidated Financial Statements. The cost reductions resulting from the
restructuring plan and other cost-reduction initiatives are expected to be
realized in the second half of Fiscal 2005 and in Fiscal 2006.
During First Quarter Fiscal 2005, the Company implemented its new world-wide,
fully integrated Enterprise Resource Planning System ("ERP System"), in part to
address certain reportable conditions and material weaknesses in the Company's
internal controls and to improve the overall effectiveness of the Company's
internal controls and disclosure controls. Although the Company believes that
effective and efficient operation of the ERP System will reduce the reportable
conditions and material weaknesses and improve the overall effectiveness of the
Company's internal controls and disclosure controls, the Company experienced
significant operational issues in connection with the implementation of the ERP
System that caused significant delays in accumulating data, performing analysis
and evaluating results necessary to support the timely preparation of the
Company's First Quarter 10-Q. As a result, the financial statement closing
process deteriorated significantly during First Quarter Fiscal 2005. As we
become more proficient in operating the ERP System, we believe our internal
controls and disclosure controls will improve. See Item 4 - Controls and
Procedures.
17
The loss in First Quarter Fiscal 2005 was higher than First Quarter Fiscal 2004
due to the following factors:
1. Lower single use and digital camera net sales and gross
profits;
2. Digital camera and component inventory provisions;
3. Lower single use and digital camera production volumes
resulting in under absorption of manufacturing labor and
overhead and other costs; and
4. Higher selling costs.
1. Lower Single Use and Digital Camera Net Sales and Gross Profits.
During First Quarter Fiscal 2005, we experienced a reduction in single use
camera sales resulting primarily from (a) reduced sales to a significant retail
customer due to overstocked inventory levels, and (b) reduced sales to Kodak as
a result of winding down of purchases under our two DMS contracts with Kodak.
Reduced single use camera sales volume resulted in lower gross profit.
Additionally, we continued to experience significant competition in the digital
camera market in the United States and Europe. While the aggregate volume of
digital camera sales increased over last year's comparable period due to the
inclusion of Jenimage, average digital camera selling prices declined because of
competitive pricing and weak sell through with certain retail customers. As
needed, we reduced the selling prices of certain of our digital camera products
to meet this significant competition. These reduced selling prices led to lower
gross profit on digital cameras.
2. Digital Camera and Component Inventory Provisions
Significant competition resulted in substantial price declines in digital
cameras. These price declines resulted in lower gross profits and a $2.1 million
inventory charge to lower the carrying values of certain digital camera
components, finished goods, and return camera inventory below their cost basis
to their estimated market values. Sales of certain digital cameras whose
carrying values have been lowered in the prior and current period to estimated
market values resulted in significantly lower gross profit. Further, we continue
to anticipate that for the remainder of Fiscal 2005 sales of certain digital
cameras whose carrying values were reduced previously and in this quarter will
result in significantly lower gross profit in both dollars and as a percentage
of net sales as there will be lower selling prices on the sales of these
products.
3. Lower Single Use and Digital Camera Production Volumes Resulting in Under
Absorption of Manufacturing Labor and Overhead and Other Costs.
Decreased demand for single use and digital cameras and, therefore, lower
production volumes in our manufacturing facilities created significant under
absorption of manufacturing labor and overhead and other costs. These factors
led to significantly lower gross profit in both dollars and as a percentage of
sales.
4. Higher Selling Costs
We incurred higher selling costs primarily from the cost of additional sales and
marketing personnel, royalty expense related to the Polaroid brand licenses and
increases in freight-related shipping costs. In addition, selling costs
increased due to Jenimage.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements and related disclosures in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the Condensed Consolidated Financial Statements and Notes thereto. Our
application of accounting policies affects these estimates and assumptions.
Actual results could differ from these estimates under different assumptions or
conditions. We believe the following critical accounting policies affect the
more significant estimates and assumptions used in the preparation of our
Condensed Consolidated Financial Statements and Notes thereto:
18
REVENUE RECOGNITION
The Company recognizes revenue, in accordance with SAB Nos. 101 and 104, when
title and risk of loss are transferred to the customer, the sales price is fixed
or determinable, and collectibility is probable. Title and risk of loss
generally transfer when the product is delivered to the customer or upon
shipment, depending upon negotiated contractual arrangements. Revenues are
recorded net of anticipated returns which the Company estimates based on
historical rates of return, adjusted for current events as appropriate, in
accordance with Statement of Financial Accounting Standard No. 48, Revenue
Recognition When Right of Return Exists ("SFAS No. 48"). If actual future
returns are higher than estimated, then net sales could be adversely affected.
Management has assessed the appropriateness of the timing of revenue recognition
in accordance with SFAS No. 48. After considering the requirements of SFAS No.
48, the Company concluded it would delay recognition of revenue from one
customer during First Quarter Fiscal 2005 until such customer's transactions
meet all of the requirements of SFAS No. 48.
The Company may enter into arrangements to offer certain pricing discounts and
allowances that do not provide an identifiable separate benefit or service or
may enter into arrangements to provide certain free products. In accordance with
Emerging Issues Task Force ("EITF") Issue No. 01-09, Consideration Given by a
Vendor to a Customer (Including a Reseller of the Vendor's Products), the
Company records the pricing discounts and allowances as a reduction of sales and
records the cost of free products ratably into cost of products sold based upon
the underlying revenue transaction.
ADVERTISING AND PROMOTIONAL ALLOWANCES
Advertising and promotional costs, which include advertising allowances and
other discounts, have been expensed as incurred. In accordance with EITF Issue
No. 00-25, Vendor Income Statement Characterization of Consideration from a
Vendor to a Retailer, which addresses the statement of operations classification
of consideration between a vendor and a retailer, the Company has recorded
certain variable selling expenses including advertising allowances, other
discounts, and other allowances as a reduction of net sales.
