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EX-32.1 - EX-32.1 - ALJ REGIONAL HOLDINGS INCaljj-ex321_6.htm
EX-31.2 - EX-31.2 - ALJ REGIONAL HOLDINGS INCaljj-ex312_9.htm
EX-31.1 - EX-31.1 - ALJ REGIONAL HOLDINGS INCaljj-ex311_8.htm
EX-23.1 - EX-23.1 - ALJ REGIONAL HOLDINGS INCaljj-ex231_7.htm
EX-21.1 - EX-21.1 - ALJ REGIONAL HOLDINGS INCaljj-ex211_10.htm
EX-3.5 - EX-3.5 (RESTATED ARTICLES OF INCORPORATION) - ALJ REGIONAL HOLDINGS INCaljj-ex35_134.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

 

(Mark One)

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended September 30, 2018

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM                       TO

Commission File Number 001-37689

 

ALJ REGIONAL HOLDINGS, INC.

(Exact name of Registrant as specified in its Charter)

 

 

Delaware

13-4082185

( State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

 

244 Madison Avenue, PMB #358

New York, NY 10016

(Address of principal executive offices, Zip code)

Registrant’s telephone number, including area code: (212) 883-0083

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

Name of exchange on which registered

Common Stock, $0.01 par value

The Nasdaq Stock Market LLC

 

Securities registered pursuant to Section 12(g) of the Act:

None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes      No  

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      No    

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

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes      No  

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) 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.  

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company.  See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer      

Emerging growth company

Accelerated filer     

Non-accelerated filer      

Smaller reporting company       

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes      No   

The aggregate market value of the registrant’s voting and non-voting common equity held by non-affiliates was approximately $35,866,293, based on the closing price of $2.10 for such common equity on March 31, 2018.

The number of shares of common stock, $0.01 par value per share, outstanding as of November 30, 2018, was 38,026,435.

 

 

DOCUMENTS INCORPORATED BY REFERENCE

None

 

 

 

 


 

Table of Contents

 

 

 

Page

PART I

 

 

Item 1.

Business

1

Item 1A.

Risk Factors

10

Item 1B.

Unresolved Staff Comments

23

Item 2.

Properties

23

Item 3.

Legal Proceedings

23

Item 4.

Mine Safety Disclosures

24

 

 

 

PART II

 

 

Item 5.

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

25

Item 6.

Selected Financial Data

26

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

27

Item 7A.

Quantitative and Qualitative Disclosures About Market Risk

39

Item 8.

Financial Statements and Supplementary Data

39

Item 9.

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

39

Item 9A.

Controls and Procedures

39

Item 9B.

Other Information

40

 

 

 

PART III

 

 

Item 10.

Directors, Executive Officers and Corporate Governance

41

Item 11.

Executive Compensation

45

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

49

Item 13.

Certain Relationships and Related Transactions, and Director Independence

50

Item 14.

Principal Accounting Fees and Services

51

 

 

 

PART IV

 

 

Item 15.

Exhibits, Financial Statement Schedules

52

 

 

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FORWARD-LOOKING STATEMENTS

The statements included in this Form 10-K regarding future financial performance, results and conditions and other statements that are not historical facts, including, among others, the statements regarding competition, the Company’s intention to retain earnings for use in the Company’s business operations, the Company’s ability to continue to fund its operations and service its indebtedness, the adequacy of the Company’s accrual for tax liabilities, management’s projection of continued taxable income, and the Company’s ability to offset future income against net operating loss carryovers, constitute forward-looking statements. The words “can,” “could,” “may,” “will,” “would,” “plan,” “future,” “believes,” “intends,” “expects,” “anticipates,” “projects,” “estimates,” and similar expressions are also intended to identify forward-looking statements. These forward-looking statements are based on current expectations and are subject to risks and uncertainties. Actual results or events could differ materially from those set forth or implied by such forward-looking statements and related assumptions due to certain important factors, including, without limitation, the risks set forth under the caption “Risk Factors” below, which are incorporated herein by reference. Some, but not all, of the forward-looking statements contained in this Form 10-K include, among other things, statements about the following:

