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EX-32.1 - EX-32.1 - SHERIDAN GROUP INC | a2203056zex-32_1.htm |
EX-31.1 - EX-31.1 - SHERIDAN GROUP INC | a2203056zex-31_1.htm |
EX-31.2 - EX-31.2 - SHERIDAN GROUP INC | a2203056zex-31_2.htm |
EX-10.56 - EX-10.56 - SHERIDAN GROUP INC | a2203056zex-10_56.htm |
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TABLE OF CONTENTS
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One) | ||
ý |
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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For the Fiscal Year Ended December 31, 2010 |
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Or |
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o |
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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For the Period From to . |
Commission File Number: 333-110441
THE SHERIDAN GROUP, INC.
(Exact name of Registrant as specified in its charter)
Maryland (State or other jurisdiction of incorporation or organization) |
52-1659314 (I.R.S. employer identification number) |
11311 McCormick Road, Suite 260
Hunt Valley, Maryland 21031-1437
(Address of principal executive offices and zip code)
(410) 785-7277
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act. Yes o No ý
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ý No o
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 periods as the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes o No ý
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ý
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act. Check one:
Large accelerated filer o | Accelerated filer o | Non-accelerated filer ý | Smaller reporting company o |
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.) Yes o No ý
None of the Registrant's common stock is held by non-affiliates of the Registrant.
There was 1 share of the Registrant's Common Stock outstanding as of March 29, 2011.
THE SHERIDAN GROUP, INC.
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2010
INDEX
2
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K includes "forward-looking statements." Forward-looking statements are those that do not relate solely to historical fact. They include, but are not limited to, any statement that may predict, forecast, indicate or imply future results, performance, achievements or events. They may contain words such as "anticipate," "believe," "continue," "could," "estimate," "expect," "intend," "likely," "may," "plan," "predict," "project," "should," "will," "would" or words or phrases of similar meaning. They may relate to, among other things:
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- our liquidity and capital resources, including our ability to refinance our debt;
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- competitive pressures and trends in the printing industry;
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- prevailing interest rates;
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- legal proceedings and regulatory matters;
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- general economic conditions;
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- predictions of net sales, expenses or other financial items;
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- future operations, financial condition and prospects; and
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- our plans, objectives, strategies and expectations for the future.
Forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from the forward-looking statements, might cause us to modify our plans or objectives, may affect our ability to pay timely amounts due under our notes and/or may affect the value of our notes. These risks and uncertainties may include, but are not limited to, those discussed in Part I, Item 1A, "Risk Factors." New risk factors can emerge from time to time. It is not possible for us to predict all of these risks, nor can we assess the extent to which any factor, or combination of factors, may cause actual results to differ from those contained in forward-looking statements. Given these risks and uncertainties, we urge you to read this Annual Report on Form 10-K completely with the understanding that actual future results may be materially different from what we plan or expect. We caution you that any forward-looking statement reflects only our belief at the time the statement is made. We will not update these forward-looking statements even if our situation changes in the future.
Overview
We are a leading specialty printer offering a full range of printing and value-added support services for the journal, catalog, magazine and book markets. We believe that we enjoy strong and long-standing relationships with our customers, which include publishers, catalog merchants, associations and university presses. We provide a wide range of printing services and value-added support services that supplement the core printing operations such as page composition, electronic copy-editing, digital proofing, electronic publishing systems, subscriber services, digital media distribution, custom publishing and back issue fulfillment. We are focused on short production runs for small to medium sized customers who rely heavily on our world class prepress operations to prepare, edit and publish content for electronic or printed distribution. We utilize a decentralized management structure, which provides our customers with access to the resources of a large company, while maintaining the high level of service and flexibility of a smaller company. We operate in three business segments: Publications, Specialty Catalogs and Books. For the year ended December 31, 2010, we generated net sales of $266.2 million, operating income of $9.4 million and a net loss of $5.9 million.
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As used in this Annual Report on Form 10-K, the terms "we," "us," "our" and other similar terms refer to the consolidated businesses of The Sheridan Group, Inc. and all of its subsidiaries.
History
We trace our roots back to The Sheridan Press, the predecessor of which was founded in 1915. We entered the short-run journal market in 1980, targeting the printing of scientific, technical, medical and scholarly journals for publishers. The Sheridan Group, Inc. was formed in 1988 to complete the acquisition of Braun-Brumfield, Inc., a short-run book printer located in Michigan. In 1994, we entered the specialty magazine market with the acquisition of United Litho, Inc., a printer of specialty magazines serving the Washington, D.C. metro area. In conjunction with our recapitalization in 1998, we acquired Dartmouth Printing Company, a specialty magazine printer in New Hampshire, and Capital City Press ("CCP"), a journal printer in Vermont. In 1999, we acquired BookCrafters, Inc., a short-run book printer in Chelsea, Michigan and consolidated it with Braun-Brumfield to form Sheridan Books, Inc. In 2004, we acquired The Dingley Press (the "Dingley Acquisition"), a specialty catalog printer in Maine. In 2006, we shut down the operations of CCP and consolidated the production of short-run journals at The Sheridan Press. Currently, we are comprised of six specialty printing companies operating in the domestic scientific, technical, medical and scholarly journal, specialty catalog, short-run book and specialty magazine markets: The Sheridan Press in Pennsylvania; Sheridan Books in Michigan; Dartmouth Printing Company in New Hampshire; United Litho in Virginia; Dartmouth Journal Services in Vermont; and The Dingley Press in Maine. During the first quarter of 2011, we announced the shutdown of the operations of United Litho and the consolidation of the production of specialty magazines at Dartmouth Printing Company. We anticipate that the shutdown and consolidation will be completed by the fourth quarter of 2011.
Printing Services
Our printing services include transferring content onto printing plates in pre-press, printing the content on press, binding the printed pages into the finished product and distributing the finished product to either the customer or the ultimate end user. Pre-press processes, which include digital techniques, as well as computer-to-plate technology, are critical front-end elements of our printing services which ready the content for printing on our presses. Sheet-fed and web presses are used, depending on run length, to produce the printed product. We also offer ultra-short-run printing services for books and journals. During 2008, we launched a new product offering to digitally print books and journals on demand. We utilize three types of binding techniques for the printed product: perfect binding, saddle stitching and case binding. The product is then labeled and packaged prior to mailing. The majority of journals and magazines are mailed to the subscribers; the remainders are shipped to the publisher. All of our books are shipped in cases to the customer. Catalogs are drop-shipped to various locations throughout the U.S. and placed into the mail stream close to the recipient.
Technology Services
We continue to develop new services and solutions to help our customers and prospects thrive in the evolving printing industry. Through our extensive experience as a journal printer supporting the sophisticated technology requirements of journal publishers and our deep understanding of our customers' needs, we believe we are well positioned to bring innovative technology-based services and solutions to the journal, book, magazine, and catalog market segments. In order to accelerate our technology development, we have added technology resources throughout the organization and increased spending on software development. The result of these efforts includes the introduction of on-demand digital printing, custom publishing, interactive content for mobile applications and electronic content warehousing. We process significant amounts of our customers' intellectual property and play a critical role in helping customers meet demands for electronic and printed media.
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Value-Added Support Services
In addition to providing printing services to our customers, we offer a full range of value-added support services. While sales of these services constitute a relatively small percentage of total revenues, they are critical to meeting the customer's needs. These services are highly customized for each customer's specifications and logistics requirements. Examples of the value-added support services we provide are page composition, electronic copy-editing, digital proofing, electronic publishing systems, subscriber services, digital media distribution, custom publishing and back issue fulfillment.
Printing Segments
As a leading publications printer, we offer a broad range of products and services, including the printing of scientific, technical, medical and scholarly journals, specialty catalogs, short-run books, specialty magazines, article reprints and an extensive array of value-added support services. Our products are sold to a diverse set of customers, including publishers, catalog merchants, university presses and associations.
The following table presents the percentage of net sales contributed by each segment during the past three fiscal years.
Net sales %
|
2010 | 2009 | 2008 | ||||||||
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Publications |
56 | 57 | 54 | ||||||||
Specialty Catalogs |
23 | 23 | 27 | ||||||||
Books |
21 | 20 | 19 | ||||||||
Total |
100 | 100 | 100 | ||||||||
Our net sales attributable to customers in the United States were $261.1 million, $287.5 million and $343.5 million for the years ended December 31, 2010, 2009 and 2008, respectively. Our net sales attributable to customers in foreign countries were $5.1 million, $5.8 million and $4.5 million for the years ended December 31, 2010, 2009 and 2008, respectively. Additional financial information about our segments is set forth in Note 17 to our consolidated financial statements set forth in Part II, Item 8 of this report.
Assets by Segment
The following table presents the total assets by segment for each of the fiscal years ended December 31, 2010, 2009 and 2008:
(Dollars in thousands)
|
Year ended December 31, 2010 |
Year ended December 31, 2009 |
Year ended December 31, 2008 |
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Assets |
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Publications |
$ | 140,566 | $ | 146,047 | $ | 165,194 | |||||
Specialty catalogs |
51,669 | 54,186 | 65,403 | ||||||||
Books |
46,519 | 46,173 | 51,386 | ||||||||
Corporate |
2,757 | 2,594 | 3,114 | ||||||||
Consolidated total |
$ | 241,511 | $ | 249,000 | $ | 285,097 | |||||
Publications
The Publications segment provides products and services for journals and specialty magazines to publishers, university presses and associations.
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Journals
The journal market includes journals for the scientific, technical, medical and scholarly communities. We compete in both the short-run and medium-run portions of the journal market. We define short-run journals as journals produced on sheet-fed and digital presses with typical production runs of less than 5,000. We consider medium-run journals to be journals with production runs between 5,000 and 100,000 copies. Medium-run journals are typically produced on web presses due to economies of scale versus sheet-fed presses. Publishers, associations and university presses comprise the customers in the journals market. In 2010, we printed over 2,500 journal titles.
Our journals are primarily black and white with a small amount of color for photographs, diagrams and advertisements. They are printed on schedules that range from weekly to annually. Journal printing typically results in a high level of repeat business due to the periodic nature and complexity of these publications. The vast majority of journals are perfect bound, with the remainder saddle-stitched. Our journal customers rely on our consistency and on-time reliability to meet the demands of their own customers.
Originally developed as an ancillary product from the base journal business, we produce article reprints on sheet-fed and digital presses. Article reprints are produced for customers who require reprints of an individual article from a journal or magazine for marketing or other purposes. Historically, we have primarily reprinted journal and magazine articles for which we were the original printer. We have expanded our business by winning article reprint business on publications for which we were not the original printer. We are a full-service reprint printer, producing black and white as well as color reprints for publishers, university presses and associations.
Specialty Magazines
We characterize specialty magazines as magazines having production runs of less than 100,000 copies. Our customers in this market are publishers and associations. Specialty magazines also have a high level of repeat business due to the periodic nature of the publications. This is largely a regional market defined by proximity to the customer. In 2010, we printed about 380 magazine titles.
We produce short-run magazines with average run lengths of about 25,000 copies. The majority of these magazines are printed in four-color. The magazines are bound using the saddle-stitching and perfect binding techniques. The magazines are produced in frequencies that range from weekly to annually. These magazines are produced on web presses. Although specialty magazine customers do not require composition services, they do demand high levels of customer service focused on distribution and mailing services, where managing the customer's subscriber database is critical to customer satisfaction.
Specialty Catalogs
We entered the specialty catalog segment in 2004 with our purchase of The Dingley Press. We characterize Specialty Catalogs as catalogs distributed by specialty catalog merchant companies, which are often smaller entrepreneurial firms with high service requirements. We produce catalogs with run lengths between 50,000 and 8,500,000 copies, most of which are printed in four-color and are bound using the saddle stitching technique. Multiple versions of each catalog are distributed during the year requiring high levels of customer service and extensive distribution services. In 2010, we printed about 160 catalog titles.
Books
We print books for publishers, associations and university presses. Sales to this market include both the initial printing of titles and subsequent reprints. In 2010, we printed over 9,100 book titles.
6
We produce books in run lengths that average about 2,100 copies and range from 100 to 10,000 copies. The majority of these books are black and white. Books are produced on both sheet-fed and web presses. In 2010, about 61% of our books had soft covers (perfect bound) and about 39% had hard covers (case bound).
Competition
The printing industry in the United States is fragmented and highly competitive in most product categories and geographic regions. We compete in sub segments of the overall printing market. Competition is largely based on price, quality, range of services offered, distribution capabilities, ability to service the specialized needs of customers, availability of printing time on appropriate equipment and use of state-of-the-art technology. Competitive price pressure continues to be strong in the product segments in which we compete.
Customers
We benefit from a highly diversified customer base. The majority of our business comes from publishers, followed by catalog merchants, associations and university presses. The average length of our relationship with our top 50 customers is approximately 16 years. During 2010, 2009 and 2008, we had no customer that accounted for more than 10% of our net sales.
Sales and Marketing
We have developed a knowledgeable and experienced sales management team, which has successfully cultivated and maintained strong relationships with customers across the U.S. Our products are sold through internal direct sales professionals and a dedicated network of sales representatives. Across all of our companies, external representatives augment an internal customer service and sales staff, providing our customers with multiple touch points. Our sales representatives are paid a commission based on sales volume growth targets.
Raw Materials
The principal raw material used in our business is paper, which represents a significant portion of our cost of materials. Due to the significance of paper in our business, we are dependent upon the availability of paper. In periods of high demand, certain paper grades have been in short supply, including grades we use in our business. In addition, during periods of tight supply, many paper producers allocate shipments of paper based upon historical purchase levels of customers. Historically, however, we generally have not experienced significant difficulty in obtaining adequate quantities of paper. We do not have any long-term paper supply agreements. We also use a variety of other raw materials including ink, film, offset plates, chemicals and solvents, glue, wire and subcontracted components. In general, we have not experienced any significant difficulty in obtaining these raw materials.
Technology and Operations
Our capital investments have been focused on productivity improvement, more efficient material usage and incremental capacity. Additionally, our investments in technology have been critical in helping achieve improved workflow and reduced cycle times.
7
Employees
We had approximately 1,450 employees as of December 31, 2010. We focus heavily on fostering enthusiastic and positive cultures at each of our locations, evidenced by the fact that we have been recognized with numerous "Best Workplace in America" awards presented by Printing Industries of America. In addition, we closely monitor our employees' level of job satisfaction with comprehensive surveys on a regular basis. Management believes our compensation and benefits packages are competitive within the industry and local markets.
Regulatory Matters
We are subject to a broad range of federal, state and local laws and regulations relating to the pollution and protection of the environment, health and safety and labor. Based on currently available information, we do not anticipate any material adverse effect on our operations, financial condition or competitive position as a result of our efforts to comply with environmental, health and safety or labor requirements, and we do not anticipate needing to make any material capital expenditures to comply with such requirements.
Risk Factors
Senior Secured Notes MaturingOur senior secured notes mature on August 15, 2011. We do not have sufficient funds to repay our senior secured notes and may not be able to refinance them prior to their maturity.
We do not have sufficient funds, nor do we anticipate generating sufficient funds from operations, to repay our senior secured notes, which mature on August 15, 2011. In order to enable us to meet our debt repayment obligations, we are currently seeking to refinance our senior secured notes. There can be no assurance that we will be able to do so on terms and conditions satisfactory to us within the period needed to meet our repayment obligations. Our ability to refinance senior secured notes on commercially reasonable terms may be materially and adversely impacted by the current credit market conditions and our financial condition. The uncertainty associated with our ability to repay the outstanding debt raises substantial doubt about our ability to continue as a going concern. If we were unable to continue as a going concern, we would need to liquidate our assets and we might receive significantly less than the values at which they are carried on our consolidated financial statements. Our consolidated financial statements do not include any adjustments related to the recoverability and classification of recorded assets or the amounts and classification of liabilities that might result from the uncertainty associated with our ability to meet our debt obligations as they come due.
Working Capital Facility MaturingAlthough we anticipate that we will be able to refinance our working capital facility prior to its termination on May 25, 2011, there can be no assurance that we will be able to do so.
Our working capital facility is scheduled to terminate on May 25, 2011. As of December 31, 2010 we had no borrowings outstanding under our working capital facility, although we have borrowed under the facility from time to time in the past. We anticipate that we will be able to replace the current facility prior to its termination, but there can be no assurances that we will be able to do so on similar terms or at all. If we are not able to replace our working capital facility on similar terms it could adversely impact our ability to fund our liquidity needs.
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Additional CapitalWe may need additional capital in the future and it may not be available on acceptable terms.
We may require more capital in the future to:
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- fund our operations;
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- finance investments in equipment and infrastructure needed to maintain and expand our network;
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- enhance and expand the range of services we offer; and
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- respond to competitive pressures and potential strategic opportunities, such as investments, acquisitions and international expansion.
We cannot assure you that additional financing will be available on terms favorable to us, or at all. The terms of available financing may place limits on our financial and operating flexibility. If adequate funds are not available on acceptable terms, we may be forced to reduce our operations or delay, limit or abandon expansion opportunities. Moreover, even if we are able to continue our operations, the failure to obtain additional financing could reduce our competitiveness as our competitors may provide better maintained networks or offer an expanded range of services.
Substantial LeverageOur substantial indebtedness could adversely affect our financial health and prevent us from meeting our obligations under our indebtedness.