PROVISION FOR DOUBTFUL ACCOUNTS
The provision for doubtful accounts is based on our assessment of the
collectibility of specific customer accounts and the aging of accounts
receivable. If there is a deterioration of a major customer's credit worthiness
or actual defaults are higher than our historical experience, our estimates of
the recoverability of amounts owed to us could be adversely affected.
INVENTORIES
Inventory purchases and commitments are based upon future demand forecasts. If
(i) there is a sudden and significant decrease in demand for our products; (ii)
there is a higher rate of inventory obsolescence because of rapidly changing
technology and customer requirements; and/or (iii) the market value and selling
prices of our products to our customers decline or the price at which these
customers can purchase similar products from other manufacturers is lower than
ours, we may be required to reduce our inventory values resulting from lower of
cost or market value adjustments and our gross profit could be adversely
affected. The obsolescence risk related to digital cameras and digital camera
components is more significant than traditional 35 mm and single use cameras due
to rapid technological changes in the digital camera market.
DEFERRED INCOME TAXES
The deferred income tax asset valuation allowance is based on our assessment of
the realizability of our deferred income tax assets on an ongoing basis and may
be adjusted from time to time as necessary. In determining the valuation
allowance, we have considered future taxable income and the feasibility of tax
planning initiatives and strategies. Should we determine that it is more likely
than not that we will realize certain of our deferred income tax assets in the
future, an adjustment would be required to reduce the existing valuation
allowance and increase income. Conversely, if we determine that we would not be
able to realize a recorded deferred income tax asset, an adjustment to increase
our valuation allowance would be charged to the results of operations in the
period such conclusion was made. Such charge could have an adverse effect on our
provision for income taxes included in our results of operations. Currently, the
Company has recorded a valuation allowance for the entire balance of its
deferred income tax assets as of October 2, 2004.
19
SALES RETURNS
We establish a provision for estimated sales returns based on historical product
return trends. If the actual future returns are higher than we estimated our net
sales could be adversely affected.
IMPAIRMENT OF LONG-LIVED AND OTHER ASSETS
The Company continually evaluates whether events and circumstances have occurred
that provide indications of impairment. The Company records an impairment loss
when indications of impairment are present and when undiscounted cash flows
estimated to be generated by those assets are less than the assets' carrying
amounts. For royalty-related assets, we will record an impairment loss if the
total expected royalty payments to be made over the life of an agreement,
excluding any minimum required payments, are less than the royalty-related
assets' carrying value. The total expected royalty payments to be made over the
life of an agreement are dependent on management's estimates about future sales
volumes. Because judgment is required to estimate future sales volumes, the
estimates are not necessarily indicative of the sales volumes that will actually
be realized in the future. Such assets that are reviewed include patents,
prepaid amounts related to licensing and royalty agreements, and certain
property, plant and equipment.
ACCOUNTING FOR LITIGATION AND SETTLEMENTS
We are involved in various legal proceedings. Due to their nature, such legal
proceedings involve inherent uncertainties including, but not limited to, court
rulings, negotiations between affected parties and the possibility of
governmental intervention. Management assesses the probability of loss for such
contingencies and accrues a liability and/or discloses the relevant
circumstances, as appropriate. While certain of these matters involve
substantial amounts, management believes based on information known to
management to date that the ultimate resolution of such legal proceedings will
not have a material adverse effect on the financial condition or results of
operations of the Company taken as a whole.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
For a discussion of recently issued accounting pronouncements, see Note 4 -
Recently Issued Accounting Pronouncements in the Notes to Condensed Consolidated
Financial Statements.
RESULTS OF OPERATIONS
QUARTER ENDED OCTOBER 2, 2004 COMPARED TO THE QUARTER ENDED SEPTEMBER 27, 2003
NET SALES
Net sales for the First Quarter Fiscal 2005 were $43.0 million, a decrease of
$14.4 million, or 25.1 %, as compared to net sales for the quarter ended
September 27, 2003 ("First Quarter Fiscal 2004"). The decrease in net sales was
mostly due to a reduction in single use cameras sold to RSD and DMS customers,
and lower average selling prices for digital cameras resulting from significant
pricing competition. This reduction in net sales was partially offset by net
sales related to Jenimage.
RSD net sales were $34.8 million for the First Quarter Fiscal 2005, a decrease
of $7.6 million, or 17.9 %, as compared to the First Quarter Fiscal 2004, and
accounted for 80.9 % of total net sales. DMS net sales were $8.2 million for the
First Quarter Fiscal 2005, a decrease of $6.8 million, or 45.3 %, as compared to
the First Quarter Fiscal 2004, and accounted for 19.1 % of total net sales. The
decrease in DMS net sales was primarily attributable to lower sales to Kodak,
for whom the Company manufactured products under two DMS agreements. Sales to
Kodak in the First Quarter Fiscal 2005 accounted for 18.1% of total net sales,
or $7.8 million, while in First Quarter Fiscal 2004, sales to Kodak accounted
for 20.6% of total net sales, or $11.8 million. As previously reported, we have
received notification from Kodak that it intends to cease purchases under the
two DMS contracts by the end of the second quarter of Fiscal 2005. We expect
that the cessation of sales to Kodak will have a material adverse effect on our
results of operations in the third and fourth quarters of Fiscal 2005 unless we
are able to substantially increase sales to other customers. See Note 2 -
Significant Customers in the Notes to Condensed Consolidated Financial
Statements.