 

any statements regarding our expectations for future performance;

 

our ability to integrate business acquisitions;

 

our ability to compete effectively;

 

statements regarding future revenue and the potential concentration of such revenue coming from a limited number of customers;

 

our ability to meet customer needs;

 

our expectations that interest expense will increase;

 

our expectations that we will continue to have non-cash compensation expenses;

 

our expectation that we will be in compliance with the required covenants pursuant to our loan agreements;

 

regulatory compliance costs; and

 

the other matters described in “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business.”

The Company is also subject to general business risks, including results of tax audits, adverse state, federal or foreign legislation and regulation, changes in general economic conditions, the Company’s ability to retain and attract key employees, acts of war or global terrorism and unexpected natural disasters. Any forward-looking statements included in this Form 10-K are made as of the date hereof, based on information available to the Company as of the date hereof, and the Company assumes no obligation to update any forward-looking statements.

 

 

 

ii


 

PART I

ITEM 1. BUSINESS.

Overview and Business Organization

ALJ Regional Holdings, Inc. (including subsidiaries, referred to collectively in this report as “ALJ,” the “Company” or “we”) is a holding company.  ALJ’s primary assets as of September 30, 2018 were all of the outstanding capital stock of the following companies:

 

Faneuil, Inc. (including its subsidiaries, “Faneuil”).  Faneuil is a leading provider of call center services, back-office operations, staffing services and toll collection services to government and regulated commercial clients across the United States, focusing on the healthcare, utility, transportation, and toll revenue collection industries. Faneuil is headquartered in Hampton, Virginia. ALJ acquired Faneuil in October 2013.

 

Floors-N-More, LLC, dba, Carpets N’ More (“Carpets”).  Carpets is one of the largest floor covering retailers in Las Vegas, Nevada, and a provider of multiple products for the commercial, retail and home builder markets including all types of flooring, countertops, cabinets, window coverings and garage/closet organizers, with two retail locations, as well as a stone and solid surface fabrication facility. ALJ acquired Carpets in April 2014.

 

Phoenix Color Corp. (including its subsidiaries, “Phoenix”).  Phoenix is a leading manufacturer of book components, educational materials and related products producing value-added components, heavily illustrated books and commercial specialty products using a broad spectrum of materials and decorative technologies. Phoenix is headquartered in Hagerstown, Maryland. ALJ acquired Phoenix in August 2015.

With several members of senior management and our Board of Directors coming from long careers in the professional service industry, ALJ is focused on acquiring and operating exceptional customer service-based businesses.

ALJ has organized its business and corporate structure along the following business segments: Faneuil, Carpets, and Phoenix. ALJ is reported as corporate overhead.   For results of operations by business segment, see “Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Faneuil

Background

Faneuil is a Delaware corporation with headquarters in Hampton, VA. We acquired Faneuil from Harland Clarke Holdings Corp., a wholly-owned subsidiary of MacAndrews & Forbes Holdings Inc., for aggregate consideration of $53.0 million.

Faneuil is a nationally recognized leader in technology-enabled in-person and automated service delivery, particularly in regulated, highly complex environments.

Acquisition of Customer Management Outsourcing Business

In May 2017 (the “CMO Business Purchase Date”), Faneuil acquired certain assets and assumed certain liabilities associated with the customer management outsourcing business (“CMO Business”) of Vertex Business Services LLC.  

Faneuil purchased the CMO Business to expand into the utilities market by providing direct customer care call center operations, back-office processes, including billing, collections and business analytics, and installation and cloud-based customer care support for the utilities industry.

 

Services

Faneuil provides business processing solutions for an extensive client portfolio that includes both commercial and government entities across several verticals, including transportation, utilities, healthcare, consumer goods, and government/municipal services.  Utilizing advanced applications and a dedicated team of service professionals, Faneuil delivers broad outsourcing support, ranging from customer contact centers, fulfillment operations, and information technology services, to manual and electronic toll collection, and violation processing, with the goal of building its clients’ brands by providing exemplary customer service.