We have a significant amount of indebtedness. On December 31, 2010, we had total indebtedness of approximately $142.9 million.
Our substantial indebtedness could have important consequences. For example, it could:
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- make it more difficult for us to meet our payment and other obligations under our indebtedness;
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- require us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby
reducing the availability of our cash flow to fund working capital, capital expenditures and other general corporate purposes;
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- increase our vulnerability to general adverse economic and industry conditions;
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- limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate;
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- place us at a competitive disadvantage compared to our competitors that have less debt or are less leveraged; and
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- limit our ability to borrow additional funds or raise additional financing.
In addition, agreements governing our indebtedness contain financial and other restrictive covenants that will limit our ability to engage in activities that may be in our long-term best interests. Our failure to comply with those covenants could result in an event of default which, if not cured or waived, could result in the acceleration of all of our debt.
Technological ChangeThe evolution of technology may decrease the demand for our products and services.
The technology we use in our operations is rapidly evolving. We could experience delays or difficulties in responding to changing technology, in addressing the increasingly sophisticated needs of our customers or in keeping pace with emerging industry standards. In addition, the cost required to respond to and integrate changing technologies may be greater than we anticipate. If we do not respond adequately to the need to integrate changing technologies in a timely manner, or if the investment required to so respond is greater than anticipated, our business, financial condition, results
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of operations, cash flow and ability to make payments on the notes may be adversely affected. We remain largely dependent on the distribution of scientific, technical, medical and other scholarly information in printed form. Usage of the Internet and other electronic media continues to grow. We cannot assure you that the acceleration of the trend toward such electronic media will not decrease the demand for our products which could result in lower profits and reduced cash flows.
Changes in technology could also result in digital printing methods becoming more cost effective for printing short-run publications. If the use of digital printing were expanded in this manner, it could allow smaller printers to compete against us in our specialized market, which could cause a decrease in the demand for our services or could force us to lower our prices to remain competitive. Such a decrease in demand or price could result in decreased profitability and have a material adverse effect on our business, financial condition and results of operations. Similarly, if our new product offering in the digital printing market is not successful, the same adverse impacts previously mentioned could result.
CompetitionThe printing industry is competitive and rapidly evolving and competition may adversely affect our business.
The printing industry is extremely competitive. We compete with numerous companies, some of which have greater financial resources than we do. We compete on the basis of ongoing customer service, quality of finished products, range of services offered, distribution capabilities, use of state of the art technology and price. We cannot assure you that we will be able to compete successfully with respect to any of these factors. In certain circumstances, due primarily to factors such as freight rates and customer preference for local services, printers with better access to certain regions of the country may have a competitive advantage in such regions. Our failure to compete successfully could cause us to lose existing business or opportunities to generate new business and could result in decreased profitability, adversely affecting our business.
ConsolidationIndustry consolidation of customers and increased competition for those customers may result in increased expenses and reduced revenue and market position.
The continuing consolidation of publishing companies has shrunk the pool of available customers. Large publishing companies often have preferred provider arrangements with specific printing companies. As smaller publishing companies are consolidated into the larger companies, the smaller publishing companies are often required to use the printing company with which the acquiring company has established an arrangement. If our customers were to merge or consolidate with publishing companies utilizing other printing companies, we could lose our customers to competing printing companies. If we were to lose a significant portion of our current base of customers to competing printing companies, our business, financial condition, results of operations and cash flow could be materially adversely affected.
Customer ConcentrationThe increase in business from a top customer may make our net sales and profitability more sensitive to the loss of such a customer's business.
During 2010 we did not derive more than 10% of our net sales from any single customer. However, we derived a significant portion of our net sales from our ten largest customers. In the future, an increase in business from a large customer could result in net sales to that customer comprising more than 10% of our total net sales. We cannot assure you that our large customers will continue to use our printing services. The loss of any of our large customers could cause our net sales and profitability to decline materially.
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Our financial results could be negatively impacted by impairments of goodwill and other long-lived assets.
On an annual basis or as circumstances dictate, we review goodwill and other long-lived assets, consisting primarily of property, plant and equipment and identified intangibles subject to amortization, and evaluate events or other developments that may indicate impairment in the carrying amount. A decline in profitability at one of our reporting units could result in non-cash impairment charges. Any impairment charge could have a significant negative effect on our reported results of operations. In the fourth quarter of 2010, due primarily to the longer and more sustained deterioration of the magazine business through the fourth quarter of 2010, and the unlikely prospect of a meaningful recovery in the near term, our assessment indicated that goodwill at Dartmouth Printing Company was fully impaired, resulting in a non-cash charge of $7.0 million. Also, in the fourth quarter of 2008, as the result of a decline in profitability at United Litho, Inc. and The Dingley Press, Inc., due to the downturn in the economic environment, our assessment indicated that goodwill and certain other intangibles were fully impaired at such entities. This resulted in a non-cash charge of $3.4 million and $2.2 million for goodwill and customer relationship assets, respectively.
Cost and Availability of Paper and Other Raw MaterialsIncreases in prices of paper and other raw materials and postal rates as well as changes in postal delivery schedules could cause disruptions in our services to customers.
The principal raw material used in our business is paper, which represents a significant portion of our cost of materials. Although we believe that we have been successful in negotiating favorable price relationships with our paper vendors, prices in the overall paper market are beyond our control. Historically, we have generally been able to pass increases in the cost of paper on to our customers. If we are unable to continue to pass any price increases on to our customers, future paper price increases could adversely affect our margins and profits.
Due to the significance of paper in our business, we are dependent upon the availability of paper. In periods of high demand, certain paper grades have been in short supply, including grades we use in our business. In addition, during periods of tight supply, many paper producers allocate shipments of paper based upon historical purchase levels of customers. Although we generally have not experienced significant difficulty in obtaining adequate quantities of paper, unforeseen developments in the overall paper markets could result in a decrease in the supply of paper and could cause either or both of our revenues or profits to decline.
We use a variety of other raw materials including ink, film, offset plates, chemicals and solvents, glue, wire and subcontracted components. In general, we have not experienced any significant difficulty in obtaining these raw materials. We cannot assure you, however, that a shortage of any of these raw materials will not occur in the future or will not potentially adversely affect the financial results of our business.
Our journals, magazines and catalogs are mailed, either by us or our customers, to subscribers. As a result, an increase in postal rates may cause our customers to decrease the size and number of their publications. Although we generally have not experienced significant decreases in mailings in the past due to postal rate increases, we cannot assure you that such a decrease will not occur in the future or will not potentially adversely affect the financial results of our business. In addition, the U.S. Postmaster General has proposed reducing the delivery of mail from six days to five days per week. If this change is adopted we cannot assure you how our customers will react and whether or not this will adversely affect the financial results of our business.
We require energy products, primarily natural gas and electricity, in our operating facilities. We also depend on gasoline and diesel fuel for our delivery vehicles and the vehicles of the carriers we utilize to deliver our products. Possible disruption of supplies or an increase in the prices of energy products could adversely affect the financial results of our business.
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Fluctuations in the markets for paper and raw materials could adversely impact the market for our recycled materials, such as paper, cardboard and used plates. This could have a negative effect on the income we generate from such sales.
Economic ConditionsCurrent and future economic conditions could adversely affect our business and financial performance.
Our operating results and performance are impacted by general economic conditions, both domestic and abroad. The printing industry realized a significant contraction between 2008 and 2010 due to the severity of the most recent recession. The current global economic downturn and credit crisis may continue to negatively and materially affect demand for our products and services and our financial performance. Examples of how our business and financial performance may continue to be adversely affected by current and future economic conditions include:
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- increased price competition resulting in lower sales, profitability and cash flow;
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- deterioration in the financial condition of our customers resulting in reduced orders, an inability to collect
receivables, payment delays or customer bankruptcy;
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- increased risk of insolvency of financial institutions, which may limit our liquidity in the future or adversely affect
our ability to use or refinance our senior secured notes and working capital facility;
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- increased turmoil in the financial markets may limit our ability and the ability of our customers and suppliers to access
the capital markets or require limitations or terms and conditions for such access that are more restrictive and costly than in the past; and
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- declines in our businesses could result in material charges for restructuring or asset impairments.
Key EmployeesOur ability to attract, train and retain executives and other qualified employees is crucial to results of operations and future growth.
We rely to a significant extent on our executive officers and other key management personnel. There can be no assurance that we will be able to continue to retain our executive officers and key management personnel or attract additional qualified management in the future. In addition, the success of any acquisition by us may depend, in part, on our ability to retain management personnel of the acquired companies. There can be no assurance that we will be able to retain such management personnel.
In addition, to provide high-quality printed products in a timely fashion we must maintain an adequate staff of skilled technicians, including pre-press personnel, pressmen, bindery operators and fulfillment personnel. Accordingly, our ability to maintain and increase our productivity and profitability will depend, in part, on our ability to employ, train and retain the skilled technicians necessary to meet our commitments. From time-to-time:
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- the industry experiences shortages of qualified technicians, and we may not be able to maintain an adequate skilled labor
force necessary to operate efficiently;
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- our labor expenses may increase as a result of shortages of skilled technicians; or
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- we may have to curtail our planned internal growth as a result of labor shortages.
If any of these events were to occur, it could adversely affect our business.
12
Business InterruptionOur printing facilities may suffer business interruptions which could increase our operating costs, decrease our sales or cause us to lose customers.
The reliability of our printing facilities is critical to the success of our business. Our facilities might be damaged or interrupted by fire, flood, power loss, telecommunications failure, break-ins, earthquakes, terrorist attacks, war or similar events. Equipment malfunctions, computer viruses, physical or electronic break-ins and similar disruptions might cause interruptions and delays in our printing services and could significantly diminish our reputation and brand name and prevent us from providing services. Although we believe we have taken adequate steps to address these risks, damage to, or unreliability of, our printing facilities could have a material adverse effect on our business, financial condition, results of operations and cash flow.
Research FundingDecreases in the types and amount of research funding could decrease the demand for our journal printing services.
In our journal business, we provide printing services primarily to scientific, technical, medical and other scholarly journals. The supply of research papers published in these journals is related to the amount of research funding provided by the federal government and private companies. In the future, the federal government or private companies could decrease the type and amount of funding that they provide for scientific, technical, medical and other scholarly research. A significant decrease in research funding might decrease the number or length of journals that we print for our customers, which would decrease our cash flow. A reduction in the investment value of university endowments in the current economic environment could also result in less demand by university libraries for printed journals.
Environmental MattersOur printing and other facilities are subject to environmental laws and regulations, which may subject us to liability or require us to incur costs.
We use various materials in our operations which contain substances considered hazardous or toxic under environmental laws. In addition, our operations are subject to federal, state and local environmental laws and regulations relating to, among other things, air emissions, waste generation, handling, management and disposal, waste water treatment and discharge and remediation of soil and groundwater contamination. Permits are required for the operation of certain of our businesses, and these permits are subject to renewal, modification and, in some circumstances, revocation. Our operations also generate wastes which are disposed of off-site. Under certain environmental laws, including the Comprehensive Environmental Response, Compensation and Liability Act, as amended ("CERCLA," commonly referred to as "Superfund") and similar state laws and regulations, we may be liable for costs and damages relating to soil and groundwater contamination at these off-site disposal locations, or at our own facilities. In the past, such matters have not had a material impact on our business or operations. We are not currently aware of any environmental matters that are likely to have a material adverse effect on our business, financial condition, results of operations and cash flow. However, we cannot assure you that such matters will not have such an impact on us. Furthermore, future changes to environmental laws and regulations may give rise to additional costs or liabilities that could have a material adverse impact on us.
Health and Safety RequirementsWe could be adversely affected by health and safety requirements.
We are subject to requirements of federal, state and local occupational health and safety laws and regulations. These requirements are complex, constantly changing and have tended to become more stringent over time. It is possible that these requirements may change or liabilities may arise in the future in a manner that could have a material adverse effect on our business, financial condition, results of operations and cash flow. We cannot assure you that we have been or will be at all times in complete compliance with all those requirements or that we will not incur material costs or liabilities in connection with those requirements in the future.
13
Intellectual PropertyWe may not protect our technology effectively, which would allow competitors to duplicate our products and services, or our products and services may infringe on claims of intellectual property rights of third parties.
Our success and ability to compete depend, in part, upon our technology. Among our significant assets are our proprietary information and intellectual property rights. We rely on a combination of copyright and trademark laws, confidentiality procedures and contractual provisions and other intellectual property safeguards to protect these assets. Unauthorized use and misuse of our intellectual property could have a material adverse effect on our business, financial condition and results of operations, and there can be no assurance that our legal remedies would adequately compensate us for the damages caused by unauthorized use. In addition, licenses for a number of software products have been granted to us. Some of these licenses, individually and in the aggregate, are material to our business. Although we believe that the risk that we will lose any material license is remote, any loss could have a material adverse effect on our business, financial condition, results of operations and cash flow.
We do not believe that any of our products, services or activities infringe upon the intellectual property rights of third parties in any material respect. There can be no assurance, however, that third parties will not claim infringement by us with respect to current or future products, services or activities. Any infringement claim, with or without merit, could result in substantial costs and diversion of management and financial resources, and a successful claim could effectively block our ability to use or license products and services or cost us money.
Consummation of Future AcquisitionsWe may not be able to acquire other companies on satisfactory terms or at all.
Our business strategy includes pursuing acquisitions. Nonetheless, we cannot assure you that we will identify suitable acquisitions or that such acquisitions can be made at an acceptable price. If we acquire additional businesses, those businesses may require substantial capital. Although we will be able to borrow under our working capital facility under certain circumstances to fund acquisitions, we cannot assure you that such borrowings will be available in sufficient amounts or that other financing will be available in amounts and on terms that we deem acceptable. In addition, future acquisitions could result in us incurring debt and contingent liabilities. We cannot assure you that we will be successful in consummating future acquisitions on favorable terms or at all.
Integration of Acquired BusinessesThe integration of acquired businesses may result in substantial costs, delays and other problems.
Our future performance will depend on our ability to integrate the businesses that we may acquire. To integrate newly acquired businesses we must integrate manufacturing facilities and extend our financial and management controls and operating, administrative and information systems in a timely manner and on satisfactory terms and conditions. This may be more difficult with respect to significant acquisitions. We may not be able to successfully integrate acquired businesses or realize projected cost savings and synergies in connection with those acquisitions on the timetable contemplated or at all.
Furthermore, the costs of businesses that we may acquire could significantly impact our short-term operating results. These costs could include:
-
- restructuring charges associated with the acquisitions; and
-
- other expenses associated with a change of control, as well as non-recurring acquisition costs including accounting and legal fees, investment banking fees, recognition of transaction-related obligations and various other acquisition-related costs.
14
The integration of newly acquired businesses will require the expenditure of substantial managerial, operating, financial and other resources and may also lead to a diversion of management's attention from our ongoing business concerns.
Finally, although we conduct and intend to conduct what we believe to be a prudent level of investigation regarding the businesses we purchase, in light of the circumstances of each transaction, an unavoidable level of risk remains regarding the actual condition of these businesses. Until we actually assume operating control of such business assets and their operations, we may not be able to ascertain the actual value or understand the potential liabilities of the acquired entities and their operations. Once we acquire a business, we are faced with risks, including:
-
- the possibility that we have acquired substantial undisclosed liabilities;
-
- the risks of entering markets in which we have limited or no prior experience;
-
- the potential loss of key employees or customers as a result of changes in management; and
-
- the possibility that we may be unable to recruit additional managers with the necessary skills to supplement the management of the acquired businesses.
We may not be successful in overcoming these risks.
Principal StockholdersOur principal stockholders could exercise their influence over us.
As a result of their stock ownership of TSG Holdings Corp., our parent, Bruckmann, Rosser, Sherrill & Co., L.L.C. ("BRS"), Jefferies Capital Partners ("JCP") and their respective affiliates together beneficially own about 84.6% of TSG Holdings Corp.'s outstanding capital stock. By virtue of the ownership interests of these funds and affiliates and the terms of our securities holders' agreement, these entities have significant influence over our management and will be able to determine the outcome of all matters required to be submitted to the stockholders for approval, including the election of our directors and the approval of mergers, consolidations and the sale of all or substantially all of our assets. The interests of the funds managed by BRS and JCP and their respective affiliates may differ from the interests of our noteholders and the lenders under our working capital facility, and, as such, BRS and JCP may take actions which may not be in the interest of such noteholders and lenders. For example, if we encounter financial difficulties or are unable to pay our debts as they mature, the interests of our equity owners might conflict with the interests of our noteholders and the lenders under our working capital facility. In addition, our equity owners may have an interest in pursuing acquisitions, divestitures, financings or other transactions that, in their judgment, could enhance their equity investments, even though such transactions might involve risks to our noteholders and the lenders under our working capital facility.
Effectiveness of our internal controlsFailure to comply with the Sarbanes-Oxley Act could impact our business.
There can be no assurance that the periodic evaluation of our internal controls required by the Sarbanes-Oxley Act will not result in the identification of significant control deficiencies. Failure to comply may have consequences for our business. These consequences could include increased risks of financial statement misstatements, investigations or sanctions by regulatory authorities, such as the SEC, and negative capital market reactions.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
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We operate a network of 12 manufacturing, warehousing and office facilities located throughout the East Coast and Midwest that occupy, in total, about 1.1 million square feet. We maintain approximately 1.0 million square feet of production space consisting of manufacturing and publication services. We own about 85% of the square footage we use. The following table provides an overview of our manufacturing, warehousing and office facilities.