20
RSD net sales from our operations in the Americas for the First Quarter Fiscal
2005 were $16.9 million, a decrease of $15.0 million, or 47.0%, as compared to
the First Quarter Fiscal 2004. The decrease in RSD net sales was due primarily
to reduced sales of single use cameras to a significant retail customer due to
this retailer's overstocked inventory levels. This decrease in sales had a
material adverse impact on First Quarter Fiscal 2005 results of operations. We
expect sales to this customer will increase as this customer's inventory levels
decrease. See Note 2 - Significant Customers in the Notes to Condensed
Consolidated Financial Statements. Lower digital camera average selling prices
also contributed to the sales decline.
RSD net sales from our operations in Europe for the First Quarter Fiscal 2005
were $17.0 million, an increase of $7.3 million, or 75.3 %, as compared to the
First Quarter Fiscal 2004. This increase was attributable to the inclusion of
Jenimage.
Net sales from our operations in Asia for the First Quarter Fiscal 2005 were
$9.1 million, a decrease of $6.7 million, or 42.4 %, as compared to the First
Quarter Fiscal 2004. The decrease was attributable primarily to a reduction in
sales volume to Kodak partially offset by sales from our new subsidiary in
Japan.
GROSS PROFIT
Gross profit for the First Quarter Fiscal 2005 was $ 0.5 million, or 1.2% of net
sales, versus gross profit of $10.7 million, or 18.7% of net sales, in the First
Quarter Fiscal 2004. During First Quarter Fiscal 2005, gross profit, in dollars
and as a percentage of net sales, was negatively affected by the reduced sales
volume of single use cameras, lower average selling prices for digital cameras
and a $2.1 million pre-tax charge to cost of products sold to lower the carrying
value of certain digital camera and component inventories and return products
below their cost basis to their market value. In addition, lower demand for
single use and digital cameras and, therefore, lower production volumes in our
manufacturing facilities created under absorption of manufacturing labor and
overhead and other costs. This under absorption contributed to the decrease in
gross profit in dollars and as a percentage of sales.
Product engineering, design and development costs for First Quarter Fiscal 2005
and First Quarter Fiscal 2004, in dollars and as a percentage of net sales, were
$2.5 million (5.8 %) and $2.5 million (4.4%), respectively. We expect
engineering, design and product development expenses to decrease during the
remainder of Fiscal 2005 as we increase our purchases of digital cameras from
third-party manufacturers in connection with our restructuring plan. For further
discussion, see "Inventories" in the Critical Accounting Policies above, and
"Restructuring" in Note 11 - Subsequent Events in the Notes to Condensed
Consolidated Financial Statements.
OPERATING EXPENSES
Selling expenses for First Quarter Fiscal 2005 were $4.0 million, or 9.4 % of
net sales, compared to $2.4 million, or 4.1% of net sales, for First Quarter
Fiscal 2004. The increase was primarily due to the cost of additional sales and
marketing personnel, royalty expense related to the Polaroid brand licenses, and
increases in freight-related shipping costs. Selling expenses in First Quarter
Fiscal 2005 included costs incurred by Jenimage.
General and administrative ("G&A") expenses for First Quarter Fiscal 2005 were
$6.4 million, or 15.0 % of net sales, compared to $6.0 million, or 10.4% of net
sales, for First Quarter Fiscal 2004. The increase in G&A expenses was primarily
due to recording expenses of $0.6 million related to previously capitalized
costs incurred in connection with potential acquisitions, partially offset by
decreases in professional fees associated with designing and installing our
Enterprise Resource Planning System and costs associated with implementing
measures necessary to comply with Sarbanes-Oxley. G&A expenses in First Quarter
Fiscal 2005 include costs incurred by Jenimage. We expect costs associated with
Sarbanes-Oxley compliance measures will increase during the third and fourth
quarters of Fiscal 2005.
21
Variable stock-based compensation expense for First Quarter Fiscal 2005 was $0
because the common stock price was lower than the repriced options' exercise
price of $5.97 at the beginning and end of the fiscal period. Variable
stock-based compensation expense for First Quarter Fiscal 2004 was $3.1 million
because the Company's stock price on September 27, 2004 was above the repriced
options' exercise price of $5.97. See Note 3 - Summary of Significant Accounting
Policies in the Notes to Condensed Consolidated Financial Statements.
INTEREST EXPENSE
Interest expense was $0.2 million for both First Quarter Fiscal 2005 and First
Quarter Fiscal 2004.
OTHER INCOME, NET
Other income, net was $1.0 million and $0.1 million for the First Quarter Fiscal
2005 and the First Quarter Fiscal 2004, respectively. The increase is primarily
attributable to foreign exchange gains. See Note 3 - Summary of Significant
Accounting Policies in the Notes to Condensed Consolidated Financial Statements.
INCOME TAXES
Management periodically evaluates the realizability of the Company's deferred
income tax assets. As part of assessing the realizability of its deferred income
tax assets, management evaluated whether it is more likely than not that some
portion, or all of its deferred income tax assets, will be realized. The
realization of its U.S., Europe and Hong Kong deferred income tax assets related
directly to the Company's tax planning initiatives and strategies for U.S.
federal and state, Europe, Japan and Hong Kong tax purposes. In the First
Quarter Fiscal 2005 and Fourth Quarter of Fiscal 2004, based on all the
available evidence, management determined that it was not more likely than not
that its deferred income tax assets will be fully realized. Accordingly, the
Company recorded a valuation allowance for the entire balance of its deferred
income tax assets as of October 2, 2004 and July 3, 2004.