1


 

Faneuil’s core competencies include:

 

High-volume, multi-channel customer contact centers;

 

Customer relationship management;

 

Billing, payment, and claims processing;

 

Data entry;

 

Document management;

 

Operational expertise;

 

Workforce and support analytics;

 

Quality assurance;  

 

Back office and fulfillment operations;

 

System support and maintenance; and

 

Staffing services.

Faneuil employees who have contact with customers undergo intensive training and development, followed by structured monitoring and assessments before they are certified to process customer contacts. Faneuil’s customer contact employees provide service delivery through multiple communication channels, including telephone, fax, email, web chat and face-to-face interaction. Additionally, Faneuil provides multi-lingual representatives to accommodate the communication needs of non-English-speaking customers, as well as the hearing-impaired.

Employees

Faneuil had 5,042 employees as of September 30, 2018 (up from 4,393 employees as of September 30, 2017), all of whom are located in the U.S. No employees are subject to any collective bargaining agreements. Faneuil considers its employee relations good.

Customers

Faneuil’s client portfolio includes both government and commercial entities nationwide, including several toll authorities, state agencies, municipalities, publicly-owned utilities, health benefit exchanges, one government agency that operates the major airports serving the Washington, D.C. area, and several other public and private entities.

The percentages of Faneuil net revenue derived from its significant customers for the years ended September 30, 2018 and 2017 were as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Customer A

 

 

15.4

%

 

 

17.7

%

Customer B

 

 

11.2

 

 

 

12.3

 

Customer C

 

 

10.7

 

 

**

 

Customer D

 

**

 

 

 

10.5

 

 

** Less than 10% of Faneuil net revenue.

Many Faneuil customers are government agencies subject to contractual budgetary ceilings. State and local funding for these agencies are approved by the respective state legislature(s) each year. Depending on budgetary constraints, the contract values may be subject to change based upon ongoing legislative approval.

2


 

Competition

Primary competitors to Faneuil are other large providers of toll services, such as Conduent, AEComm, and TransCore, Inc., as well as contact center operators such as Maximus and Automated Health Services. In many cases, Faneuil is smaller and has less financial and personnel resources than its competitors. If Faneuil cannot compete effectively to win new business and retain existing clients, its operating results will be negatively affected. To remain competitive, Faneuil must continuously implement new technologies and expand its portfolio of outsourced services and may have to make occasional strategic adjustments to its pricing for its services.

Properties

Faneuil leases all its properties with various locations throughout the United States for customer contact centers, walk-in retail, and administration. Corporate headquarters are located in Hampton, VA.  Faneuil’s leased facilities comprise an aggregate of approximately 400,000 square feet with leases that expire at various dates through April 2029.  Faneuil believes that its leased facilities will be adequate for at least the next 12 months.

Backlog

Faneuil backlog represents executed contracts for future services.  Most contracts are long-term and obligate Faneuil to provide services over multiple years.  Faneuil backlog may not represent firm commitments as some contracts, especially with government entities, allow for cancellation under certain instances.  Faneuil adjusts backlog to reflect contract cancellations, deferrals, and revisions known at the reporting date.  However, Faneuil could experience additional contract modifications or cancellations, which may increase or decrease backlog.  

 

The following table reflects the amount of Faneuil backlog by the year we expect to recognize revenue (in millions):

 

 

 

As of September 30,

 

 

 

2018

 

 

2017

 

Within one year

 

$

106.6

 

 

$

91.6

 

Between one year and two years

 

 

86.5

 

 

 

64.3

 

Between two years and three years

 

 

27.6

 

 

 

60.2

 

Between three years and four years

 

 

12.9

 

 

 

17.4

 

Thereafter

 

 

1.3

 

 

 

3.3

 

 

 

$

234.9

 

 

$

236.8

 

 

For further information regarding Faneuil backlog, see “Part I, Item 1A. Risk Factors - Risks Related to our Business Generally and our Common Stock - We may not receive the full amounts estimated under the contracts in our backlog, which could reduce our revenue in future periods below the levels anticipated. This makes backlog an uncertain indicator of future operating results.