Location
|
Function(s) | Ownership Structure |
Total Size (Sq. Feet) |
||||||
---|---|---|---|---|---|---|---|---|---|
Hunt Valley, MD |
Corporate Headquarters | Leased | 8,340 | ||||||
Hanover, PA |
Manufacturing (Publications) | Owned | (1) | 172,250 | |||||
Chelsea, MI |
Manufacturing (Books) | Owned | (1) | 160,569 | |||||
Hanover, NH |
Manufacturing (Publications) | Owned | (1) | 147,830 | |||||
Ashburn, VA |
Manufacturing (Publications) | Owned | (1) | 70,159 | |||||
Lisbon, ME |
Manufacturing (Specialty catalogs) | Owned | (1) | 276,787 | |||||
Ann Arbor, MI |
Manufacturing and Distribution (Books) | Owned | (1) | 124,726 | |||||
Hanover, PA |
Warehousing (Publications) | Leased | 70,000 | ||||||
Orford, NH |
Warehousing (Publications) | Leased | 4,330 | ||||||
Waterbury, VT |
Publication Services (Publications) | Leased | 13,000 | ||||||
Lewiston, ME |
Warehousing (Specialty catalogs) | Leased | 68,286 | ||||||
Lisbon, ME |
Warehousing (Specialty catalogs) | Leased | 3,200 | ||||||
|
Total | 1,119,477 |
- (1)
- Subject to liens in favor of the holders of our outstanding senior secured notes and the lenders under our working capital facility.
Some of our office and warehouse leases are on yearly renewals. The lease of our corporate headquarters expires in December 2011, subject to a renewal option. We believe that our office, manufacturing and warehousing facilities are adequate for our immediate needs and that additional or substitute space is available at a reasonable cost if needed to accommodate future growth and expansion.
On February 3, 2011, we entered into a contract to sell the Ashburn, Virginia facility as a result of the consolidation of this business. Consummation of the transaction is conditioned upon satisfaction of specific terms and conditions and delivery of specific documents, which are customary for similar transactions. The closing is scheduled for October 31, 2011.
We are continuing our efforts to sell the Ann Arbor, Michigan book facility. We may consolidate this facility with our Chelsea, Michigan operation, pending a firm offer from a third party at an acceptable price.
We currently are involved in various litigation proceedings as a defendant and are from time to time involved in routine litigation. Accruals for litigation have not been provided because information available at this time does not indicate that it is probable that a liability has been incurred. In the opinion of our management, these matters are not expected to have a material adverse effect on our business, financial condition, results of operations or cash flows.
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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
We are wholly-owned by TSG Holdings Corp, a privately owned corporation. There is no public trading market for our equity securities or for those of TSG Holdings Corp. As of March 29, 2011, there were 34 holders of TSG Holdings Corp. common stock.
Our working capital facility contains customary restrictions on our ability and the ability of certain of our subsidiaries to declare or pay any dividends or repurchase stock. The indenture governing our 10.25% Senior Secured Notes due 2011 also contains customary terms restricting our ability and the ability of certain of our subsidiaries to declare or pay any dividends or repurchase stock. For further information related to the payment of dividends, see the discussion contained in Part III, Item 12, "Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters." Information with respect to shares of common stock that may be issued under our equity compensation plans is set forth in Part III, Item 12, "Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters."
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data should be read in conjunction with our consolidated financial statements and related notes, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and other financial data included elsewhere in this annual report on Form 10-K. The consolidated statement of operations and balance sheet data for all periods presented is derived from the audited consolidated financial statements included elsewhere in this annual report on Form 10-K or in annual reports on Form 10-K for prior years on file with the Commission.
(Dollars in thousands)
|
Year ended December 31, 2010 |
Year ended December 31, 2009 |
Year ended December 31, 2008 |
Year ended December 31, 2007 |
Year ended December 31, 2006 |
|||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Statement of Income Data: |
||||||||||||||||
Net sales |
$ | 266,188 | $ | 293,349 | $ | 348,027 | $ | 344,240 | $ | 337,540 | ||||||
Gross profit |
53,677 | 60,401 | 66,647 | 70,050 | 65,376 | |||||||||||
Selling and administrative expenses |
35,799 | 37,115 | 42,175 | 41,746 | 40,339 | |||||||||||
Operating income |
9,392 | 21,390 | 12,757 | 26,308 | 5,489 | |||||||||||
Net (loss) income |
(5,941 | ) | 8,217 | (5,872 | ) | 4,847 | (8,343 | ) | ||||||||
Balance Sheet Data (at end of period): |
||||||||||||||||
Cash and cash equivalents |
$ | 13,717 | $ | 4,110 | $ | 16,397 | $ | 20,517 | $ | 7,800 | ||||||
Property, plant and equipment, net |
112,044 | 117,757 | 127,064 | 126,709 | 129,666 | |||||||||||
Total assets |
241,511 | 249,000 | 285,097 | 298,968 | 291,567 | |||||||||||
Total debt |
142,924 | 142,949 | 164,946 | 164,930 | 164,915 | |||||||||||
Total stockholder's equity |
38,099 | 44,012 | 44,882 | 50,845 | 46,688 | |||||||||||
Other Financial Data: |
||||||||||||||||
Depreciation and amortization |
$ | 20,864 | $ | 18,674 | $ | 18,400 | $ | 17,834 | $ | 18,991 | ||||||
Capital expenditures |
13,671 | 9,654 | 17,597 | 15,158 | 26,296 |
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with, and is qualified in its entirety by reference to, our historical consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. The discussions in this section contain forward-looking statements that involve risks and uncertainties. Actual results could differ materially from those discussed below. See "Special Note Regarding Forward-Looking Statements" and Part I, Item 1A, "Risk Factors" for a discussion of some of the risks that could affect us in the future.
Introduction
We are a leading specialty printer offering a full range of printing and value-added support services for the journal, catalog, magazine, book and article reprint markets. We provide a wide range of printing services and value-added support services, such as digital proofing, preflight checking, offshore composition, copy editing, subscriber services, mail sortation, distribution and back issue fulfillment. We utilize a decentralized management structure, which provides our customers with access to the resources of a large company, while maintaining the high level of service and flexibility of a smaller company.
Acquisition transactions
On August 21, 2003, TSG Holdings Corp ("Holdings" or our "Parent") purchased 100% of the outstanding capital stock of The Sheridan Group, Inc. from its existing stockholders (the "Sheridan Acquisition") for total cash consideration of $142.0 million less net debt (as defined in the stock purchase agreement), resulting in cash of $79.9 million being paid to the selling stockholders. The accounting purchase price was $186.6 million, which was comprised of the $79.9 million of cash paid to the selling stockholders, $51.4 million of assumed liabilities and $55.3 million of refinanced debt. We funded the acquisition price and the related fees and expenses with the proceeds of the sale of $105.0 million aggregate principal amount of our 10.25% Senior Secured Notes due 2011 (the "2003 Notes") and equity investments in Holdings.
On May 25, 2004, The Sheridan Group, Inc., through a newly formed subsidiary, purchased substantially all of the assets and business of The Dingley Press (the "Dingley Acquisition"). The accounting purchase price was $95.4 million, which was comprised of cash paid of $65.5 million, $26.0 million of assumed liabilities and $3.9 million of financing costs. We funded the acquisition price and the related fees and expenses with the proceeds of the sale of $60.0 million aggregate principal amount of our 10.25% Senior Secured Notes due 2011 (the "2004 Notes"), available cash and equity investments in Holdings. The 2003 Notes and the 2004 Notes are fully and unconditionally guaranteed on a joint and several basis by all of our subsidiaries.
Restructuring costs and facility shutdown
In January 2009, we announced our plan to consolidate some administrative and production operations at our DPC facility in Hanover, New Hampshire. Approximately 20 positions at our ULI facility in Ashburn, Virginia were eliminated as a result of this action. We recorded $0.3 million of restructuring costs during 2009. The costs relate primarily to guaranteed severance payments and employee health benefits. We recorded an additional $0.1 million of restructuring costs in connection with this consolidation during 2010.
Due to continued adverse trends in the specialty magazine business as a result of the weak economy, our Board of Directors, on January 19, 2011, approved a restructuring plan to consolidate all specialty magazine printing operations into one site. We will consolidate the printing of specialty magazines at Dartmouth Printing Company in Hanover, New Hampshire and close the
18
United Litho, Inc. facility in Ashburn, Virginia. Approximately 80 positions will be eliminated as a result of the closure. It is expected that approximately 20 employees in the Customer Service and Sales areas will be retained by Dartmouth Printing Company.
Charges related to this restructuring will be recorded as the plan is implemented. We estimate approximately $2.2 million ($1.3 million after tax) of restructuring charges resulting in future cash expenditures will be incurred, including $1.5 million of charges related to severance and other personnel costs and $0.7 million of other exit costs. We expect to record these costs in 2011.
On February 3, 2011, we entered into a contract to sell the Ashburn, Virginia facility for $4.2 million. Sales commissions, transfer taxes, fees and other closing costs are expected to reduce the net proceeds to approximately $3.9 million which should result in a negligible gain. Consummation of the transaction is conditioned upon satisfaction of specific terms and conditions and delivery of specific documents, which are customary for similar transactions. The purchaser under the contract may, in its sole discretion in accordance with the terms of the agreement, terminate the agreement to purchase the facility prior to the expiration of a 75-day due diligence period. Additionally, after such period, the purchaser may elect not to consummate the transaction by forfeiting its deposit of approximately $0.4 million. The closing is scheduled for October 31, 2011.
We estimate that we will incur non-cash charges of $1.6 million in 2011 associated with the accelerated amortization of the United Litho trade name which is reflected in the estimated future amortization expense as disclosed in Note 6 of our financial statements.
We also expect that we will incur non-cash charges of approximately $3.0 million associated with the accelerated depreciation of equipment, based on updated estimates of remaining useful life and estimated residual value, equal to the lower of carrying value or best estimate of selling price, less costs to sell.
Critical Accounting Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates, and the differences could be material. We consider the following accounting policies to be critical policies which involve various estimation processes:
-
- Allowance for doubtful accounts;
-
- Goodwill and other long-lived assets;
-
- Income taxes; and
-
- Self-insurance.
Allowance for Doubtful Accounts
Our policy with respect to trade accounts receivable is to maintain an adequate allowance or reserve for doubtful accounts for estimated losses from the inability of our customers to make required payments. The process to estimate the collectibility of our trade accounts receivable balances consists of two steps. First, we evaluate specific accounts for which we have information that the customer may have an inability to meet its financial obligations (e.g., bankruptcy). In these cases, using our judgment based on available facts and circumstances, we record a specific allowance for that customer against the receivable to reflect the amount we expect to ultimately collect. Second, we then establish an additional reserve for all customers based on a range of percentages applied to aging categories, based on
19
management's best estimate. If the financial condition of our customers were to deteriorate and result in an impairment of their ability to make payments, additional allowances may be required.
Goodwill and Other Long-Lived Assets
On an annual basis or as circumstances dictate, we review goodwill and evaluate events or other developments that may indicate impairment in the carrying amount. We test goodwill for impairment using the two-step process as prescribed by the appropriate guidance. The initial step requires us to determine the fair value of each reporting unit and compare it to the carrying value, including goodwill, of such unit. If the fair value exceeds the carrying value, no impairment loss is recognized. However, if the carrying value of the reporting unit exceeds its fair value, the goodwill of this unit may be impaired. The amount, if any, of the impairment is then measured in the second step by comparing the implied fair value of goodwill to the carrying value of goodwill for each reporting unit. To determine the implied fair value of goodwill, we make a hypothetical allocation of the reporting unit's estimated fair value to the tangible and intangible assets (other than goodwill) of the reporting unit.
The determination of the fair value of our reporting units and the allocation of fair value to assets and liabilities within the reporting units requires management to make significant estimates and assumptions. We derive an estimate of fair values for each of our reporting units using a combination of an income approach and appropriate market approaches, each based on an applicable weighting. We assess the applicable weighting based on such factors as current market conditions and the quality and reliability of the data. Absent an indication of fair value from a potential buyer or similar specific transactions, we believe that the use of these methods provides a reasonable estimate of a reporting unit's fair value. Fair value computed by these methods is arrived at using a number of factors, including projected future operating results, anticipated future cash flows, effective income tax rates, comparable marketplace data within a suitable industry grouping, control premiums appropriate for acquisitions in our industry and the cost of capital. There are inherent uncertainties related to these factors and to our judgment in applying them to this analysis. Nonetheless, we believe that the combination of these methods provides a reasonable approach to estimate the fair value of our reporting units. The allocation requires several analyses to determine the fair value of assets and liabilities including, among others, customer relationships, trade names, technology and property, plant and equipment. Although we believe our estimates of fair value are reasonable, actual financial results could differ from those estimates due to the uncertainty involved in making such estimates. Changes in assumptions concerning future financial results or other underlying assumptions could have a significant impact on either the fair value of the reporting units, the amount of the goodwill impairment charge, or both.
Due primarily to the longer and more sustained deterioration of the magazine business through the fourth quarter of 2010, and the unlikely prospect of a meaningful recovery in the near term, the December 31, 2010 assessment indicated that goodwill related to our Dartmouth Printing Company reporting unit, a component of the Publications segment, was fully impaired resulting in a write-down of goodwill totaling $7.0 million which was recorded during the fourth quarter of 2010. The fair values of our remaining reporting units for goodwill impairment purposes were substantially in excess of their carrying values as of December 31, 2010. No impairments were noted for any of our reporting units as a result of these tests performed on December 31, 2009. The December 31, 2008 assessment indicated that goodwill related to our United Litho, Inc. reporting unit, a component of the Publications segment, was fully impaired resulting in a write-down of goodwill totaling $3.4 million. At December 31, 2010, we had $34.0 million in goodwill. While significant judgment is required, we believe that our estimates of fair value are reasonable. However, should our assumptions change in future years, our fair value models could result in lower fair values for goodwill, which could materially affect the value of goodwill and our results of operations.
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We review other long-lived assets, consisting primarily of property, plant and equipment and identified intangibles subject to amortization, for impairment by analyzing the future undiscounted cash flows whenever events or changes in circumstances indicate that the carrying value of the long-lived assets, including goodwill, may not be recoverable. As a result of the impairment analysis performed in 2008 for United Litho, Inc. (a component of the Publications segment) and The Dingley Press, Inc. (our Specialty Catalogs segment), we concluded that the carrying value of the customer relationship assets exceeded their fair value. Therefore, during 2008, we recorded an impairment charge of $2.0 million and $0.2 million for the customer relationship assets of United Litho, Inc. and The Dingley Press, Inc., respectively. We do not believe there was any impairment of intangible assets or other long-lived assets as of December 31, 2010 and 2009. While significant judgment is required, we believe that our estimates of future undiscounted cash flows are reasonable. However, should our assumptions change in future years, estimates of undiscounted cash flows could change, which could affect our conclusions regarding the recoverability of long-lived assets and could materially affect the value of long-lived assets and our results of operations.
Income Taxes
As part of the process of preparing our consolidated financial statements, we are required to estimate income taxes in each of the jurisdictions in which we operate. In addition to estimating the actual current tax liability, we must assess future tax effects of temporary differences between the tax basis of assets and liabilities and amounts reflected on our consolidated balance sheets, and operating loss carryforwards. Such differences result in deferred tax assets and liabilities, which are recorded in our consolidated balance sheets. We then assess the likelihood that deferred tax assets will be recovered from future taxable income, and, to the extent recovery is not considered likely, establish a valuation allowance against those assets. The valuation allowance is based on estimates of future taxable income in jurisdictions in which we operate and the period over which the deferred tax assets will be recoverable. We use our best judgment in determining the provision for income taxes, the deferred tax assets and liabilities and any valuation allowance recorded against the net deferred tax assets.
To the extent that actual results differ from our estimates, new information results in changes to estimates or there is a material change in the actual tax rates or time periods within which the underlying temporary differences become taxable or deductible, we may need to establish an additional valuation allowance, reduce our existing valuation allowance or adjust the effective tax rate, all of which could materially impact our financial position and results of operations.
We recognize liabilities for uncertain tax positions when it is more likely than not that the position will be sustained upon examination by tax authorities, including resolutions of any related appeals or litigation processes, based on the technical merits. Although we believe our estimates are reasonable, the final outcome of uncertain tax positions may be different from what is reflected in our consolidated financial statements. We adjust our uncertain tax positions based on changes in circumstances that would cause a change to the liability, upon settlement of the position or upon the expiration of the statute of limitations during the period in which such events occur.
We recognize interest and penalties related to uncertain tax positions as part of the income tax provision. We had accrued interest of $0.4 million and penalties of $0.3 million as of December 31, 2010. Interest and penalties in the amount of $0.1 million were expensed during the years ended December 31, 2010, 2009 and 2008, respectively. Interest and penalties will continue to accrue on certain issues in 2010 and forward.