The Company estimates its interim effective tax rate before consideration of a
valuation allowance based upon its projected consolidated annual effective
income tax rate. This rate is largely a function of the amounts of pre-tax
income or loss attributed to both domestic and foreign operations, the
application of their respective statutory tax rates and the anticipated
utilization of available net operating loss carryforwards to reduce taxable
income. A significant portion of the Company's pre-tax loss was generated in
Hong Kong, where the statutory tax rate is 8.75%. The Company recorded a
provision (benefit) for income taxes of $60,000 and $(88,000) for First Quarter
Fiscal 2005 and First Quarter Fiscal 2004, respectively. The First Quarter
Fiscal 2005 income tax provision relates to income tax liabilities incurred by
certain of the Company's foreign subsidiaries. These foreign subsidiaries do not
have net operating losses to offset such liabilities.
NET LOSS
As a result of the matters described above, we incurred a net loss of $(9.3)
million, or $(0.32) per diluted common share, for the First Quarter Fiscal 2005
as compared to a net loss of $(0.6) million, or $(0.02) per diluted common
share, for the First Quarter Fiscal 2004.
LIQUIDITY AND CAPITAL RESOURCES
We are not aware of factors that are reasonably likely to adversely affect
liquidity trends, other than those factors summarized under the caption "Risk
Factors" in this report and in our most recent Annual Report filed with the SEC
on Form 10-K for Fiscal 2004. We do not have, nor do we engage in, transactions
with any special purpose entities. We are not engaged in hedging activities and
had no forward exchange contracts outstanding at October 2, 2004. In the
ordinary course of business, we enter into operating lease commitments, purchase
commitments and other contractual obligations. These transactions are recognized
in our financial statements in accordance with accounting principles generally
accepted in the United States, and are more fully discussed below.
22
We believe that our cash and cash equivalents, short-term investments,
anticipated cash flow from operations, and amounts available under our credit
facilities provide sufficient liquidity and capital resources for our
anticipated short-term working capital and capital expenditure requirements as
well as our anticipated long-term working capital and capital expenditure
requirements for the foreseeable future.
Working Capital - At October 2, 2004, we had working capital of $90.7 million
compared to $100.6 million at July 3, 2004, a decrease of $9.9 million.
Cash Provided By Operating Activities - Cash provided by operating activities
during First Quarter Fiscal 2005 was $1.1 million, which compared favorably to
cash provided by operating activities of $0.4 million for the First Quarter
Fiscal 2004. The changes in cash provided by operating activities for the
respective fiscal quarters were primarily attributable to net loss offset
primarily by changes in accounts payable and accounts receivable.
Cash Used in Investing Activities - Capital expenditures for First Quarter
Fiscal 2005 and First Quarter Fiscal 2004 were ($1.0) million and ($0.5)
million, respectively, and related primarily to expenditures on plant and
equipment for our manufacturing facilities in the PRC. Purchases of short-term
investments were ($0.5) million both in First Quarter Fiscal 2005 and First
Quarter Fiscal 2004.
Cash Provided by Financing Activities - Cash provided by financing activities
for First Quarter Fiscal 2005 and First Quarter Fiscal 2004 was approximately
$8.4 million and $0.7 million, respectively. The increase related primarily to
proceeds received from borrowing under short-term credit facilities of
approximately $8.4 million in Fiscal 2005.
Operating Leases- We enter into operating leases in the ordinary course of
business (e.g., warehouse facilities, office space and equipment) where the
economic profile is favorable. The effects of outstanding leases are not
material to us in terms of either annual cash flow or total future minimum
payments.
Purchase Commitments - As part of the ordinary course of our business, we enter
into and have purchase commitments for materials, supplies, services, and
property, plant and equipment. At October 2, 2004, the Company had $11.1 million
in non-cancellable purchase commitments relating to the purchase of raw
materials, components and finished goods inventory from various suppliers. Such
commitments are not at prices in excess of current market values.
Other Contractual Obligations - We do not have any material financial guarantees
or other contractual commitments that are reasonably likely to have an adverse
affect on liquidity. See Hong Kong Financing Facilities below for additional
information about our financial guarantees. See also Note 8 Commitments and
Contingencies in the Notes to Condensed Consolidated Financial Statements.
Hong Kong Financing Facilities - The Company's Hong Kong subsidiary has various
revolving demand credit facilities providing an aggregate of approximately $38.3
million in borrowing capacity. The revolving credit facilities are comprised of:
1) an approximate $24.0 million Import Facility with an approximate $2.6 million
Packing Credit and Export sub-limit Facility, 2) an approximate $1.9 million
Foreign Exchange Facility, and 3) an approximate $12.4 million Revolving
Facility (collectively, the "Hong Kong Financing Facilities"). The approximately
$12.4 million Revolving Facility is denominated in European Central Bank Euros,
whereas the other facilities are denominated in Hong Kong dollars. Since 1983
the Hong Kong Dollar has been pegged to the United States Dollar. The Company
guarantees all of the amounts under the Hong Kong Financing Facilities. Pursuant
to an agreement dated June 10, 2004, the Company's Hong Kong subsidiary granted
a security interest in substantially all of its assets to HSBC. All of the Hong
Kong Financing Facilities are subject to certain covenants, and the Company was
in compliance with all such covenants as of October 2, 2004 and July 3, 2004.
The Hong Kong Financing Facilities bear interest at variable rates. At October
2, 2004, the Company had $12.4 million and $5.2 million in short-term borrowings
outstanding under the Revolving Facility and Import Facility, respectively. At
July 3, 2004, the Company had $6.2 million and $3.0 million in short-term
borrowings outstanding under the Revolving Facility and Import Facility,
respectively. The weighted average borrowing rates on the short-term borrowings
as of October 2, 2004 and July 3, 2004, were 3.69 % and 3.44%, respectively. The
Company's Hong Kong subsidiary terminated the Revolving Facility and repaid
approximately $13.0 million, constituting all obligations owed thereunder, on
January 31, 2005. The Revolving Facility was guaranteed by the Company. Neither
the Company nor the Company's Hong Kong subsidiary incurred any termination fees
or penalties in connection with the repayment and termination of the Revolving
Facility.