Seasonality

Faneuil experiences seasonality within its various lines of business. For example, during the end of the calendar year through the end of the first calendar quarter, Faneuil generally experiences higher revenue attributable to its healthcare customers as the customer contact centers increase operations during the open enrollment periods of the healthcare exchanges. Faneuil revenue from its healthcare customers generally decreases during the remaining portion of the year after the open enrollment period. Seasonality is less pronounced with Faneuil customers in the transportation industry, though there is typically some volume increase during the summer months.

Governmental Regulation

Faneuil’s business is subject to many legal and regulatory requirements in the United States, covering such matters as data privacy, consumer protection, health care requirements, labor relations, taxation, internal and disclosure control obligations, governmental affairs and immigration. For example, Faneuil is subject to state and federal laws and regulations regarding the protection of consumer information commonly referred to as “non-public personal information,” including the collection of patient data through Faneuil’s contact center services and medical device tracking services, which is subject to the Health Insurance Portability and Accountability Act of 1996, commonly known as HIPAA, which protects the privacy of patient data. These laws, regulations, and agreements require Faneuil to develop and implement policies to protect non-public personal information and to disclose these policies to consumers before a customer relationship is established and periodically after that. These laws, regulations, and agreements limit the ability to use or disclose non-public personal information for purposes other than the purposes originally intended. Many of these regulations, including those related to data privacy, frequently change and sometimes conflict with existing regulations amongst the various

3


 

jurisdictions in which Faneuil provides services. Violations of these laws and regulations could result in liability for damages, fines, criminal prosecution, unfavorable publicity and restrictions on Faneuil’s operations.  Failure to adhere to or successfully implement processes in response to changing regulatory requirements in this area could result in legal liability or impairment to Faneuil’s reputation in the marketplace, which could have a material adverse effect on Faneuil’s business, results of operations and financial condition. Also, because a substantial portion of Faneuil operating costs consists of labor costs, changes in governmental regulations relating to wages, healthcare and healthcare reform and other benefits or employment taxes could have a material adverse effect on Faneuil’s business, results of operations or financial condition.

Management

Faneuil is led by ALJ board member Anna Van Buren, who has served as President and Chief Executive Officer since 2009 and previously served in executive roles at Faneuil since 2004. For additional information regarding Ms. Van Buren, see “Part III, Item 10. Directors, Executive Officers and Corporate Governance.”

Carpets N’ More

Background

Carpets was originally organized in Nevada in 2002. We acquired Carpets from Levine Leichtman for aggregate consideration of $5.3 million.

Carpets is one of the largest floor covering retailers in Las Vegas, Nevada, and a provider of multiple products for the commercial, retail and home builder markets, including flooring, countertops, cabinets, window coverings and garage/closet organizers. In addition to a stone and solid surface fabrication facility, Carpets has two retail locations in the Las Vegas area.  

Products and Services

Floor Coverings. Carpets provides various floor coverings to home builders, commercial and retail customers including carpet, hardwood, laminate, tile, ceramic, porcelain, natural stone, vinyl plank, vinyl tile, area rugs and specialty flooring including bamboo, leather, cork and large format tile.

Countertops and Surrounds. Carpets provides countertop and surrounds, primarily for bathrooms and kitchens, including natural stone, granite, ceramic, porcelain, solid surface, quartz, and piedrafina.

Cabinets and Other Products. Carpets provides kitchen, bathroom, and garage cabinets, closet and closet organizers; and window coverings including blinds, shutters, and shades.