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Self-Insurance
We are self-insured for healthcare and workers' compensation costs. We seek to mitigate the risk related to our ultimate claims exposure under these self-insurance arrangements through the purchase of various levels of individual and aggregate claims stop-loss insurance coverage with third-party insurers. We periodically review health insurance and workers' compensation claims outstanding and estimates of incurred but not reported claims with our third-party claims administrators and adjust our reserves for self-insurance risk accordingly. Provisions for medical and workers' compensation claims are based on estimates, which are subject to differing financial outcomes based upon the nature and severity of those claims. As a result, additional reserves may be required in future periods.
Results of Operations
The periods presented in this Form 10-K are reported on a comparable basis. The Publications business segment is focused on the production of short-run journals, medium-run journals and specialty magazines and is comprised of the assets and operations of The Sheridan Press, Inc., Dartmouth Printing Company, Dartmouth Journal Services, Inc. and United Litho, Inc. We believe there are many similarities in the journal and magazine markets such as the equipment used in the print and bind process, distribution methods, repetitiveness and frequency of titles and the level of service required by customers. Our Books segment is focused on the production of short-run books and is comprised of the assets and operations of Sheridan Books, Inc. This market does not have the repetitive nature of our other products and does not require the same level of customer service. The Specialty Catalogs segment, which is comprised of the assets and operations of The Dingley Press, Inc., is focused on catalog merchants that require run lengths between 50,000 and 8,500,000 copies.
The following tables set forth, for the periods indicated, information derived from our consolidated statements of income, the relative percentage that those amounts represent to total net sales (unless
22
otherwise indicated), and the percentage change in those amounts from period to period. These tables should be read in conjunction with the commentary that follows them.
Comparison of Years Ended December 31, 2010 and December 31, 2009
|
Year ended December 31, |
Increase (decrease) | Percent of revenue Year ended December 31, |
||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(in thousands) |
2010 | 2009 | Dollars | Percentage | 2010 | 2009 | |||||||||||||
Net sales |
|||||||||||||||||||
Publications |
$ | 148,758 | $ | 165,872 | $ | (17,114 | ) | (10.3 | )% | 55.9 | % | 56.5 | % | ||||||
Specialty catalogs |
60,725 | 68,948 | (8,223 | ) | (11.9 | )% | 22.8 | % | 23.5 | % | |||||||||
Books |
56,776 | 58,554 | (1,778 | ) | (3.0 | )% | 21.3 | % | 20.0 | % | |||||||||
Intersegment sales elimination |
(71 | ) | (25 | ) | (46 | ) | (184.0 | )% | | | |||||||||
Total net sales |
266,188 | 293,349 | (27,161 | ) | (9.3 | )% | 100.0 | % | 100.0 | % | |||||||||
Cost of sales |
212,511 |
232,948 |
(20,437 |
) |
(8.8 |
)% |
79.8 |
% |
79.4 |
% |
|||||||||
Gross profit |
53,677 | 60,401 | (6,724 | ) | (11.1 | )% | 20.2 | % | 20.6 | % | |||||||||
Selling and administrative expenses |
35,799 | 37,115 | (1,316 | ) | (3.5 | )% | 13.5 | % | 12.7 | % | |||||||||
Loss on disposition of fixed assets |
9 | 146 | (137 | ) | nm | | | ||||||||||||
Restructuring costs |
78 | 312 | (234 | ) | (75.0 | )% | | 0.1 | % | ||||||||||
Amortization of intangibles |
1,398 | 1,438 | (40 | ) | (2.8 | )% | 0.5 | % | 0.5 | % | |||||||||
Impairment charge |
7,001 | | 7,001 | nm | 2.7 | % | | ||||||||||||
Total operating expenses |
44,285 | 39,011 | 5,274 | 13.5 | % | 16.7 | % | 13.3 | % | ||||||||||
Operating income |
|||||||||||||||||||
Publications |
8,070 | 17,312 | (9,242 | ) | (53.4 | )% | 5.4 | % | 10.4 | % | |||||||||
Specialty catalogs |
(1,485 | ) | 1,491 | (2,976 | ) | nm | (2.4 | )% | 2.2 | % | |||||||||
Books |
4,339 | 4,039 | 300 | 7.4 | % | 7.6 | % | 6.9 | % | ||||||||||
Corporate expenses |
(1,532 | ) | (1,452 | ) | (80 | ) | (5.5 | )% | N/A | N/A | |||||||||
Total operating income |
9,392 | 21,390 | (11,998 | ) | (56.1 | )% | 3.5 | % | 7.3 | % | |||||||||
Other (income) expense |
|||||||||||||||||||
Interest expense |
15,791 | 17,229 | (1,438 | ) | (8.3 | )% | 5.9 | % | 5.9 | % | |||||||||
Interest income |
(49 | ) | (69 | ) | 20 | 29.0 | % | | | ||||||||||
Gain on repurchase of notes payable |
| (7,194 | ) | 7,194 | 100.0 | % | | (2.5 | )% | ||||||||||
Other, net |
23 | (234 | ) | 257 | nm | | (0.1 | )% | |||||||||||
Total other expense |
15,765 | 9,732 | 6,033 | 62.0 | % | 5.9 | % | 3.3 | % | ||||||||||
(Loss) income before income taxes |
(6,373 | ) | 11,658 | (18,031 | ) | nm | (2.4 | )% | 4.0 | % | |||||||||
Income tax (benefit) provision |
(432 |
) |
3,441 |
(3,873 |
) |
nm |
(0.2 |
)% |
1.2 |
% |
|||||||||
Net (loss) income |
$ | (5,941 | ) | $ | 8,217 | $ | (14,158 | ) | nm | (2.2 | )% | 2.8 | % | ||||||
nmnot meaningful
Commentary:
Net sales for 2010 decreased $27.2 million or 9.3% versus 2009, largely attributable to decreases in shipping and paper costs, which are passed on to our customers, due principally to lower volumes being produced by us. The lower volumes are due primarily to reductions in print run lengths resulting from
23
the economic recession as well as the loss of work from certain customers due to pricing considerations. Net sales for the Publications segment decreased $17.1 million or 10.3% in 2010 compared to a year ago due primarily to: (i) loss of a portion of our journal work from a specific customer due to pricing considerations; (ii) sales declines in magazines as reductions in print advertising have led our customers to reduce run lengths, page counts and frequency of publication; and (iii) the conversion from offset to digital printing for journals as publishers seek cost-effective methods for delivering content. Decreases in shipping and paper costs, which are passed on to our customers, accounted for a majority of the dollar sales decline in Publications sales. Net sales for the Specialty Catalogs segment decreased $8.2 million or 11.9% in 2010 compared with a year ago due primarily to the impact of lower paper costs, coupled with a reduction in print quantities for catalogs in response to soft retail sales. Net sales for the Books segment decreased $1.8 million or 3.0% in 2010 compared with a year ago due primarily to fewer titles being produced due to the economic recession as well as the loss of a portion of our book work from a specific customer due to pricing considerations, which were partially offset by higher paper pass through costs due to price increases and product mix changes as well as increases in volume from new customers.
Gross profit for 2010 decreased $6.7 million compared to 2009 as we were not able to adjust our cost structure sufficiently to offset the reduction in sales. A one-time charge of $2.3 million for depreciation expense in connection with the write down of the value of a printing press, in the Publications segment, that was removed from service accounted for slightly more than one-third of the gross profit decline. This was partially offset by a $1.8 million increase in revenue from recyclable materials. Gross margin of 20.2% of net sales for 2010 reflected a 0.4 margin point decrease versus 2009 due primarily to the 0.8 margin point reduction associated with the one-time depreciation charge.
Selling and administrative expenses for 2010 decreased $1.3 million or 3.5% versus 2009, due primarily to decreases in staffing and benefit costs (largely due to headcount reductions and the suspension of the Company's contributions to the 401k plan) coupled with a decrease in bad debt expense and the non-recurrence in 2010 of non-capitalizable costs associated with renewing our working capital facility in 2009.
We evaluate possible impairment of goodwill on an annual basis at the reporting unit level. As a result of our impairment tests, we concluded that the carrying value of goodwill at Dartmouth Printing Company exceeded its implied fair value. This resulted in a non-cash impairment charge of $7.0 million during the fourth quarter of 2010. In connection with our annual assessment of goodwill and other intangibles in 2009, we concluded that there were no indications of impairment.
Operating income of $9.4 million for 2010 represented a decrease of $12.0 million or 56.1% as compared to operating income of $21.4 million for 2009. The impact of the $7.0 million goodwill impairment charge and the $2.3 million one-time charge for depreciation expense, mentioned above, accounted for a majority of the decrease in operating income. The remainder of the decrease was due to lower sales only partially offset by cost reductions in staffing, materials and operating leases and higher recyclables revenue. Publications operating income decreased $9.2 million in 2010 compared to 2009 due primarily to the $7.0 million goodwill impairment charge and the $2.3 million one-time charge for depreciation expense. Specialty Catalogs realized an operating loss of $1.5 million during 2010 as compared to operating income of $1.5 million a year ago due to reductions in sales, which outpaced reductions in our cost structure. The Books segment increased operating income by $0.3 million in 2010 compared to 2009 as lower costs, primarily staffing, benefits and materials, coupled with increased revenue from recyclable materials more than offset the decrease in sales.
24
Other expense of $15.8 million for 2010 represented a $6.1 million increase as compared to other expense of $9.7 million for 2009. This increase was due primarily to the absence in 2010 of the $7.2 million gain on the repurchases of notes payable that occurred during 2009, partially offset by a corresponding reduction in related interest expense of $1.4 million in 2010.
The loss before income taxes of $6.4 million for 2010 represented an $18.0 million decrease as compared to last year. This change was due primarily to the absence in 2010 of the $7.2 million gain on the repurchases of notes payable that occurred during the same period of 2009, the $7.0 million charge for goodwill impairment in 2010, the $2.3 million one-time charge for depreciation expense in 2010 and the reductions in sales which outpaced reductions in our cost structure.
Our effective income tax rate in 2010 was 6.8% compared to 29.5% in 2009. The decrease in the effective tax rate was due primarily to the impact of the goodwill impairment charge in the Publications segment, as this goodwill was not deductible for tax purposes.
Net loss of $5.9 million for 2010 represented a $14.1 million decrease as compared to net income of $8.2 million for 2009 due to the factors mentioned previously.
25
Comparison of Years Ended December 31, 2009 and December 31, 2008
|
Year ended December 31, |
Increase (decrease) | Percent of revenue Year ended December 31, |
||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(in thousands) |
2009 | 2008 | Dollars | Percentage | 2009 | 2008 | |||||||||||||
Net sales |
|||||||||||||||||||
Publications |
$ | 165,872 | $ | 188,714 | $ | (22,842 | ) | (12.1 | )% | 56.5 | % | 54.2 | % | ||||||
Specialty catalogs |
68,948 | 92,218 | (23,270 | ) | (25.2 | )% | 23.5 | % | 26.5 | % | |||||||||
Books |
58,554 | 67,282 | (8,728 | ) | (13.0 | )% | 20.0 | % | 19.3 | % | |||||||||
Intersegment sales elimination |
(25 | ) | (187 | ) | 162 | 86.6 | % | | | ||||||||||
Total net sales |
293,349 | 348,027 | (54,678 | ) | (15.7 | )% | 100.0 | % | 100.0 | % | |||||||||
Cost of sales |
232,948 |
281,380 |
(48,432 |
) |
(17.2 |
)% |
79.4 |
% |
80.9 |
% |
|||||||||
Gross profit |
60,401 | 66,647 | (6,246 | ) | (9.4 | )% | 20.6 | % | 19.1 | % | |||||||||
Selling and administrative expenses |
37,115 | 42,175 | (5,060 | ) | (12.0 | )% | 12.7 | % | 12.1 | % | |||||||||
Loss on disposition of fixed assets |
146 | 1,223 | (1,077 | ) | (88.1 | )% | | 0.4 | % | ||||||||||
Related party guaranty |
| 3,000 | (3,000 | ) | (100.0 | )% | | 0.8 | % | ||||||||||
Restructuring costs |
312 | 137 | 175 | 127.7 | % | 0.1 | % | | |||||||||||
Amortization of intangibles |
1,438 | 1,715 | (277 | ) | (16.2 | )% | 0.5 | % | 0.5 | % | |||||||||
Impairment charge |
| 5,640 | (5,640 | ) | (100.0 | )% | | 1.6 | % | ||||||||||
Total operating expenses |
39,011 | 53,890 | (14,879 | ) | (27.6 | )% | 13.3 | % | 15.4 | % | |||||||||
Operating income |
|||||||||||||||||||
Publications |
17,312 | 12,481 | 4,831 | 38.7 | % | 10.4 | % | 6.6 | % | ||||||||||
Specialty catalogs |
1,491 | (426 | ) | 1,917 | nm | 2.2 | % | (0.5 | )% | ||||||||||
Books |
4,039 | 5,524 | (1,485 | ) | (26.9 | )% | 6.9 | % | 8.2 | % | |||||||||
Corporate expenses |
(1,452 | ) | (4,822 | ) | 3,370 | 69.9 | % | N/A | N/A | ||||||||||
Total operating income |
21,390 | 12,757 | 8,633 | 67.7 | % | 7.3 | % | 3.7 | % | ||||||||||
Other (income) expense |
|||||||||||||||||||
Interest expense |
17,229 | 18,399 | (1,170 | ) | (6.4 | )% | 5.9 | % | 5.3 | % | |||||||||
Interest income |
(69 | ) | (172 | ) | 103 | 59.9 | % | | (0.1 | )% | |||||||||
Gain on repurchase of notes payable |
(7,194 | ) | | (7,194 | ) | nm | (2.5 | )% | | ||||||||||
Other, net |
(234 | ) | 1,269 | (1,503 | ) | nm | (0.1 | )% | 0.4 | % | |||||||||
Total other expense |
9,732 | 19,496 | (9,764 | ) | (50.1 | )% | 3.3 | % | 5.6 | % | |||||||||
Income (loss) before income taxes |
11,658 | (6,739 | ) | 18,397 | nm | 4.0 | % | (1.9 | )% | ||||||||||
Income tax provision (benefit) |
3,441 |
(867 |
) |
4,308 |
nm |
1.2 |
% |
(0.2 |
)% |
||||||||||
Net income (loss) |
$ | 8,217 | $ | (5,872 | ) | $ | 14,089 | nm | 2.8 | % | (1.7 | )% | |||||||
nmnot- meaningful
Commentary:
Net sales were $293.3 million in 2009, a $54.7 million or 15.7% decrease compared to net sales of $348.0 million in 2008. The decrease in sales was due primarily to reductions in pricing, print run lengths and page counts resulting from the ongoing economic recession coupled with decreases in paper and shipping costs, which are passed on to our customers. Net sales for the Publications segment decreased $22.8 million or 12.1% in 2009 as compared to the same period a year ago with the sales
26
decline largely due to lower paper and freight costs. The balance of the Publications sales decline was due to reductions in pricing, run lengths and frequency of publication for journal and magazine customers along with a reduction in page counts from our magazine customers. Net sales for the Specialty Catalogs segment decreased $23.3 million or 25.2% in 2009 as compared to the same period a year ago. A majority of the Specialty Catalogs sales decrease was due to lower paper and freight costs, including the impact of the segment's largest customer's decision to supply its own paper. The remainder of the Specialty Catalogs sales decline is attributable to a reduction in print run lengths and page counts for catalogs reflecting reduced consumer spending. Net sales for the Books segment decreased $8.7 million or 13.0% in 2009 as compared to the same period a year ago due primarily to fewer titles being produced coupled with shorter run lengths and page counts as book publishers deal with the economic recession. Additionally, lower paper and freight costs contributed to the sales decline in Books.
Gross profit for 2009 decreased by $6.2 million or 9.4% compared to 2008. The gross profit decrease was attributable primarily to the reduction in sales mentioned previously coupled with lower revenue from recyclable materials partially offset by lower variable costs, reductions in healthcare and utility costs, and cost reductions pertaining to staffing, benefits and discretionary spending. Additionally, the non-recurrence of 2008 start-up costs associated with the new digital product offering in the Publications segment also helped partially offset the adverse impact of the decline in sales and recyclables revenue. Gross margin of 20.6% of net sales in 2009 reflected a 1.5 margin point increase versus 2008. The gross margin increase was due principally to reductions in pass through costs of freight and paper as well as the reductions in health care, utility and variable costs combined with cost reduction efforts.
Operating income of $21.4 million for 2009 represented an increase of $8.6 million or 67.7% as compared to operating income of $12.8 million for 2008. This increase was primarily attributable to the non-recurrence of three items from 2008: (i) $5.6 million of impairment charges related to goodwill and intangibles at United Litho, Inc. and The Dingley Press, Inc., (ii) $3.0 million of related party guaranty costs to satisfy obligations in connection with the shutdown of GPN Asia, a former affiliate of our parent company and (iii) $0.8 million of losses on the disposition of fixed assets associated with our product offering in the digital printing market. We also realized reductions in selling and administrative costs due to cost management of staffing, employee benefits and discretionary costs coupled with lower administrative costs associated with the new digital product initiative, partially offset by the gross profit reductions discussed previously. In the Publications segment, operating income increased by $4.8 million during 2009 as compared to the year ago period due primarily to the non-recurrence of the impairment charges for goodwill and other intangibles and the losses on the disposition of fixed assets associated with the digital product initiative mentioned previously. Additionally, reductions in Publications staffing, employee benefit plans and discretionary spending coupled with lower healthcare claims, lower material and utility costs, and the absence of start-up costs associated with our product offering in the digital printing market more than offset the adverse impact of lower sales volume and lower revenue from recyclable materials. In the Specialty Catalogs segment, operating income increased by $1.9 million in 2009 as a result of reductions in staffing and discretionary spending coupled with lower utility costs which offset the impact of lower sales volume and the lower revenue from recyclable materials compared to the same period year ago. Operating income in the Books segment decreased $1.5 million in 2009 as compared to 2008 due primarily to the decline in sales volume and lower revenue from recyclable materials. These adverse impacts were partially offset by significant reductions in staffing and employee benefits in the Books segment.