23
License Agreements - See Note 8 -Commitments and Contingencies in the Notes to
Condensed Consolidated Financial Statements.
Intellectual Property Claims - See Note 8 Commitments and Contingencies and Note
9 - Litigation and Settlements in the Notes to Condensed Consolidated Financial
Statements.
GROWTH OPPORTUNITIES
We are evaluating various growth opportunities that could require significant
funding commitments. We have from time to time held, and will continue to hold,
discussions and negotiations with (i) companies that represent potential
acquisition or investment opportunities, (ii) potential strategic and financial
investors who may have an interest in making an investment in or acquiring us,
(iii) potential joint venture partners looking toward formation of strategic
alliances that would broaden our product base or enable us to enter new lines of
business and (iv) potential new and existing DMS customers where the design,
development and production of new products, including certain new technologies,
would enable us to expand our existing business, and enter new markets. However,
there can be no assurance that any definitive agreement will be reached
regarding any of the foregoing.
FORWARD-LOOKING INFORMATION: CERTAIN CAUTIONARY STATEMENTS
The statements contained in this report that are not historical facts are
"forward-looking statements" (as such term is defined in the Private Securities
Litigation Reform Act of 1995), which can be identified by the use of
forward-looking terminology such as: "estimates," "projects," "anticipates,"
"expects," "intends," "believes," "plans," or the negative thereof or other
variations thereon or comparable terminology, or by discussions of strategy that
involve risks and uncertainties. Our actual results could differ materially from
those anticipated in such forward-looking statements as a result of certain
factors. For a discussion of some of the factors that could cause actual results
to differ, see the discussion under "Risk Factors" below and in our most recent
Annual Report on Form 10-K for Fiscal 2004 filed with the SEC and subsequently
filed reports. We wish to caution the reader that these forward-looking
statements, including statements regarding expected cost savings, our ability to
meet customer demands and fulfill customer service obligations, anticipated or
expected results, the implementation of our restructuring plan and other
cost-reductions initiatives, anticipated financial benefits of significantly
reducing our reliance on internally designed and manufactured digital cameras
and increasing the design and co-development of digital cameras with contract
manufacturers, the development of our business, anticipated revenues or capital
expenditures, projected profits or losses and other statements contained in this
report regarding matters that are not historical facts, are only estimates or
predictions. No assurance can be given that future results will be achieved.
Actual events or results may differ materially as a result of risks facing us or
actual results differing from the assumptions underlying such statements. In
particular, our expected results could be adversely affected by production
difficulties or economic conditions negatively affecting the market for our
products or by our inability to successfully develop and maintain relationships
with contract manufacturers. Obtaining the results expected from the
introduction of new products may require timely completion of development,
successful ramp-up of full-scale production on a timely basis and customer and
consumer acceptance of those products. In addition, current or future DMS
relationships or agreements may require an ability to meet high quality and
performance standards, to successfully implement production at greatly increased
volumes and to sustain production at greatly increased volumes, as to all of
which there can be no assurance. There also can be no assurance that products
under development will be successfully developed or that once developed such
products will be commercially successful. Any forward-looking statements
contained in this report represent our estimates only as of the date of this
report, or as of such earlier dates as are indicated herein, and should not be
relied upon as representing our estimates as of any subsequent date. While we
may elect to update forward-looking statements at some point in the future, we
specifically disclaim any obligation to do so, even if our estimates change.
24
RISK FACTORS
You should carefully consider the following risks regarding our Company. These
and other risks could materially and adversely affect our business, results of
operations or financial condition. You should also refer to the other
information contained or incorporated by reference in this report, including the
"Risk Factors" described in our most recent Annual Report on Form 10-K for
Fiscal 2004 filed with the SEC and any subsequently filed reports.
A DELISTING OF OUR COMMON STOCK COULD HAVE A SUBSTANTIAL EFFECT ON THE PRICE AND
LIQUIDITY OF OUR COMMON STOCK AND ADVERSELY AFFECT OUR ABILITY TO ACCESS CAPITAL
MARKETS.
Due to our delay in filing this quarterly report on Form 10-Q for First Quarter
Fiscal 2005, the Company was notified by Nasdaq that the Company's securities
are subject to delisting from The Nasdaq Stock Market. We have since notified
Nasdaq that our Form 10-Q for the second quarter of Fiscal 2005 will not be
timely filed. Nasdaq notified the Company on February 10, 2005 that it granted
the Company's request for an exception and for continued listing on the Nasdaq
National Market, subject to (a) the Company disclosing preliminary unaudited
financial results for First Quarter Fiscal 2005 on or before February 15, 2005;
(b) the Company filing its First Quarter 10-Q on or before February 18, 2005;
and (c) the Company filing its Second Quarter 10-Q on or before March 31, 2005.
In addition, Nasdaq specified that the Company must be able to demonstrate
compliance with all requirements for continued listing on the Nasdaq National
Market. Nasdaq reserves the right to reconsider the terms of this exception
based on any event, condition, or circumstance that exists or develops that
would make continued listing of the Company's securities on the Nasdaq National
Market inadvisable or unwarranted. Furthermore, the Nasdaq Listing and Hearing
Review Council (the "Review Council") may, on its own motion, review the
decision within 45 calendar days, and may affirm, modify, reverse, dismiss or
remand the decision. We cannot assure you that we will be able to satisfy the
conditions specified by Nasdaq for continued listing, that the Review Council
will not delist our common stock or that Nasdaq will not initiate delisting
proceedings in the future if we are unable to file future periodic reports on
time or comply with other listing requirements. See Note 11 - Subsequent Events
in the Notes to Condensed Consolidated Financial Statements. A delisting of our
common stock from Nasdaq could materially reduce the liquidity of our common
stock which may result in a material reduction in the price of our common stock.