Customers

Carpets sells to a variety of customers, including home builders, commercial and retail customers.  Home building customers of Carpets include some of the largest home builders in the United States, along with local builders in and around Las Vegas, Nevada. Commercial customers of Carpets include general contractors, real estate investment firms/funds and other commercial entities such as casinos and other companies looking to improve their office space. Retail customers of Carpets include the general public interested in making home improvements.

Carpets bids directly with home builders on residential developments and is awarded flooring, countertops and surrounds, and/or cabinet contracts. These contracts involve installing the base level products in each of the residential homes within the awarded development and, when requested, providing upgraded materials and services to the base level products. Carpets also bids on commercial work and is awarded contracts generally on a fixed price basis. These projects generally involve high-rise condos, office buildings, tenant improvements, and off-strip casinos. Carpets also engages in marketing activities, including Internet search engine optimization, banner advertising, car wraps, affiliate websites, radio and television advertising, and referrals.

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A small number of customers have historically accounted for a substantial portion of Carpets net revenue.  The percentages of Carpets net revenue derived from its significant customers for the years ended September 30, 2018 and 2017 were as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Customer A

 

 

27.7

%

 

 

24.3

%

Customer B

 

 

22.7

 

 

 

33.8

 

Customer C

 

 

21.3

 

 

 

17.7

 

Suppliers

Carpets has historically purchased materials from a small number of suppliers primarily to control the quality of the product and to capitalize on volume discounts.  If these suppliers were unable to provide materials on a timely basis, Carpets management believes alternative suppliers could provide the required materials with minimal disruption to the business.  Historically, Carpets has never experienced any significant delay or shortage in the supply of materials.

The percentages of Carpets inventory purchases from its significant suppliers for the years ended September 30, 2018 and 2017 were as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Supplier A

 

 

20.8

%

 

 

20.4

%

Supplier B

 

 

14.0

 

 

 

11.8

 

Supplier C

 

 

11.8

 

 

 

11.3

 

Supplier D

 

**

 

 

 

16.5

 

** Less than 10% of Carpets inventory purchases.

Backlog

 

Carpets backlog represents open purchase orders.  Carpets total backlog, which is expected to be fully realized within the next 12 months, as of September 30, 2018 was $12.5 million compared to $20.4 million as of September 30, 2017.  The decrease in Carpets backlog at September 30, 2018, compared to September 30, 2017, was the result of a strategic decision to only accept jobs that yield a targeted profit margin.

 

For further information regarding Carpets backlog, see “Part I, Item 1A. Risk Factors - Risks Related to our Business Generally and our Common Stock - We may not receive the full amounts estimated under the contracts in our backlog, which could reduce our revenue in future periods below the levels anticipated. This makes backlog an uncertain indicator of future operating results.”

Competition

Primary competitors to Carpets include other flooring, countertop and surround, and cabinet providers in the Las Vegas area, such as Interior Specialist Inc. and Classic Flooring, as well as large box stores such as Lowe’s, Home Depot and RC Willey. Carpets believes that its competitive advantages include a comprehensive and high-end quality solution for home builders for flooring, surrounds and cabinets, which provides them with a single point of accountability. Carpets also competes with discounted flooring companies such as Cloud Carpet and Carpets Galore.

Seasonality

Carpets generally experiences seasonality within the home building business as the number of houses sold during the winter months is typically lower than during other times of the year. Conversely, the number of houses sold and delivered during the remaining portion of the year increases in comparison.

Employees

Carpets had 361 employees, including part-time installers, as of September 30, 2018 (down from 436 employees at September 30, 2017), all of whom are located in the U.S.  No employees are subject to any collective bargaining agreements. Carpets considers its employee relations good.

5


 

Properties

Carpets leases its corporate office, two retail locations, solid surface fabrication facility, and flooring and cabinet warehouses, which are all located in or around Las Vegas, NV.  Leased facilities total approximately 99,000 square feet with leases that expire at various dates through June 2021. Carpets believes its leased facilities will be adequate for at least the next 12 months.