During 2009, we recorded gains on the repurchase of notes payable of $7.2 million. There were no comparable transactions during 2008. The repurchase of notes payable was the primary reason our interest expense decreased $1.2 million during 2009 as compared to the same period last year.
27
Other income was $0.2 million for 2009 as compared to other expense of $1.3 million during the same period last year. This increase was due primarily to the increase in the market value of investments held in the deferred compensation plan during 2009. The market value of these investments decreased during the same period in 2008.
Income before income taxes of $11.7 million for 2009 represented an $18.4 million increase as compared to the same period last year. The increase was due primarily to the gains on the repurchases of notes payable and the non-recurrence of (i) impairment charges for goodwill and other intangibles, (ii) the related party guaranty costs in connection with the shutdown of GPN Asia and (iii) the losses on the disposition of certain fixed assets associated with the digital product initiative. In addition, the reduction in interest expense and the increase in the market value of investments held in the deferred compensation plan during the year also contributed to the increase in income before income taxes. These increases were partially offset by the adverse impact of lower sales net of the operating cost reductions mentioned previously.
Our effective income tax rate was 29.5% for 2009 compared to 12.9% for the same period in 2008. The effective tax rate was much lower in 2008 due primarily to the impact of the goodwill impairment charge mentioned previously.
Net income of $8.2 million for 2009 represented a $14.1 million increase as compared to a net loss of $5.9 million for 2008 due to the factors mentioned previously.
Liquidity and Capital Resources
Our 2003 Notes and 2004 Notes mature on August 15, 2011. We do not have sufficient funds, nor do we anticipate generating sufficient funds from operations to repay these notes. We are actively engaged in the process of refinancing these notes prior to their maturity but we cannot assure you that we will be able to do so. Our future operating performance and ability to extend or refinance our indebtedness will be dependent on future economic conditions and financial, business, and other factors that may be beyond our control. If we fail to refinance the notes this would have a material adverse impact on our business, assets and ability to fund our liquidity needs. Our working capital facility is scheduled to terminate on May 25, 2011. We are also actively engaged in the process of replacing the current facility prior to its termination, but we cannot assure you that we will be able to do so. If we are not able to replace our working capital facility on similar terms, it could adversely impact our ability to fund our liquidity needs.
We had cash of $13.7 million as of December 31, 2010 compared to $4.1 million as of December 31, 2009. During 2010, we utilized cash on hand to fund operations, make investments in new plant and equipment and make the semi-annual interest payments on the senior secured notes.
Our principal sources of liquidity are expected to be cash flow generated from operations and borrowings under our working capital facility. Our principal uses of cash are expected to be to meet debt interest requirements, finance our capital expenditures and provide working capital. Additionally, we may from time to time fund cash distributions to our Parent, as we did in the first quarter of 2009, in accordance with the limitations outlined in our bond indenture and our working capital facility.
We are subject to liquidity risk, which is the potential that we will be unable to meet our obligations as they become due or capitalize on growth opportunities as they arise because of an inability to liquidate assets, or obtain adequate funding on a timely basis at a reasonable cost and within acceptable risk tolerances. Our access to funding sources in amounts adequate to finance our activities could be impaired by factors that affect us specifically or the printing industry in general, including a decrease in the level of our business activity due to a market downturn or the insufficient access to liquidity. If we do not have sufficient liquidity to comply with the terms of the working capital facility and the 2003 and 2004 Notes, we could be in default under those agreements, and the debt
28
under those instruments, together with the accrued interest, could then be declared immediately due and payable.
To service our debt, we require a significant amount of cash. Our ability to generate cash, make scheduled payments or refinance our obligations depends on our successful financial and operating performance. If our cash flow and capital resources are insufficient, we may be forced to reduce or delay capital expenditures, sell material assets or operations, obtain additional capital or restructure our debt. If we are required to take any such actions, it could have a material adverse effect on our business, financial condition, and results of operations. In addition, we cannot assure that we would be able to take any of these actions on terms acceptable to us, or at all, that these actions would enable us to continue to satisfy our capital requirements or that these actions would be permitted under the terms of our various debt agreements.
Operating Activities
Net cash provided by operating activities was $22.7 million for 2010, virtually unchanged as compared to $23.0 million for 2009. Our net cash provided by operating activities for 2010 was primarily due to our $5.9 million net loss adjusted for non-cash items of $28.8 million partially offset by a $0.2 million decrease due to working capital changes. Our unfavorable working capital changes included (i) an increase in paper inventory at the end of 2010 as compared to 2009, primarily in our Specialty Catalogs segment in advance of a price increase and (ii) a decrease in our accrued expenses, which included our payroll-related liability, primarily due to a lower headcount at the end of 2010 as compared to the prior year and a decrease in the accrual for incentives paid to customers primarily due to lower sales in 2010 as compared to the prior year. These unfavorable changes were partially offset by (i) a decrease in accounts receivable at the end of 2010 as compared to 2009 due primarily to a decrease in sales activity and (ii) an increase in accounts payable at the end of 2010 as compared to 2009, due primarily to the timing of paper purchases and a change in payment terms with an ink supplier.
Net cash provided by operating activities was $23.0 million for 2009, an increase of $8.3 million as compared to $14.7 million for 2008. The increase was primarily due to favorable changes in working capital and other assets and liabilities totaling $7.9 million. The working capital changes included (i) a decrease in accounts receivable at the end of 2009 as compared to 2008 due primarily to decreases in sales activity, (ii) inventory levels at the end of 2009 were significantly lower as compared to the end of 2008 due primarily to efforts to reduce inventory balances in line with our lower production and sales levels, (iii) a decrease in refundable income taxes at the end of 2009 as compared to 2008 due to the tax refunds we collected during the year and (iv) the effect of the increase in income taxes payable to Holdings for federal and state jurisdictions where consolidated income tax returns are filed by Holdings. These favorable changes were partially offset by unfavorable changes which included: (i) a decrease in accounts payable at the end of 2009 as compared to 2008 due primarily to our lower production levels, (ii) an unfavorable change in other current assets due to the timing of cash received for rebates for materials and recyclables and (iii) an unfavorable change in other non-current assets due to the increase in the market value of investments held in the deferred compensation plan at the end of 2009 as compared to the end of 2008 versus the decrease in these investments at the end of 2008 as compared to the end of 2007. We also realized an increase in net income of $14.1 million in 2009 as compared to 2008. Much of this increase did not result in additional cash flow because it was due principally to decreases in non-cash charges consisting primarily of the reduction of impairment charges for goodwill and intangibles, the reduction in losses from the disposition of fixed assets, the reduction in amortization of intangible assets as well as the non-cash nature of the gain on the repurchase of notes payable partially offset by increases in depreciation expense and the provision for doubtful accounts.
29
Investing Activities
Net cash used in investing activities was $13.1 million for 2010 compared to $11.4 million for 2009. This $1.7 million increase was primarily the result of a $4.0 million increase in plant and equipment purchased in the ordinary course of business partially offset by a $0.5 million increase in proceeds received from the sale of fixed assets and a $1.7 million decrease in advances made to our parent company. The $4.0 million increase in plant and equipment was due to spending associated with the purchase of a new press at DPC to accommodate future journal growth and provide capacity for magazines being transferred from ULI as we consolidate sites.
Net cash used in investing activities was $11.4 million for 2009 compared to $18.7 million for 2008. This $7.3 million decrease was primarily the result of a $7.9 million decrease in plant and equipment purchased in the ordinary course of business partially offset by a $0.6 million net increase in advances made to our parent and a former affiliated company.
Financing Activities
Net cash provided by financing activities was negligible in 2010. Net cash used in financing activities was $23.9 million in 2009 and consisted primarily of the $14.5 million we paid to repurchase our senior secured notes, the $9.1 million dividend paid to our parent company to enable it to repurchase its capital stock in connection with the complete divestiture of its interest in Euradius International Dutch Bidco B.V. and the $0.3 million in deferred financing costs we paid in connection with the amendment to our working capital facility
Net cash used in financing activities during 2009 was $23.9 million compared to $0.1 million during 2008. The $23.8 million increase in cash used was primarily the result of the $14.5 million we paid to repurchase our senior secured notes, the $9.1 million dividend paid to our parent company to enable it to repurchase its capital stock in connection with the complete divestiture of its interest in Euradius International Dutch Bidco B.V. and the $0.3 million in deferred financing costs we paid in connection with the amendment to our working capital facility.
Indebtedness
As of December 31, 2010, we had total indebtedness of $142.9 million comprised entirely of amounts due under the 2003 Notes and the 2004 Notes, all with a scheduled maturity of August 2011. We have significant interest payments due on the outstanding notes as well as interest payments due on any borrowings under our working capital facility, under which there were no amounts outstanding as of December 31, 2010. Total cash interest payments related to our working capital facility and the 2003 Notes and the 2004 Notes are expected to be in excess of $14.6 million on an annual basis.
Our working capital facility provides for available credit of up to $20.0 million, subject to a borrowing base test, that we may repay and reborrow until the May 25, 2011 maturity date. Actual available credit under the working capital facility fluctuates because it depends on inventory and accounts receivable values that fluctuate and is subject to discretionary reserves and revaluation adjustments that may be imposed by the agent from time to time and other limitations. Our working capital facility contains various covenants which limit our discretion in the operation of our businesses. Among other things, our working capital facility restricts our ability to prepay other indebtedness, including the 2003 Notes and the 2004 Notes, incur other indebtedness or pay dividends. We amended our working capital facility on June 16, 2009. The amended agreement prohibits us from repurchasing the 2003 Notes and the 2004 Notes unless certain conditions are met, including that the amount expended for note repurchases after May 25, 2009 may not exceed $20.0 million in the aggregate, and that immediately after each note repurchase, there must be at least $5.0 million available under the working capital facility. The working capital facility also requires us to satisfy an interest coverage ratio of at least 1.80 to 1.00 and to maintain EBITDA (as defined in and calculated pursuant to our working
30
capital facility, such EBITDA being referred to hereinafter as "WCF EBITDA") of at least $33.0 million, both calculated for the period consisting of the four preceding consecutive fiscal quarters. Failure to satisfy the financial tests in our working capital facility would constitute a default under our working capital facility. For the twelve months ended December 31, 2010, our interest coverage ratio was 2.58 to 1.00 and our WCF EBITDA for purposes of our working capital facility was $38.2 million. As of December 31, 2010, we had no borrowings outstanding under the working capital facility, had unused amounts available of $16.2 million and had $1.3 million in outstanding letters of credit.
WCF EBITDA, as calculated pursuant to the working capital facility, generally consists of net income (loss) before interest expense, income taxes, depreciation, amortization, restructuring charges and certain other non-cash items. WCF EBITDA is used below for purposes of calculating our compliance with the covenants in our working capital facility and to evaluate our operating performance and determine management incentive payments. WCF EBITDA is not an indicator of financial performance or liquidity under generally accepted accounting principles and may not be comparable to similarly captioned information reported by other companies. In addition, it should not be considered as an alternative to, or more meaningful than, income before income taxes, cash flows from operating activities or other traditional indicators of operating performance.
WCF EBITDA is reconciled directly to cash flow from operations as follows (in thousands):
|
Year ended December 31, 2010 |
Year ended December 31, 2009 |
Year ended December 31, 2008 |
|||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
Net cash provided by operating activities |
$ | 22,740 | $ | 22,968 | $ | 14,640 | ||||||
Accounts receivable |
(2,994 | ) | (3,646 | ) | 660 | |||||||
Inventories |
2,104 | (3,707 | ) | (1,141 | ) | |||||||
Other current assets |
366 | 566 | (1,056 | ) | ||||||||
Refundable income taxes |
(171 | ) | (2,755 | ) | 2,117 | |||||||
Other assets |
16 | 124 | (1,653 | ) | ||||||||
Accounts payable |
(1,057 | ) | 7,149 | 3,130 | ||||||||
Accrued expenses |
2,157 | 4,181 | 3,642 | |||||||||
Income taxes payable |
(413 | ) | (3,140 | ) | 73 | |||||||
Other liabilities |
156 | 112 | 1,049 | |||||||||
Provision for doubtful accounts |
(918 | ) | (1,239 | ) | (863 | ) | ||||||
Provision for inventory realizability and LIFO value |
(285 | ) | (107 | ) | (199 | ) | ||||||
Deferred income tax benefit |
1,200 | 470 | 297 | |||||||||
Loss on disposition of fixed assets, net |
(9 | ) | (146 | ) | (1,223 | ) | ||||||
Income tax (benefit) provision |
(432 | ) | 3,441 | (867 | ) | |||||||
Cash interest expense |
14,848 | 16,112 | 17,102 | |||||||||
Management fees |
763 | 894 | 767 | |||||||||
Non cash adjustments: |
||||||||||||
Adjustments to LIFO value |
30 | 13 | 137 | |||||||||
(Increase) decrease in market value of investments |
(29 | ) | (85 | ) | 319 | |||||||
Amortization of prepaid lease costs |
4 | 76 | 90 | |||||||||
Loss on disposition of fixed assets |
120 | 174 | 1,318 | |||||||||
Interest income |
(49 | ) | (69 | ) | | |||||||
Related party guaranty |
| | 3,000 | |||||||||
Restructuring costs |
78 | 313 | 137 | |||||||||
Bank fees for abandoned line of credit renewal |
| 308 | | |||||||||
WCF EBITDA |
$ | 38,225 | $ | 42,007 | $ | 41,476 | ||||||
31
The indenture governing the 2003 Notes and the 2004 Notes also contains various restrictive covenants. It, among other things: (i) limits our ability and the ability of our subsidiaries to incur additional indebtedness, issue shares of preferred stock, incur liens and enter into certain transactions with affiliates; (ii) places restrictions on our ability to pay dividends or make certain other restricted payments; and (iii) places restrictions on our ability and the ability of our subsidiaries to merge or consolidate with any other person or sell, assign, transfer, convey or otherwise dispose of all or substantially all of our assets.
Our principal sources of liquidity are expected to be cash flow generated from operations and borrowings under our working capital facility. Our principal uses of cash are expected to be to meet debt service requirements, finance our capital expenditures and provide working capital. We may from time to time fund cash distributions to our Parent, as we did in the first quarter of 2009, in accordance with the limitations outlined in our bond indenture and our working capital facility. We estimate that our capital expenditures for 2011 will total about $18.8 million. Based on our current level of operations, we believe that our cash flow from operations, available cash and available borrowings under our working capital facility will not be adequate to meet our future short-term liquidity needs due to the pending maturity of our notes. Our 2003 Notes and 2004 Notes mature on August 15, 2011. We do not have sufficient funds, nor do we anticipate generating sufficient funds from operations, to repay these notes. We are actively engaged in the process of refinancing these notes prior to their maturity but we cannot assure you that we will be able to do so. Our future operating performance and ability to extend or refinance our indebtedness will be dependent on future economic conditions and financial, business and other factors that may be beyond our control.
Contractual Obligations
The following table summarizes our future minimum non-cancelable contractual obligations as of December 31, 2010. The information presented in the table below reflects management's estimates of the contractual maturities of our obligations. These maturities may differ significantly from the actual maturities of these obligations:
|
Remaining Payments Due by Period | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(in thousands)
|
Total | 2011 | 2012 to 2013 |
2014 to 2015 |
2016 and beyond |
|||||||||||
Long term debt, including interest(1) |
$ | 157,547 | $ | 157,547 | $ | | $ | | $ | | ||||||
Operating leases |
4,531 | 2,232 | 1,636 | 591 | 72 | |||||||||||
Purchase obligations(2) |
8,759 | 8,548 | 208 | 3 | | |||||||||||
Other long-term obligations(3) |
315 | 151 | 164 | | | |||||||||||
Total(4) |
$ | 171,152 | $ | 168,478 | $ | 2,008 | $ | 594 | $ | 72 | ||||||
- (1)
- Includes
the $142.9 million aggregate principal amount due on the 2003 Notes and the 2004 Notes plus interest at 10.25% payable
semi-annually through August 15, 2011.
- (2)
- Represents
payments due under purchase agreements for consumable raw materials and commitments for construction projects and equipment acquisitions.
- (3)
- Represents
payments due under a non-compete arrangement with our former Chairman of the Board.
- (4)
- At December 31, 2010, we have recognized $1.9 million of liabilities for unrecognized tax benefits. There is a high degree of uncertainty with respect to the timing of future cash outflows associated with our unrecognized tax benefits because they are dependent on various matters including tax examinations, changes in tax laws or interpretation of those laws, expiration of statutes of limitation, etc. Due to these uncertainties, our unrecognized tax benefits have been excluded from the contractual obligations table above.
32
Off-Balance Sheet Arrangements
At December 31, 2010 and 2009, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. We are, therefore, not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.