In addition, any such delisting could harm our ability to raise capital through
alternative financing sources on terms acceptable to us, or at all, and may
result in the loss of confidence in our financial stability by suppliers,
customers and employees. If our securities are delisted by Nasdaq, we may face a
lengthy process to relist our securities if we are able to relist them at all.
WE MAY NOT BE SUCCESSFUL IN IMPLEMENTING OUR RESTRUCTURING PLAN AND OTHER
COST-REDUCTION INITIATIVES.
In December 2004, we committed to implementing a restructuring plan and other
cost-reduction initiatives that, among other things, involve significantly
reducing our reliance on internally designed and manufactured digital cameras
and increasing the design and co-development of digital cameras with contract
manufacturers. We expect to incur significant restructuring charges and expenses
as a result of these initiatives. The expected benefits from the restructuring
plan and other cost-reduction initiatives are subject to many estimates and
assumptions, including, but not limited to, assumptions regarding: (1) the
amount and timing of cost reductions we can achieve; (2) our ability to develop
and maintain relationships with contract manufacturers for the design and
co-development of our digital camera products; (3) our ability to meet customer
demands and fulfill customer service obligations; and (4) the costs and timing
of activities undertaken in connection with these initiatives. In addition,
these estimates and assumptions are subject to significant economic, competitive
and other uncertainties that are beyond our control. If these assumptions are
not realized, or if other unforeseen events occur, our restructuring plan and
other cost-reduction initiatives may not be successful, our results of
operations could be adversely affected, and our ability to compete could be
negatively affected. See Note 11 - Subsequent Events in the Notes to Condensed
Consolidated Financial Statements.
IF WE CONTINUE TO INCUR SUBSTANTIAL LOSSES, WE MAY NOT HAVE SUFFICIENT LIQUIDITY
TO MEET OUR WORKING CAPITAL NEEDS.
Although the Company believes that it has sufficient working capital to fund its
operations for the foreseeable future, the Company's ability to fund its
operating requirements and maintain an adequate level of working capital and
liquidity may be impaired if it continues to incur losses and fails to generate
substantial growth in sales of its products and control operating expenses. In
the event that the Company requires funding to meet its cash flow needs, it may
seek to provide such funding through, among other things, loans or the issuance
of debt or equity securities. To the extent the Company raises additional
capital by issuing equity securities or provides for funding by obtaining
borrowings convertible into equity, ownership dilution to existing shareholders
will result. Moreover, additional funding or capital may not be available to the
Company on acceptable terms, or at all.
25
WE ARE DEPENDENT ON TWO THIRD-PARTY SERVICE PROVIDERS AND DISTRIBUTION
FACILITIES FOR OUR ENTIRE WORLDWIDE OPERATIONS.
The warehousing and distribution services for the Company's (a) North American
operations is handled from a single distribution facility by a third-party
service provider in San Pedro, California; and (b) European operations is
handled from a single distribution facility by a third party service provider in
Moerdijk, The Netherlands. The Company's products are prepared for shipment and
shipped to our customers by such third-party service providers at either of the
two distribution facilities noted above. Any failure by either third-party
service provider to maintain a regular flow of products for us to our customers
or any significant interruption in the business of either service provider or
the operation of the two distribution facilities due to natural disasters,
accidents, system failures, work stoppages or other causes would have a material
adverse effect on the Company's business, financial condition and results of
operations.
WE HAVE BEEN ADVISED OF TWO MATERIAL WEAKNESSES AS WELL AS SEVERAL REPORTABLE
CONDITIONS IN OUR FINANCIAL CONTROLS RELATING TO THE ACCURACY AND TIMELINESS OF
OUR FINANCIAL REPORTING.
In connection with its Fiscal 2004 audit of our financial statements, Ernst &
Young LLP, the Company's independent registered public accounting firm ("E&Y"),
communicated to the Company and the Audit Committee of the Board of Directors
(the "Audit Committee") several reportable conditions involving the Company's
internal financial controls. Reportable conditions involve matters coming to the
attention of our accountants relating to significant deficiencies in the design
or operation of internal controls that, in their judgment, could adversely
affect our ability to record, process, summarize, and report financial data
consistent with the assertions of management in the consolidated financial
statements. The reportable conditions noted by E&Y related to the Company's
inventory valuation, revenue recognition and reserves and allowances processes.
E&Y also noted a reportable condition which it considered to be a material
weakness in the Company's internal controls under standards established by the
American Institute of Certified Public Accountants ("AICPA"). Under AICPA
standards, a material weakness is defined as a reportable condition in which the
design or operation of one or more of the internal control components does not
reduce to a relatively low level the risk that misstatements caused by error or
fraud in amounts that would be material in relation to the financial statements
being audited may occur and not be detected within a timely period by employees
in the normal course of performing their assigned functions. The material
weakness noted by E&Y was that the Company's financial statement close process
does not ensure that all material errors in accounts that involve significant
estimation will be identified on a timely basis by employees in the normal
course of their duties. Specifically, E&Y noted that there were significant
delays in accumulating data, performing analysis, and evaluating results.
In connection with its review of the Company's results for First Quarter Fiscal
2005, E&Y advised the Company and the Audit Committee that the Company continued
to experience difficulties with the financial statement closing process, noting
that the closing process had deteriorated significantly during First Quarter
Fiscal 2005 and that the Company had insufficient resources within the finance
department to address all assigned responsibilities, including financial
reporting, budgeting and operational analysis. In addition, E&Y advised the
Company that ineffective planning and execution of the conversion from the
Company's Legacy systems to a fully integrated Enterprise Resource Planning
("ERP") System in First Quarter Fiscal 2005 caused a significant delay in the
Company's ability to file its First Quarter 10-Q and constituted a material
weakness in the Company's internal controls under standards established by the
Public Company Accounting Oversight Board ("PCAOB"), which define a material
weakness as a significant deficiency or combination of significant deficiencies
that result in more than a remote likelihood that a material misstatement in the
annual or interim financial statements will not be prevented or detected.
WE FACE THE RISK OF NON-COMPLIANCE WITH SECTION 404 OF THE SARBANES-OXLEY ACT OF
2002.
Beginning this fiscal year, Section 404 of the Sarbanes-Oxley Act of 2002 ("the
Act") will require the Company to include an internal control report of
management in its Annual Report on Form 10-K. The internal control report must
contain (i) a statement of management's responsibility for establishing and
maintaining adequate internal control over financial reporting, (ii) a statement
identifying the framework used by management to conduct the required evaluation
of the effectiveness of our internal control over financial reporting, (iii)
management's assessment of the effectiveness of our internal control over
financial reporting as of the end of our most recent fiscal year, including a
statement as to whether or not internal control over financial reporting is
effective, and (iv) a statement that the Company's independent registered public
accounting firm has issued an attestation report on management's assessment of
internal control over financial reporting.
26
Management acknowledges its responsibility for internal controls over financial
reporting and seeks to continually improve those controls. Beginning in Fiscal
2004, the Company initiated a process to document and evaluate its internal
controls over financial reporting, but suspended such process until the Company
implemented its new, world-wide fully integrated ERP System, which
implementation commenced in August 2004. The Company expects to resume the
process of documenting, evaluating and monitoring its internal control over
financial reporting in the third quarter of Fiscal 2005. E&Y has advised the
Board of Directors and the Audit Committee that it believes the Company faces a
significant risk of not completing its internal control assessment on a timely
basis, and that even if the Company's assessment is completed, E&Y may not have
sufficient resources and/or time to complete its assessment. The existence of
the above factors and circumstances create a risk that the Company or E&Y will
not be able to conclude at July 2, 2005 that the Company's internal controls
over financial reporting are effective and may result in a delay in the timely
filing of the Company's Annual Report on Form 10-K for Fiscal 2005.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a result of our global operating and financial activities, we are exposed to
changes in interest rates and foreign currency exchange rates that may adversely
affect our results of operations and financial position. In seeking to minimize
the risks and/or costs associated with such activities, we manage exposure to
changes in interest rates and foreign currency exchange rates through our
regular operating and financing activities.
We do not presently use derivative instruments to adjust our interest rate risk
profile. We do not utilize financial instruments for trading or speculative
purposes, nor do we utilize leveraged financial instruments.
Although the U.S. Dollar is the functional currency for each of our
subsidiaries, certain net sales to customers and purchases of certain components
and services are transacted in local currency, thereby creating an exposure to
fluctuations in foreign currency exchange rates. The impact of foreign exchange
transactions is reflected in our statements of operations. As of October 2,
2004, we were not engaged in any hedging activities and we had no forward
exchange contracts outstanding. We continue to analyze the benefits and costs
associated with hedging against foreign currency fluctuations.
ITEM 4. CONTROLS AND PROCEDURES
Certification. The certifications of the principal executive officer and the
principal financial officer (or persons performing similar functions) required
by Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934, as amended
(the "Certifications") are filed as exhibits to this report. This section of the
report contains the information concerning the evaluation of the Company's
disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e)
and 15d-15(e)) ("Disclosure Controls") and changes to internal control over
financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f))
("Internal Controls") referred to in the Certifications and this information
should be read in conjunction with the Certifications for a more complete
understanding of the topics presented.
Limitations on the Effectiveness of Controls. Our management, including the
principal executive officer and principal financial officer, does not expect
that our Disclosure Controls or Internal Controls will prevent all error and all
fraud. A control system, no matter how well conceived and operated, can provide
only reasonable, not absolute, assurance that the objectives of the control
system are met. Because of the limitations in any and all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the Company have been detected. Further,
the design of any control system is based in part upon certain assumptions about
the likelihood of future events, and there can be no assurance that any design
will succeed in achieving its stated goals under all potential future
conditions. Because of these inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be detected even
when effective Disclosure Controls and Internal Controls are in place.
27
Internal Controls. In performing its audit of our Consolidated Financial
Statements for Fiscal 2004, and as reported in our Form 10-K for Fiscal 2004,
E&Y notified the Company and the Audit Committee of several reportable
conditions in Internal Controls under standards established by the American
Institute of Certified Public Accountants. Reportable conditions involve matters
coming to the attention of our auditors relating to significant deficiencies in
the design or operation of Internal Controls that, in their judgment, could
adversely affect our ability to record, process, summarize, and report financial
data consistent with the assertions of management in the consolidated financial
statements. E&Y noted reportable conditions relating to the Company's inventory
valuation, revenue recognition and reserves and allowances processes. E&Y also
noted one reportable condition which it considered to be a material weakness in
the Company's Internal Controls. A material weakness is defined as a reportable
condition in which the design or operation of one or more of the Internal
Control components does not reduce to a relatively low level the risk that
misstatements caused by error or fraud in amounts that would be material in
relation to the financial statements being audited may occur and not be detected
within a timely period by employees in the normal course of performing their
assigned functions. Specifically, E&Y indicated that because there are
significant delays in accumulating data, performing analysis, and evaluating
results, the Company's financial statement closing process does not ensure that
on a timely basis employees in the normal course of their duties will identify
all material errors to accounts that involve significant estimates. In
connection with E&Y's review of the Company's results for First Quarter Fiscal
2005, E&Y advised the Company and the Audit Committee that the Company continued
to experience difficulties with the financial statement closing process, noting
that the closing process had deteriorated significantly during First Quarter
Fiscal 2005 and that the Company had insufficient resources within the finance
department to address all assigned responsibilities, including financial
reporting, budgeting and operational analysis. In addition, E&Y advised the
Company that ineffective planning and execution of the conversion from the
Company's Legacy systems to a world-wide, fully integrated Enterprise Resource
Planning ("ERP") System in First Quarter Fiscal 2005 caused a significant delay
in the Company's ability to file its Quarterly Report on Form 10-Q for First
Quarter Fiscal 2005 ("First Quarter 10-Q"), and constituted a material weakness
in the Company's Internal Controls under standards established by the Public
Company Accounting Oversight Board ("PCAOB"). PCAOB standards define a material
weakness as a significant deficiency or combination of significant deficiencies
that result in more than a remote likelihood that a material misstatement in the
annual or interim financial statements will not be prevented or detected.