Effect of Inflation
Inflation generally affects us by increasing our costs of labor, equipment and new materials. We do not believe that inflation has had any material effect on our results of operations during 2010, 2009 and 2008.
Recently Issued Accounting Pronouncements
On January 1, 2010, we adopted authoritative guidance issued by the Financial Accounting Standards Board ("FASB") related to the accounting and disclosure requirements for transfers of financial assets. This guidance requires greater transparency and additional disclosures for transfers of financial assets and the entity's continuing involvement with them and changes the requirements for derecognizing financial assets. In addition, the guidance eliminates the concept of a qualifying special-purpose entity. The adoption of this guidance did not have a material impact on our financial position, results of operations or cash flows.
In June 2009, the accounting standard regarding the requirements of consolidation accounting for variable interest entities was updated by the FASB to require an enterprise to perform an analysis to determine whether the entity's variable interest or interests give it a controlling interest in a variable interest entity. The adoption of this guidance by us on January 1, 2010, did not have a material impact on our financial position, results of operations or cash flows.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk represents the risk of changes in value of a financial instrument, derivative or non-derivative, caused by fluctuations in interest rates, foreign exchange rates and equity prices. Changes in these factors could cause fluctuations in results of our operations and cash flows. In the ordinary course of business, we are exposed to foreign currency and interest rate risks. These risks primarily relate to the purchase of products and services from foreign suppliers and changes in interest rates on our long-term debt.
Foreign Exchange Rate Market Risk
We consider the U.S. dollar to be the functional currency for all of our entities. All of our net sales and virtually all of our expenses in fiscal years 2010, 2009 and 2008 were denominated in U.S. dollars. Therefore, foreign currency fluctuations had a negligible impact on our financial results in those periods.
Interest Rate Market Risk
We could be exposed to changes in interest rates. Our working capital facility is variable rate debt. Interest rate changes, therefore, generally do not affect the market value of such debt but do impact the amount of our interest payments and, therefore, our future earnings and cash flows, assuming other factors are held constant. We did not have any borrowings under our working capital facility during 2010. We do not currently utilize derivative financial instruments to hedge changes in interest rates. All of our other debt carries fixed interest rates.
33
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm
To
the Board of Directors and the Stockholder
of The Sheridan Group, Inc.
In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, of changes in the stockholder's equity and of cash flows present fairly, in all material respects, the financial position of The Sheridan Group, Inc. and Subsidiaries (the "Company") at December 31, 2010 and 2009, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2010 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the Company has a significant amount of current debt maturing within the next twelve months and will need to raise additional capital in order to settle these obligations, which raises substantial doubt about its ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 2. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/
PricewaterhouseCoopers LLP
Baltimore, Maryland
March 29, 2011
34
The Sheridan Group, Inc. and Subsidiaries
Consolidated Balance Sheets
At December 31, 2010 and 2009
|
December 31, 2010 |
December 31, 2009 |
|||||||
---|---|---|---|---|---|---|---|---|---|
Assets |
|||||||||
Current assets |
|||||||||
Cash and cash equivalents |
$ | 13,717,082 | $ | 4,109,740 | |||||
Accounts receivable, net of allowance for doubtful accounts of $2,261,252 and $2,055,569, respectively |
25,470,633 | 29,382,142 | |||||||
Inventories, net |
15,809,053 | 13,989,631 | |||||||
Other current assets |
4,389,986 | 4,023,966 | |||||||
Refundable income taxes |
8,457 | 179,473 | |||||||
Deferred income taxes |
1,564,076 | 1,700,168 | |||||||
Total current assets |
60,959,287 | 53,385,120 | |||||||
Property, plant and equipment, net |
112,044,062 | 117,757,008 | |||||||
Intangibles, net |
32,168,520 | 33,566,535 | |||||||
Goodwill |
33,978,641 | 40,979,426 | |||||||
Deferred financing costs, net |
516,286 | 1,483,423 | |||||||
Other assets |
1,843,739 | 1,828,173 | |||||||
Total assets |
$ | 241,510,535 | $ | 248,999,685 | |||||
Liabilities |
|||||||||
Current liabilities |
|||||||||
Accounts payable |
$ | 16,305,544 | $ | 14,621,067 | |||||
Accrued expenses |
15,541,858 | 17,698,876 | |||||||
Current portion of notes payable |
142,923,740 | | |||||||
Due to parent, net |
534,440 | 121,044 | |||||||
Total current liabilities |
175,305,582 | 32,440,987 | |||||||
Notes payable |
| 142,948,652 | |||||||
Deferred income taxes |
24,612,025 | 25,935,903 | |||||||
Other liabilities |
3,494,135 | 3,662,574 | |||||||
Total liabilities |
203,411,742 | 204,988,116 | |||||||
Commitments and contingencies |
|||||||||
Stockholder's Equity |
|||||||||
Common stock, $0.01 par value; 100 shares authorized; |
|||||||||
1 share issued and outstanding |
| | |||||||
Additional paid-in capital |
42,075,908 | 42,047,938 | |||||||
(Accumulated deficit) retained earnings |
(3,977,115 | ) | 1,963,631 | ||||||
Total stockholder's equity |
38,098,793 |
44,011,569 |
|||||||
Total liabilities and stockholder's equity |
$ | 241,510,535 | $ | 248,999,685 | |||||
The accompanying notes are an integral part of these consolidated financial statements.
35
The Sheridan Group, Inc. and Subsidiaries
Consolidated Statements of Operations
Years Ended December 31, 2010, 2009 and 2008
|
Year Ended December 31, 2010 |
Year Ended December 31, 2009 |
Year Ended December 31, 2008 |
|||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
Net sales |
$ | 266,187,753 | $ | 293,349,196 | $ | 348,026,720 | ||||||
Cost of sales |
212,510,439 | 232,947,797 | 281,380,147 | |||||||||
Gross profit |
53,677,314 | 60,401,399 | 66,646,573 | |||||||||
Selling and administrative expenses |
35,799,291 | 37,115,289 | 42,175,411 | |||||||||
Loss on disposition of fixed assets |
9,385 | 146,146 | 1,222,918 | |||||||||
Related party guaranty |
| | 3,000,000 | |||||||||
Restructuring costs |
78,335 | 312,556 | 136,965 | |||||||||
Amortization of intangibles |
1,398,015 | 1,437,852 | 1,714,628 | |||||||||
Impairment charges |
7,000,785 | | 5,639,613 | |||||||||
Total operating expenses |
44,285,811 | 39,011,843 | 53,889,535 | |||||||||
Operating income |
9,391,503 | 21,389,556 | 12,757,038 | |||||||||
Other (income) expense |
||||||||||||
Interest expense |
15,790,421 | 17,228,454 | 18,398,974 | |||||||||
Interest income |
(48,869 | ) | (69,485 | ) | (172,549 | ) | ||||||
Gain on repurchase of notes payable |
| (7,193,906 | ) | | ||||||||
Other, net |
22,906 | (233,698 | ) | 1,269,162 | ||||||||
Total other expense |
15,764,458 | 9,731,365 | 19,495,587 | |||||||||
(Loss) income before income taxes |
(6,372,955 | ) | 11,658,191 | (6,738,549 | ) | |||||||
Income tax (benefit) provision |
(432,209 | ) | 3,441,405 | (866,658 | ) | |||||||
Net (loss) income |
$ | (5,940,746 | ) | $ | 8,216,786 | $ | (5,871,891 | ) | ||||
The accompanying notes are an integral part of these consolidated financial statements.
36
The Sheridan Group, Inc. and Subsidiaries
Consolidated Statements of Changes in Stockholder's Equity
Years Ended December 31, 2010, 2009 and
2008
|
Common Stock | |
|
|
||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Additional Paid-In Capital |
(Accumulated Deficit) Retained Earnings |
Total Stockholder's Equity |
|||||||||||||
|
Shares | Amount | ||||||||||||||
Balance as of December 31, 2007 |
1 | | $ | 51,043,554 | $ | (198,261 | ) | $ | 50,845,293 | |||||||
Cash dividend |
| | | (183,003 | ) | (183,003 | ) | |||||||||
Capital contribution from parent companystock options exercised |
| | 20,400 | | 20,400 | |||||||||||
Income tax benefit from stock options exercised |
| | 62,610 | | 62,610 | |||||||||||
Share-based compensation |
| | 9,000 | | 9,000 | |||||||||||
Net loss |
| | | (5,871,891 | ) | (5,871,891 | ) | |||||||||
Balance as of December 31, 2008 |
1 | | $ | 51,135,564 | $ | (6,253,155 | ) | $ | 44,882,409 | |||||||
Cash dividend |
| | (9,105,226 | ) | | (9,105,226 | ) | |||||||||
Share-based compensation |
| | 17,600 | | 17,600 | |||||||||||
Net income |
| | | 8,216,786 | 8,216,786 | |||||||||||
Balance as of December 31, 2009 |
1 | | $ | 42,047,938 | $ | 1,963,631 | $ | 44,011,569 | ||||||||
Capital contribution from parent companystock options exercised |
| | 2,970 | | 2,970 | |||||||||||
Share-based compensation |
| | 25,000 | | 25,000 | |||||||||||
Net loss |
| | (5,940,746 | ) | (5,940,746 | ) | ||||||||||
Balance as of December 31, 2010 |
1 | | $ | 42,075,908 | $ | (3,977,115 | ) | $ | 38,098,793 | |||||||
The accompanying notes are an integral part of these consolidated financial statements.
37
The Sheridan Group, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31, 2010, 2009 and 2008
|
December 31, 2010 |
December 31, 2009 |
December 31, 2008 |
||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Cash flows provided by operating actvities: |
|||||||||||||
Net (loss) income |
$ | (5,940,746 | ) | $ | 8,216,786 | $ | (5,871,891 | ) | |||||
Adjustments to reconcile net (loss) income to net cash provided by operating activities |
|||||||||||||
Depreciation |
19,466,429 | 17,236,045 | 16,684,883 | ||||||||||
Amortization of intangible assets |
1,398,015 | 1,437,852 | 1,714,628 | ||||||||||
Impairment of goodwill and intangibles |
7,000,785 | | 5,639,613 | ||||||||||
Provision for doubtful accounts |
917,857 | 1,238,625 | 862,897 | ||||||||||
Provision for inventory realizability and LIFO value |
284,829 | 106,747 | 198,755 | ||||||||||
Stock-based compensation |
25,000 | 17,600 | 9,000 | ||||||||||
Amortization of deferred financing costs and debt discount, included in interest expense |
942,225 | 1,116,566 | 1,296,573 | ||||||||||
Deferred income tax benefit |
(1,199,846 | ) | (470,043 | ) | (297,475 | ) | |||||||
Gain on repurchase of notes payable |
| (7,193,906 | ) | | |||||||||
Loss on disposition of fixed assets |
9,385 | 146,146 | 1,222,918 | ||||||||||
Changes in operating assets and liabilities |
|||||||||||||
Accounts receivable |
2,993,652 | 3,645,521 | (659,767 | ) | |||||||||
Inventories |
(2,104,251 | ) | 3,706,707 | 1,140,705 | |||||||||
Other current assets |
(366,020 | ) | (566,094 | ) | 1,056,253 | ||||||||
Refundable income taxes |
171,016 | 2,755,337 | (2,116,829 | ) | |||||||||
Other assets |
(15,566 | ) | (124,182 | ) | 1,653,164 | ||||||||
Accounts payable |
1,057,415 | (7,149,268 | ) | (3,129,729 | ) | ||||||||
Accrued expenses |
(2,157,018 | ) | (4,181,219 | ) | (3,642,227 | ) | |||||||
Income tax payable |
413,396 | 3,140,527 | (72,513 | ) | |||||||||
Other liabilities |
(156,379 | ) | (111,824 | ) | (1,048,915 | ) | |||||||
Net cash provided by operating activities |
22,740,178 | 22,967,923 | 14,640,043 | ||||||||||
Cash flows used in investing activities: |
|||||||||||||
Purchases of property, plant and equipment |
(13,671,287 | ) | (9,654,334 | ) | (17,596,886 | ) | |||||||
Proceeds from sale of fixed assets |
535,481 | 38,640 | 108,330 | ||||||||||
Advances to affiliated companies |
| (1,734,539 | ) | (1,172,064 | ) | ||||||||
Net cash used in investing activities |
(13,135,806 | ) | (11,350,233 | ) | (18,660,620 | ) | |||||||
Cash flows provided by (used in) financing activities: |
|||||||||||||
Borrowing of revolving line of credit |
| 42,931,000 | | ||||||||||
Repayment of revolving line of credit |
| (42,931,000 | ) | | |||||||||
Repayment of long term debt |
| (14,539,500 | ) | | |||||||||
Payment of deferred financing costs in connection with long term debt |
| (259,852 | ) | | |||||||||
Proceeds from capital contribution from parent company |
2,970 | | 20,400 | ||||||||||
Realized income tax benefit from stock options exercised |
| | 62,610 | ||||||||||
Payment of dividend |
| (9,105,226 | ) | (183,003 | ) | ||||||||
Net cash provided by (used in) financing activities |
2,970 | (23,904,578 | ) | (99,993 | ) | ||||||||
Net increase (decrease) in cash and cash equivalents |
9,607,342 |
(12,286,888 |
) |
(4,120,570 |
) |
||||||||
Cash and cash equivalents at beginning of period |
4,109,740 |
16,396,628 |
20,517,198 |
||||||||||
Cash and cash equivalents at end of period |
$ |
13,717,082 |
$ |
4,109,740 |
$ |
16,396,628 |
|||||||
Supplemental disclosure of cash flow information |
|||||||||||||
Cash paid (received) during the year for |
|||||||||||||
Interest paid |
$ | 14,822,816 | $ | 16,966,542 | $ | 17,076,499 | |||||||
Income taxes paid (received), net |
$ | 181,237 | $ | (1,872,697 | ) | $ | 1,120,816 | ||||||
Non-cash investing activities |
|||||||||||||
Asset additions in accounts payable |
$ | 787,993 | $ | 160,932 | $ | 1,682,000 |
The accompanying notes are an integral part of these consolidated financial statements.
38
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Years Ended December 31, 2010, 2009 and 2008
1. Business Organization
The Sheridan Group, Inc. ("TSG") is one of the leading specialty printers in the United States, offering a full range of printing and value-added support services for the journal, magazine, book, catalog and article reprint markets. We provide a wide range of printing services and value-added support services, such as digital proofing, preflight checking, offshore composition, copy editing, subscriber services, mail sortation, distribution and back issue fulfillment. We operate seven wholly-owned subsidiaries: The Sheridan Press, Inc. ("TSP"), Dartmouth Printing Company ("DPC"), United Litho, Inc. ("ULI"), Dartmouth Journal Services, Inc. ("DJS"), Sheridan Books, Inc. ("SBI"), The Dingley Press, Inc. ("TDP") and The Sheridan Group Holding Company. As used in the notes to the consolidated financial statements, the terms "we," "us," "our" and other similar terms refer to the consolidated businesses of The Sheridan Group, Inc. and all of its subsidiaries.
On August 21, 2003, we became a wholly-owned subsidiary of TSG Holdings Corp. ("Holdings"), when Holdings purchased 100% of the outstanding capital stock of TSG from its existing stockholders (the "Sheridan Acquisition"). Holdings funded the acquisition price and the related fees and expenses with the proceeds of the sale of $105.0 million aggregate principal amount of 10.25% Senior Secured Notes due 2011 (the "2003 Notes") and equity investments in Holdings. On May 25, 2004, we acquired all of the assets and business of The Dingley Press of Lisbon, Maine (the "Dingley Acquisition"). We funded the acquisition price and the related fees and expenses with the proceeds of the sale of $65.0 million aggregate principal amount of 10.25% Senior Secured Notes due 2011 (the "2004 Notes") and equity investments in Holdings.
2. Liquidity
All of our outstanding debt matures on August 15, 2011, with a balance due at maturity of $142.9 million. We do not have sufficient funds, nor do we anticipate generating sufficient funds from operations to repay the notes. Additionally, our working capital facility, for which we had no borrowings outstanding as of December 31, 2010, is scheduled to terminate on May 25, 2011. Our future operating performance and ability to extend or refinance our indebtedness will be dependent on future economic conditions and financial, business, and other factors that may be beyond our control. If we fail to refinance the notes and extend the working capital facility this would have a material adverse impact on our business, assets and ability to fund our liquidity needs.
The conditions described above raise substantial doubt about our ability to continue as a going concern. If we were unable to continue as a going concern, we would need to liquidate our assets and we might receive significantly less than the values at which they are carried on our consolidated financial statements. The accompanying consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classifications of liabilities that may result should we be unable to continue as a going concern. We are actively engaged in the process of refinancing our notes prior to their maturity and replacing our current working capital facility but we cannot assure you that we will be able to do so.
39
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
3. Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of The Sheridan Group, Inc. and its wholly-owned subsidiaries, TSP, DPC, ULI, DJS, SBI, TDP and The Sheridan Group Holding Company. All material intercompany balances and transactions have been eliminated.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Revenue Recognition
We record revenue when realized or realizable and earned when all of the following criteria are met:
-
- Persuasive evidence of an arrangement exists,
-
- Delivery has occurred,
-
- The seller's price to the buyer is fixed or determinable, and
-
- Collectibility is reasonably assured.