The Company has assigned a high priority to the remediation of the material
weaknesses and reportable conditions identified above and believes that several
of these issues will be substantially improved upon effective and efficient
operation of the ERP System. As previously disclosed, the implementation of the
new ERP System resulted in inefficiencies and delays in providing information
necessary to complete the Company's First Quarter 10-Q. Although the Company has
made substantial progress in operating the ERP System, it continues to
experience some inefficiencies and delays with the system. In addition, the
delay in filing the First Quarter 10-Q will impact the Company's ability to
timely file its Quarterly Report on Form 10-Q for the second quarter of Fiscal
2005. We cannot assure you that ongoing issues relating to the operation of our
ERP System or that other control issues will not affect our ability to file
other future periodic reports on a timely basis.
Evaluation of Disclosure Controls. Based on our management's evaluation (with
the participation of our principal executive officer and principal financial
officer), as of the end of the period covered by this report and as a result of
the matters described above and below, our principal executive officer and
principal financial officer have concluded that, our Disclosure Controls were
not effective in providing reasonable assurance of achieving their objectives to
ensure that information required to be disclosed by us in reports that we file
or submit under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in SEC rules and forms.
Changes in Internal Controls. The Company implemented its new world-wide, fully
integrated ERP System during First Quarter Fiscal 2005, in part to address the
reportable conditions and material weaknesses described above and to improve the
overall effectiveness of the Company's Internal Controls and Disclosure
Controls. Although as discussed above, the Company believes that effective and
efficient operation of the ERP System will reduce the reportable conditions and
material weaknesses noted by E&Y and improve the overall effectiveness of the
Company's Internal Controls and Disclosure Controls, the Company experienced
significant operational issues in connection with the implementation of the ERP
System that caused significant delays in accumulating data, performing analysis
and evaluating results necessary to support the timely preparation of the
Company's First Quarter 10-Q. As a result, the financial statement closing
process deteriorated significantly during First Quarter Fiscal 2005. As we
become more proficient in operating the ERP System, we believe our Internal
Controls and Disclosure Controls will improve.
28
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 9 - Litigation and Settlements in the Notes to Condensed Consolidated
Financial Statements.
ITEM 5. OTHER INFORMATION
The Company's Annual Meeting of Shareholders was held on February 3, 2005. The
following is a summary of the matters voted on at that meeting.
The shareholders elected each of the Company's nominees to the Board of
Directors. The persons elected to the Board of Directors, and the number of
votes cast for and withheld for each nominee for director, were as follows:
Director For Withheld
----------------------------- -------------- --------------
Ira B. Lampert 19,512,645 6,040,578
Ronald S. Cooper 22,130,790 3,422,433
Morris H. Gindi 22,135,859 3,417,364
William J. O'Neill, Jr. 22,128,687 3,424,536
The shareholders ratified the appointment of Ernst & Young LLP as the Company's
independent registered public accounting firm for Fiscal 2005 by the following
vote: 23,161,688 votes "For"; 2,383,429 votes "Against"; and 8,106 abstentions.
ITEM 6. EXHIBITS
No. Description Method of Filing
- --- ------------ ----------------
3.1 Certificate of Incorporation, as amended through May 9, Incorporated by reference to the Company's annual
2000 report on Form 10-K for the year ended July 1,
2000.
3.2 Restated By-Laws, as amended through July 12, 2004 Incorporated by reference to the Company's
quarterly report on Form 10-K for the year ended
July 3, 2004
10.1 Amendment dated as of November 20, 2002, Amendment No. 2 Filed herewith.
dated as of February 26, 2003, and Amendment No. 3 dated
as of March 30, 2003, to Terms of Employment dated as of
January 1, 2000 between Harlan I. Press and the Company
10.2 Terms of Employment between Robert Bosi and the Company, Filed herewith.
effective as of October 21, 2004.
10.3 Terms of Employment between Blaine Robinson and the Filed herewith.
Company, effective as of February 11, 2003 and Amendment
No. 1 to same dated as of January 7, 2005.
29
31.1 Certification of Chief Executive Officer pursuant Filed herewith.
to Rule 13a-14(a)/15d-14(a)
31.2 Certification of Chief Financial Officer pursuant Filed herewith.
to Rule 13a-14(a)/15d-14(a)
32.1 Certification of Chief Executive Officer pursuant Filed herewith.
to 18 U.S.C. ss.1350
32.2 Certification of Chief Financial Officer pursuant Filed herewith.
to 18 U.S.C. ss.1350
30
S I G N A T U R E
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.
CONCORD CAMERA CORP.
----------------------------------
(Registrant)
DATE: February 14, 2005 By: /s/ Robert A. Bosi
-----------------------------
(Signature)
Robert A. Bosi
Interim Senior Vice President and
Chief Financial Officer
DULY AUTHORIZED AND PRINCIPAL
FINANCIAL OFFICER