As such, substantially all revenue is recognized when a product is shipped and title and risk of loss transfers to the customer. Shipping and handling fees billed to customers are included in net sales and any cost of shipping and handling is included in cost of sales. A liability is recognized when cash is received from customers in advance of the shipment of their products.
Cash and Cash Equivalents
Cash and cash equivalents include amounts invested in accounts which are readily convertible to known amounts or have original maturities of three months or less when purchased.
Business and Credit Concentrations
Our customers are not concentrated in any specific geographic region, but are concentrated in the journal, magazine, book, specialty catalog and article reprint markets. There were no significant accounts receivable from a single customer. We establish an allowance for doubtful accounts based upon factors surrounding the credit risk of specific customers, historical trends and other information.
Accounts Receivable and Allowance for Doubtful Accounts
Trade accounts receivable are recorded at the invoiced amount and do not bear interest. The allowance for doubtful accounts is our best estimate of probable credit losses in our existing accounts receivable. We review the allowance for doubtful accounts on a regular basis. Past due balances over
40
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
3. Summary of Significant Accounting Policies (Continued)
120 days are reviewed for collectibility and form the basis of our reserve. When we determine that a particular customer poses a credit risk, a specific reserve is established. Account balances are charged off against the allowance when we feel it is probable the receivable will not be recovered. We do not have any off-balance sheet credit exposure related to our customers. During 2010, we wrote off reserves we had provided during 2009 for a specific customer which was deemed to be insolvent.
A rollforward of the allowance for doubtful accounts is as follows:
|
Year Ended December 31, 2010 |
Year Ended December 31, 2009 |
Year Ended December 31, 2008 |
|||||||
---|---|---|---|---|---|---|---|---|---|---|
Balance at beginning of period |
$ | 2,055,569 | $ | 1,080,208 | $ | 616,869 | ||||
Charged to expense |
917,857 | 1,238,625 | 862,897 | |||||||
Deductions |
(712,174 | ) | (263,264 | ) | (399,558 | ) | ||||
Balance at end of period |
$ | 2,261,252 | $ | 2,055,569 | $ | 1,080,208 | ||||
Inventories
Inventories are stated at the lower of cost or market with the cost of TSP's paper inventory and SBI's work-in-process inventory determined by the last-in, first-out ("LIFO") cost method. The cost of the remaining inventory (approximately 90% and 88% of inventories at December 31, 2010 and 2009, respectively) is determined using the first-in, first-out ("FIFO") method.
Property and Equipment
Property, plant and equipment are recorded at cost, except those assets acquired through acquisitions, in which case they are recorded at fair value. Depreciation is provided using the straight-line method over the estimated useful lives of the assets, as follows: 3-11 years for machinery and equipment; and 10-40 years for buildings and land improvements. Leasehold improvements are amortized over their estimated useful lives or the term of the underlying lease, whichever is shorter. Upon disposal of property, plant and equipment, the cost of the asset and the related accumulated depreciation are removed from the accounts and any resulting gain or loss is reflected in earnings.
Expenditures for improvements which extend the original estimated lives of the assets are capitalized. Expenditures for maintenance and repairs are charged to operations as incurred.
We review long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset group may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the asset group to future net cash flows expected to be generated by the assets. If such assets are considered to be impaired, the impairment recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of by sale are reported at the lower of the carrying amount or fair value less costs to sell. We do not believe there was any impairment of property and equipment as of December 31, 2010.
41
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
3. Summary of Significant Accounting Policies (Continued)
Income Taxes
Deferred income taxes are recognized for the tax consequences of applying enacted statutory tax rates applicable to future years to differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities. A valuation allowance is recorded against deferred tax assets when it is more likely than not that a deferred tax asset will not be realized.
We record a liability for uncertain tax positions when it is more likely than not that a tax position that has been taken will not be sustained under audit. The respective probability is evaluated based on relevant facts and tax law. Although we believe that our estimates are reasonable, the final outcome of uncertain tax positions may be materially different from that which is reflected in the consolidated financial statements. We adjust our reserves upon changes in circumstances that would cause a change to the estimate of the ultimate liability, upon effective settlement or upon the expiration of the statute of limitations, in the period in which such event occurs.
Goodwill
Goodwill is tested for impairment at the reporting unit level at least annually or whenever circumstances indicate that the carrying value of the reporting unit's net assets may not be recoverable, utilizing a two-step methodology. The initial step requires us to determine the fair value of each reporting unit and compare it to the carrying value, including goodwill, of such unit. If the fair value exceeds the carrying value, no impairment loss is recognized. However, if the carrying value of the reporting unit exceeds its fair value, the goodwill of this unit may be impaired. The amount, if any, of the impairment is then measured in the second step by comparing the implied fair value of goodwill to the carrying value of goodwill for each reporting unit. To determine the implied fair value of goodwill, we make a hypothetical allocation of the reporting unit's estimated fair value to the tangible and intangible assets (other than goodwill) of the reporting unit. Based on this methodology, we concluded that $3.4 million of ULI goodwill (a component of our Publications segment) was fully impaired and was required to be expensed as a non-cash charge to continuing operations during 2008. In connection with our annual assessment of goodwill in 2009, we concluded that there was no impairment. In connection with our annual assessment of goodwill in 2010, we concluded that $7.0 million of DPC goodwill (a component of our Publications segment) was fully impaired and was required to be expensed as a non-cash charge to continuing operations during the fourth quarter of 2010.
Identified Intangible and Other Long-Lived Assets
Identified intangible assets, which primarily consist of customer relationships and trade names, were valued at fair value, effective with acquisitions. All long-lived assets are amortized over the estimated useful lives. We review long-lived assets for impairment using undiscounted future cash flows whenever events or changes in circumstances indicate that the carrying values of the long-lived asset groups (including goodwill) may not be recoverable. If the sum of undiscounted cash flows are less than the carrying values, the difference between the fair value of the long-lived asset group, using discounted cash flows, and the carrying value is recognized as impairment to the extent of the individual fair values of the long-lived assets (except goodwill). As a result of the impairment analysis performed in 2008 for ULI (a component of our Publications segment) and TDP (our Specialty Catalogs segment), we concluded that the carrying value of the customer relationship assets exceeded their fair value.
42
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
3. Summary of Significant Accounting Policies (Continued)
Therefore, during 2008, we recorded an impairment charge of $2.0 million and $0.2 million for the customer relationship assets of ULI and TDP, respectively. We do not believe there was any impairment of intangible assets or other long-lived assets as of December 31, 2010 and 2009.
Deferred Financing Costs
Deferred financing costs incurred in connection with the 2003 Notes and the 2004 Notes are being amortized over the term of the related debt using the effective interest method. Deferred financing costs incurred in connection with establishing our working capital facility are being amortized over the term of the agreement using the straight-line method. During 2009, we wrote off $0.3 million of deferred financing costs in connection with the repurchase of our senior secured notes and incurred $0.3 million of deferred financing costs in connection with an agreement to amend our working capital facility (see Note 9). Accumulated amortization as of December 31, 2010 and 2009 was $10.2 million and $9.3 million, respectively.
Accounting for Stock Based Compensation
Our parent company, Holdings, established the 2003 Stock-based Incentive Compensation Plan (the "2003 Plan"), pursuant to which Holdings has reserved for issuance 55,500 shares of its Common Stock. There is currently no public trading market for the Common Stock. When necessary, we determine fair value through internal valuations based on historical financial information and/or through a third party service provider. As of December 31, 2010, 640 shares were available for future grants. Stock options are granted at exercise prices not less than the fair market value of the stock at the date of grant. Options generally vest ratably over a five-year period, except those options granted to officers, portions of which vest ratably over five years, and the remainder of which vest upon the achievement of certain performance targets, the occurrence of certain future events, including the sale of the Company or a qualified public offering, or after eight years from the date of grant, as specified in the 2003 Plan. Options expire ten years from the date of grant. We have a policy of issuing new shares to satisfy share options upon exercise.
For the years ended December 31, 2010, 2009 and 2008, we recognized non-cash stock-based compensation expense of approximately $25,000, $17,600 and $9,000, respectively, which is included in selling and administrative expenses.
We value options using the Black-Scholes option-pricing model which was developed for use in estimating the fair value of traded options that are fully transferable and have no vesting restrictions. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of the grant. The expected term of the options is an output of the option-pricing model and estimates the period of time that options are expected to remain unexercised. We use historical data to estimate the timing and amount of option exercises and forfeitures. The expected volatility is calculated by averaging the volatility, over a period equal to the expected term of the options, for five peer group companies and a small-cap index. There were no stock options granted during the years ended December 31, 2008 and
43
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
3. Summary of Significant Accounting Policies (Continued)
2009. The following summarizes the assumptions used for estimating the fair value of stock options granted during the year ended December 31, 2010:
Risk-free interest rate |
2.87%-3.44% | |
Average expected years until exercise |
7.75 years | |
Expected volatility |
52.13%-54.37% | |
Weighted-average expected volatility |
53.25% | |
Dividend yield |
0% |
The following is a summary of option activity for the years ended December 31, 2008, 2009 and 2010:
|
|
Weighted average | |
|||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Number of shares |
Exercise price |
Remaining term (in years) |
Aggregate intrinsic value |
||||||||||
Options outstanding at December 31, 2007 |
55,150 | $ | 12.23 | 6.7 | $ | 5,851,600 | ||||||||
Granted |
| | ||||||||||||
Exercised |
(2,040 | ) | 10.00 | |||||||||||
Forfeited |
(4,910 | ) | 10.00 | |||||||||||
Options outstanding at December 31, 2008 |
48,200 | $ | 12.55 | 5.4 | $ | | ||||||||
Granted |
| |||||||||||||
Exercised |
| |||||||||||||
Forfeited |
(2,600 | ) | 12.27 | |||||||||||
Options outstanding at December 31, 2009 |
45,600 | $ | 12.56 | 4.3 | $ | 487,000 | ||||||||
Granted |
7,660 | 23.24 | ||||||||||||
Exercised |
(120 | ) | 24.75 | |||||||||||
Forfeited |
(640 | ) | 16.45 | |||||||||||
Options outstanding at December 31, 2010 |
52,500 | $ | 14.05 | 4.2 | $ | | ||||||||
Options exercisable at December 31, 2010 |
26,300 |
$ |
11.24 |
3.1 |
$ |
|
The following is a summary of non-vested option activity for the years ended December 31, 2010, 2009 and 2008:
|
Number of shares | Weighted average grant date fair value | |||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Years ended December 31, | Years ended December 31, | |||||||||||||||||
|
2010 | 2009 | 2008 | 2010 | 2009 | 2008 | |||||||||||||
Non vested options outstanding at beginning of year |
19,800 | 25,500 | 34,920 | $ | 4.13 | $ | 4.79 | $ | 4.11 | ||||||||||
Granted |
7,660 | | | 13.80 | | | |||||||||||||
Vested |
(620 | ) | (4,060 | ) | (4,960 | ) | 10.60 | 3.70 | 3.19 | ||||||||||
Forfeited |
(640 | ) | (1,640 | ) | (4,460 | ) | 5.60 | 9.09 | 2.49 | ||||||||||
Non vested options outstanding at end of year |
26,200 | 19,800 | 25,500 | $ | 6.63 | $ | 4.13 | $ | 4.79 | ||||||||||
44
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
3. Summary of Significant Accounting Policies (Continued)
The total compensation cost related to nonvested awards not yet recognized as of December 31, 2010 is approximately $0.1 million and will be recognized over a weighted average period of approximately 5.2 years.
During the year ended December 31, 2010, 120 options to purchase Holdings Common Stock were exercised and $2,970 of proceeds was received. The total intrinsic value, the difference between the exercise price and the fair value of Holdings Common Stock on the date of exercise of options exercised during the year ended December 31, 2010, was negligible. During the year ended December 31, 2009, no options to purchase Holdings Common Stock were exercised. During the year ended December 31, 2008, 2,040 options to purchase Holdings Common Stock were exercised and $20,400 of proceeds was received. The total intrinsic value, the difference between the exercise price and the fair value of Holdings Common Stock on the date of exercise of options exercised during the year ended December 31, 2008, was $215,100.
Fair Value Measurements
Certain of our assets and liabilities must be recorded at fair value. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (an exit price). Accounting guidance outlines a valuation framework and creates a fair value hierarchy in order to increase the consistency and comparability of fair value measurements and the related disclosures and prioritizes the inputs used in measuring fair value as follows:
Level 1: Observable inputs such as quoted prices in active markets;
Level 2: Inputs, other than quoted prices in active markets, that are observable either directly or indirectly; and
Level 3: Unobservable inputs in which there is little or no market data which require the reporting entity to develop its own assumptions.
Our financial instruments consist of long-term investments in marketable securities (held in trust for payment of non-qualified deferred compensation) and long-term debt. We are permitted to measure certain financial assets and financial liabilities at fair value that were not previously required to be measured at fair value. We have elected not to measure any financial assets or financial liabilities, including long-term debt, at fair value which were not previously required to be measured at fair value. We classify the investments in marketable securities within level 1 of the hierarchy since quoted market prices are available in active markets.
We believe that the carrying amounts of cash and cash equivalents, accounts and notes receivable, accounts payable and accrued expenses reported in the consolidated balance sheets approximate their fair values due to the short maturity of these instruments. The estimated fair value of our publicly traded debt, based on quoted market prices, was approximately $140.8 million and $133.4 million as of December 31, 2010 and 2009, respectively.
45
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
3. Summary of Significant Accounting Policies (Continued)
Advertising Costs
We expense advertising costs as the advertising occurs in accordance with the authoritative guidance. Advertising expense, included in selling and administrative expenses in the consolidated statements of operations, was approximately $0.2 million, $0.2 million and $0.3 million, for the years ended December 31, 2010, 2009 and 2008, respectively.
New Accounting Standards
On January 1, 2010, we adopted authoritative guidance issued by the Financial Accounting Standards Board ("FASB") related to the accounting and disclosure requirements for transfers of financial assets. This guidance requires greater transparency and additional disclosures for transfers of financial assets and the entity's continuing involvement with them and changes the requirements for derecognizing financial assets. In addition, the guidance eliminates the concept of a qualifying special-purpose entity. The adoption of this guidance did not have a material impact on our financial position, results of operations or cash flows.
In June 2009, the accounting standard regarding the requirements of consolidation accounting for variable interest entities was updated by the FASB to require an enterprise to perform an analysis to determine whether the entity's variable interest or interests give it a controlling interest in a variable interest entity. The adoption of this guidance by us on January 1, 2010, did not have a material impact on our financial position, results of operations or cash flows.
Reclassifications
Certain previously reported amounts have been reclassified to conform to the current year presentation.
4. Inventories
Inventories consist of the following:
|
December 31, 2010 |
December 31, 2009 |
|||||
---|---|---|---|---|---|---|---|
Work-in-process |
$ | 6,617,642 | $ | 7,367,236 | |||
Raw materials (principally paper) |
9,494,521 | 6,895,279 | |||||
|
16,112,163 | 14,262,515 | |||||
Excess of current cost over LIFO inventory value |
(303,110 | ) | (272,884 | ) | |||
|
$ | 15,809,053 | $ | 13,989,631 | |||
46
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
4. Inventories (Continued)
We maintained a reserve for the realizability of inventory in the amounts of $70,227 and $193,991 for the years ended December 31, 2010 and 2009, respectively, which are included in the amounts in the table above relating to work-in-process and raw materials. A rollforward of this inventory reserve is as follows:
|
Year Ended December 31, 2010 |
Year Ended December 31, 2009 |
Year Ended December 31, 2008 | |||||||
---|---|---|---|---|---|---|---|---|---|---|
Balance at beginning of period |
$ | 193,991 | $ | 116,433 | $ | 83,363 | ||||
Charged to expense |
254,603 | 93,616 | 61,602 | |||||||
Deductions |
(378,367 | ) | (16,058 | ) | (28,532 | ) | ||||
Balance at end of period |
$ | 70,227 | $ | 193,991 | $ | 116,433 | ||||
5. Property, Plant and Equipment
Property, plant and equipment consist of the following:
|
December 31, 2010 |
December 31, 2009 |
|||||
---|---|---|---|---|---|---|---|
Land |
$ | 4,742,111 | $ | 4,742,111 | |||
Buildings and improvements |
44,097,744 | 43,833,998 | |||||
Machinery and equipment |
163,026,420 | 154,397,889 | |||||
|
211,866,275 | 202,973,998 | |||||
Accumulated depreciation |
(99,822,213 | ) | (85,216,990 | ) | |||
Property, plant and equipment, net |
$ | 112,044,062 | $ | 117,757,008 | |||
Depreciation expense for the years ended December 31, 2010, 2009 and 2008, was $19.5 million, $17.2 million, and $16.7 million, respectively.
6. Intangible Assets
In conjunction with previous acquisitions, we acquired intangible assets relating to customer relationships, trade names and technology. The customer relationships, trade names and technology are being amortized using the straight-line method over their estimated useful lives as described below. Amortization expense for the years ended December 31, 2010, 2009 and 2008, related to customer relationships, trade names and technology intangible assets was $1.4 million, $1.4 million and $1.6 million, respectively. Accumulated impairments, in the table below, consists of impairment charges we recorded in 2008 related to customer relationships at ULI and TDP. Other, in the table below, represents the realization of the tax goodwill benefit in connection with the Dingley Acquisition (see Note 12). In the years 2008 through 2009, this benefit was applied to reduce intangibles related to the Dingley Acquisition since there was no book goodwill related to this previous acquisition as of the beginning of 2008. Intangible assets as of December 31, 2010 and 2009 consisted of the following:
47
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
6. Intangible Assets (Continued)
|
|
December 31, 2010 | |||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Useful Life |
Gross Carrying Amount |
Accumulated Amortization |
Accumulated Impairments |
Other | Net Carrying Amount |
|||||||||||||
Customer |
|||||||||||||||||||
relationships |
25 years | $ | 27,800,000 | $ | 7,612,683 | $ | 2,202,626 | $ | 2,135,806 | $ | 15,848,885 | ||||||||
Trade names |
40 years | 20,400,000 | 3,721,262 | | 359,103 | 16,319,635 | |||||||||||||
Technology |
5 years | 300,000 | 243,416 | | 56,584 | | |||||||||||||
|
$ | 48,500,000 | $ | 11,577,361 | $ | 2,202,626 | $ | 2,551,493 | $ | 32,168,520 | |||||||||
|
|
December 31, 2009 | |||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Useful Life |
Gross Carrying Amount |
Accumulated Amortization |
Accumulated Impairments |
Other | Net Carrying Amount |
|||||||||||||
Customer |
|||||||||||||||||||
relationships |
25 years | $ | 27,800,000 | $ | 6,714,668 | $ | 2,202,626 | $ | 2,135,806 | $ | 16,746,900 | ||||||||
Trade names |
40 years | 20,400,000 | 3,221,262 | | 359,103 | 16,819,635 | |||||||||||||
Technology |
5 years | 300,000 | 243,416 | | 56,584 | | |||||||||||||
|
$ | 48,500,000 | $ | 10,179,346 | $ | 2,202,626 | $ | 2,551,493 | $ | 33,566,535 | |||||||||
We estimate that we will incur a charge of $1.6 million in 2011 associated with the accelerated amortization of the United Litho trade name which will be disposed of as a result of the shutdown of this facility (see Note 20).
We estimate annual amortization expense related to these intangibles as follows:
Years ended December 31,
|
Amortization expense |
|||
---|---|---|---|---|
2011 |
2,980,363 | |||
2012 |
1,348,400 | |||
2013 |
1,348,400 | |||
2014 |
1,348,400 | |||
2015 |
1,348,400 | |||
Thereafter |
23,794,557 | |||
Total |
$ | 32,168,520 | ||
7. Goodwill
Goodwill, which arises from the purchase price exceeding the assigned value of the net assets of an acquired business, represents the value attributable to unidentifiable intangible elements being acquired. Goodwill totaled $34.0 million and $41.0 million at December 31, 2010 and 2009, respectively. Goodwill resulted from the Sheridan Acquisition as a result of a stock purchase and, therefore, is not deductible for tax purposes and from the Dingley Acquisition as a result of an asset purchase and is deductible for tax purposes.
As of December 31, 2008, the initial step in the annual test for goodwill impairment indicated potential impairment at ULI, one of the components of the Publications segment, as a result of the
48
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
7. Goodwill (Continued)
worldwide economic downturn and declining results. We completed the second step by comparing the implied fair value of goodwill to the carrying value of goodwill for ULI. As a result of the second step, we determined that the carrying value of goodwill at ULI was fully impaired. There were no changes in the carrying amount of goodwill for the year ended December 31, 2009. As of December 31, 2010, the initial step in the annual test for goodwill impairment indicated potential impairment at DPC, one of the components of the Publications segment, due primarily to the longer and more sustained deterioration of the magazine business through the fourth quarter of 2010, and the unlikely prospect of a meaningful recovery in the near term. We completed the second step by comparing the implied fair value of goodwill to the carrying value of goodwill for DPC. As a result of the second step, we determined that the $7.0 million carrying value of goodwill at DPC was fully impaired. The changes in the carrying amount of goodwill for the years ended December 31, 2009 and 2010 are as follows:
|
Publications | Specialty Catalogs |
Books | Consolidated | ||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Balance at December 31, 2008 |
||||||||||||||
Goodwill |
$ | 35,493,565 | $ | 12,774,931 | $ | 8,922,848 | $ | 57,191,344 | ||||||
Accumulated impairment losses |
(3,436,987 | ) | (12,774,931 | ) | | (16,211,918 | ) | |||||||
|
32,056,578 | | 8,922,848 | 40,979,426 | ||||||||||
Balance at December 31, 2009 |
||||||||||||||
Goodwill |
35,493,565 | 12,774,931 | 8,922,848 | 57,191,344 | ||||||||||
Accumulated impairment losses |
(3,436,987 | ) | (12,774,931 | ) | | (16,211,918 | ) | |||||||
|
$ | 32,056,578 | $ | | $ | 8,922,848 | $ | 40,979,426 | ||||||
Impairment charge |
(7,000,785 | ) | | | (7,000,785 | ) | ||||||||
Balance at December 31, 2010 |
||||||||||||||
Goodwill |
35,493,565 | 12,774,931 | 8,922,848 | 57,191,344 | ||||||||||
Accumulated impairment losses |
(10,437,772 | ) | (12,774,931 | ) | | (23,212,703 | ) | |||||||
|
$ | 25,055,793 | $ | | $ | 8,922,848 | $ | 33,978,641 | ||||||
8. Other Assets
Other assets consist of the following:
|
December 31, 2010 |
December 31, 2009 |
||||||
---|---|---|---|---|---|---|---|---|
Other receivables |
$ | 1,914,147 | $ | 1,407,591 | ||||
Prepaid expenses and deposits |
2,526,121 | 2,616,375 | ||||||
Deferred compensation plan assets |
1,630,694 | 1,731,265 | ||||||
Other |
162,763 | 96,908 | ||||||
Total |
6,233,725 | 5,852,139 | ||||||
Less: current portion |
4,389,986 | 4,023,966 | ||||||
Long-term portion |
$ | 1,843,739 | $ | 1,828,173 | ||||
49
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
9. Notes Payable and Working Capital Facility
In conjunction with the Sheridan Acquisition, on August 21, 2003, we completed a private debt offering of 10.25% senior secured notes totaling $105.0 million, priced to yield 10.50%, that mature August 15, 2011 (the "2003 Notes"). In conjunction with the Dingley Acquisition, on May 25, 2004, we completed a private debt offering of 10.25% senior secured notes totaling $60.0 million, priced to yield 9.86%, that mature August 15, 2011 (the "2004 Notes"). The 2004 Notes have identical terms to the 2003 Notes. The carrying value of the 2003 Notes and the 2004 Notes was $142.9 million as of December 31, 2010 and 2009.
The 2003 Notes and the 2004 Notes are collateralized by security interests in substantially all of our assets, subject to permitted liens. The capital stock, securities and other payment rights of our subsidiaries will constitute collateral for the 2003 Notes and the 2004 Notes only to the extent that Rule 3-10 and Rule 3-16 of Regulation S-X under the Securities Act do not require separate financial statements of a subsidiary to be filed with the SEC. Payment obligations under the 2003 Notes and the 2004 Notes are guaranteed jointly and severally, irrevocably and unconditionally, by all of our subsidiaries. The Sheridan Group, Inc. (the stand-alone parent company) owns 100% of the outstanding stock of all of its subsidiaries and has no material independent assets or operations. There are no restrictions on the ability of The Sheridan Group, Inc. (the stand-alone parent company) to obtain funds by dividend, advance or loan from its subsidiaries.
In connection with the offerings of the 2003 Notes and the 2004 Notes (the "Offerings"), we entered into registration rights agreements pursuant to which we were required to register the 2003 Notes and the 2004 Notes with the SEC. We filed Registration Statements on Form S-4 with the SEC in connection with exchange offers of our outstanding 2003 Notes and 2004 Notes for like principal amounts of new senior secured notes. The Registration Statement covering the 2003 Notes was declared effective on October 13, 2004. The Registration Statement covering the 2004 Notes was declared effective on October 25, 2004. The new senior secured notes are identical in all material respects to the 2003 Notes and the 2004 Notes, except that the new senior secured notes do not bear legends restricting the transfer thereof.
In an event of default, the holders of at least 25% in aggregate principal amount of the 2003 Notes and the 2004 Notes, may declare the principal, premium, if any, and accrued and unpaid interest on the 2003 Notes and the 2004 Notes to be due and payable immediately. Concurrent with the offering of the 2003 Notes, we entered into a working capital facility agreement. The working capital facility was amended concurrent with the offering of the 2004 Notes. Terms of the working capital facility allowed for revolving debt of up to $30.0 million, including letters of credit commitments of up to $5.0 million, subject to a borrowing base test. Borrowings under the working capital facility bore interest at the bank's base rate or the LIBOR rate plus a margin of 1.75% at our option and matured in June 2009. Interest was payable monthly in arrears. We agreed to pay an annual commitment fee on the unused portion of the working capital facility at a rate of 0.35%. In addition, we agreed to pay an annual fee of 1.875% on all letters of credit outstanding.
During 2009, we paid $15.0 million, which included $0.5 million of accrued interest, to redeem senior secured notes with a face value of $22.1 million. Deferred financing costs and unamortized debt discount attributable to these notes, along with commission fees, totaled $0.4 million. As a result of the repurchases, we recognized a net gain of $7.2 million.
50
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
9. Notes Payable and Working Capital Facility (Continued)
On June 16, 2009, we executed an agreement to amend our working capital facility. Terms of the working capital facility allow for revolving debt of up to $20.0 million, including letters of credit commitments of up to $5.0 million, subject to a borrowing base test. The interest rate on borrowings under the working capital facility is a fluctuating rate equal to the highest of (a) the Federal Funds Rate plus 0.50%, (b) the bank's prime rate, and (c) the LIBOR rate plus a margin of 3.75%. At our option, we can elect a LIBOR option for a specified period. Any such borrowings bear interest at the specified LIBOR rate plus a margin of 3.75%. We have agreed to pay an annual commitment fee on the unused portion of the working capital facility at a rate of 0.50%. In addition, we have agreed to pay an annual fee of 3.875% on all letters of credit outstanding. The working capital facility was amended on January 5, 2011 to extend the maturity date from March 25, 2011 to May 25, 2011. As of December 31, 2010, we had no borrowings outstanding under the working capital facility, had unused amounts available of $16.2 million and had $1.3 million in outstanding letters of credit.
Borrowings under the working capital facility are collateralized by the assets of the Company and our subsidiaries, subject to permitted liens. The working capital facility contains various covenants including provisions that restrict our ability to incur or prepay indebtedness, including the 2003 Notes and the 2004 Notes, or pay dividends. It also requires us to satisfy financial tests, such as an interest coverage ratio and the maintenance of a minimum amount of earnings before interest, taxes, depreciation and amortization (as defined in the working capital facility agreement). We have complied with all of the restrictive covenants as of December 31, 2010. In an event of default, all principal and interest due under the working capital facility shall be immediately due and payable.
10. Accrued Expenses
Accrued expenses consist of the following:
|
December 31, 2010 |
December 31, 2009 |
|||||
---|---|---|---|---|---|---|---|
Payroll and related expenses |
$ | 3,177,493 | $ | 3,639,665 | |||
Profit sharing accrual |
435,874 | 476,151 | |||||
Accrued interest |
5,517,147 | 5,516,678 | |||||
Customer prepayments |
3,298,520 | 3,727,548 | |||||
Self-insured health and workers' compensation accrual |
1,631,830 | 1,933,529 | |||||
Other |
1,480,994 | 2,405,305 | |||||
|
$ | 15,541,858 | $ | 17,698,876 | |||
51
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
11. Other Liabilities
Other liabilities consist of the following:
|
December 31, 2010 |
December 31, 2009 |
||||||
---|---|---|---|---|---|---|---|---|
Deferred compensation |
$ | 1,396,887 | $ | 1,471,953 | ||||
Uncertain tax positions |
1,939,416 | 1,884,992 | ||||||
Other |
157,832 | 305,629 | ||||||
Total |
$ | 3,494,135 | $ | 3,662,574 | ||||
12. Income Taxes
The components of the income tax (benefit) provision are as follows:
|
December 31, 2010 |
December 31, 2009 |
December 31, 2008 |
|||||||
---|---|---|---|---|---|---|---|---|---|---|
Current |
||||||||||
Federal |
$ | 387,886 | $ | 3,308,339 | $ | (1,198,197 | ) | |||
State |
379,751 | 603,109 | 629,014 | |||||||
|
767,637 | 3,911,448 | (569,183 | ) | ||||||
Deferred |
||||||||||
Federal |
(757,806 | ) | (14,884 | ) | 118,837 | |||||
State |
(442,040 | ) | (455,159 | ) | (416,312 | ) | ||||
|
(1,199,846 | ) | (470,043 | ) | (297,475 | ) | ||||
|
$ | (432,209 | ) | $ | 3,441,405 | $ | (866,658 | ) | ||
52
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
12. Income Taxes (Continued)
Deferred income taxes reflect the net tax effects of the temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the deferred tax assets and liabilities were as follows:
|
December 31, 2010 |
December 31, 2009 |
||||||
---|---|---|---|---|---|---|---|---|
Deferred tax assets |
||||||||
Incentive and vacation accrual |
$ | 767,652 | $ | 920,512 | ||||
Bad debt reserve |
827,647 | 762,203 | ||||||
Self insurance accrual |
299,477 | 451,661 | ||||||
Intangible assets |
213,773 | 276,813 | ||||||
Amortization of financing costs |
109,751 | 266,538 | ||||||
Inventory-additional costs capitalized for tax |
272,168 | 264,321 | ||||||
Net operating loss carryforwards-Federal |
| 13,854 | ||||||
Net operating loss carryforwards-States |
790,981 | 777,540 | ||||||
Capital loss carryforward-Federal |
151,899 | 161,969 | ||||||
Goodwill |
3,530,848 | 3,959,844 | ||||||
Federal benefit related to State uncertain tax positions |
451,431 | 463,491 | ||||||
Other |
232,193 | 302,888 | ||||||
Valuation allowance |
(774,154 | ) | (758,393 | ) | ||||
Total deferred tax assets |
6,873,666 | 7,863,241 | ||||||
Deferred tax liabilities |
||||||||
Intangible assets |
11,873,249 | 12,611,090 | ||||||
Inventory basis difference |
156,706 | 208,855 | ||||||
Property and equipment |
16,777,859 | 18,138,947 | ||||||
Land |
1,002,839 | 1,022,911 | ||||||
Prepaid insurance |
110,962 | 117,173 | ||||||
Total deferred tax liabilities |
29,921,615 | 32,098,976 | ||||||
Net deferred tax liabilities |
$ | 23,047,949 | $ | 24,235,735 | ||||
|
December 31, 2010 |
December 31, 2009 |
||||||
---|---|---|---|---|---|---|---|---|
Included in the balance sheet |
||||||||
Noncurrent deferred tax liabilities in excess of assets |
$ | 24,612,025 | $ | 25,935,903 | ||||
Current deferred tax assets in excess of liabilities |
1,564,076 | 1,700,168 | ||||||
Net deferred tax liability |
$ | 23,047,949 | $ | 24,235,735 | ||||
53
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
12. Income Taxes (Continued)
We will realize a tax benefit associated with the amount of tax goodwill in excess of book goodwill associated with the Dingley Acquisition. We only recognize the benefit when realized on future tax returns and have previously applied the benefit first to reduce book goodwill associated with the acquisition to zero, second to reduce to zero other noncurrent intangible assets related to the acquisition, and third to reduce income tax expense. During 2010 and 2009, we realized a tax benefit of $0.8 million in both years associated with the realization of tax deductible goodwill in excess of book goodwill. For the year ended December 31, 2010, this benefit was recorded as a reduction to the tax provision. For the year ended December 31, 2009, the majority of this benefit was recorded as a reduction to the tax provision and a negligible amount of the benefit was recorded as a reduction to intangible assets which resulted in reducing these intangible assets to zero.
As of December 31, 2009, we had a minimal amount of U.S. Federal net operating loss ("NOL") deduction carryforwards. We fully utilized the benefit of the deduction during 2010.
As of December 31, 2010 and 2009, we had state NOLs with a tax effected value of approximately $0.8 million in various jurisdictions, which begin to expire in 2012. We have determined that substantially all of the state NOLs require a full valuation allowance as of December 31, 2010 and 2009, due to the uncertainty of their realization.
We utilized NOLs against Federal and state taxable income, which reduced tax expense by a negligible amount and $0.2 million for 2010 and 2009, respectively.
A rollforward of our valuation allowance is as follows:
|
Year Ended December 31, 2010 |
Year Ended December 31, 2009 |
Year Ended December 31, 2008 |
|||||||
---|---|---|---|---|---|---|---|---|---|---|
Balance at beginning of period |
$ | 758,393 | $ | 762,906 | $ | 686,924 | ||||
Charged to expense |
25,790 | 54,185 | 112,134 | |||||||
Other, net |
(10,029 | ) | (58,698 | ) | (36,152 | ) | ||||
Balance at end of period |
$ | 774,154 | $ | 758,393 | $ | 762,906 | ||||
54
The Sheridan Group, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
Years Ended December 31, 2010, 2009 and 2008
12. Income Taxes (Continued)