Management

Carpets is led by Steve Chesin, who has served as its Chief Executive Officer since 2007. For additional information about Mr. Chesin, see “Part III, Item 10. Directors, Executive Officers and Corporate Governance.”

Phoenix Color Corp.

Background

Phoenix was originally incorporated in New York in 1979 and reincorporated in Delaware in 1996. We acquired Phoenix from Visant Corporation for aggregate consideration of $88.3 million.

Phoenix is a premier full-service, full-color printer with over 35 years of superior printing experience. Drawing on a broad spectrum of materials and decorative technologies, Phoenix produces memorable, value-added components, heavily illustrated books, and specialty commercial products. Book publishers generally design book components to enhance the sales appeal of their books. The production of book components requires specialized equipment, materials, and finishes and often demands high-quality, intricate work. As a result, many leading publishers rely on specialty printers such as Phoenix to supply high-quality book components. This same philosophy applies to labels, packaging, and specialty commercial products, where Phoenix customers require the knowledge and expertise of a printer that can enhance their products for sale into the commercial marketplace. Phoenix has been servicing the publishing industry within the United States since 1979 and has formed lasting relationships with many of the biggest names in book publishing.

As a domestic manufacturer, Phoenix offers extensive, in-house digital pre-press capabilities and its technologically advanced UV printing platform supports an array of printing and finishing options. Phoenix innovative special effects include foil stamping, UV embellishments, and laminations, as well as its trademarked products LithoFoil®, MetalTone™, Look of Leather™, and VibraColor™.

Acquisition of Printing Components Business

On October 2, 2017, Phoenix acquired certain assets and assumed certain liabilities from LSC Communications, Inc. (“LSC”) and Moore-Langen Printing Company, Inc. related to LSC’s printing and manufacturing services division in Terre Haute, Indiana (“Printing Components Business”).  Total purchase price was $10.0 million.    

The Printing Components Business leverages existing capabilities and core competencies of Phoenix, strengthens its position in the education markets, and expands its revenue into new markets.

Acquisition of Color Optics

In July 2016, Phoenix acquired certain assets and assumed certain liabilities from AKI, Inc. (“AKI”) in respect of AKI’s Color Optics division (“Color Optics”) for an adjusted purchase price of $6.6 million.  

Color Optics is a leading printing and packaging solutions business servicing the beauty, fragrance, cosmetic and consumer-packaged goods markets.  The purchase of Color Optics complements Phoenix product offerings and has allowed Phoenix to expand and diversify its product offerings by leveraging its existing core competencies.

 

Products and Services

Books and Components

Phoenix offers several products for books and components, which represents approximately 85% of Phoenix net revenue.

Phoenix is a leader in providing distinctive cover components and high-quality, heavily illustrated and multi-colored books for all markets. With its technologically advanced pre-press and press operations as well as an array of finishing applications and innovative special effects, Phoenix is committed to producing memorable, value-added products.

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Labels and Packaging

In recent years, Phoenix has expanded into the label and packaging markets to leverage its unique printing and finishing capabilities as well as its trademarked special effects and extensive offerings of finishes and coatings. In 2014, Phoenix acquired the Brady Palmer Company, establishing its presence in the cut and stack label market.  With the purchase of Color Optics, Phoenix strengthened its presence in the label and packaging markets.

Employees

Phoenix had 444 employees as of September 30, 2018 (up from 398 employees as of September 30, 2017), of which one was subject to a collective bargaining agreement. All employees work in the U.S.  Phoenix considers its employee relations good.

Customers

Phoenix sells to many of the leading publishing companies.  A small number of customers have historically accounted for a substantial portion of Phoenix net revenue.  The percentages of Phoenix net revenue derived from its significant customers for the years ended September 30, 2018 and 2017 were as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Customer A

 

 

19.3

%

 

 

18.8

%

Customer B

 

 

17.4

 

 

**

 

Customer C

 

 

11.4

 

 

 

13.0

 

 

 

 

 

 

 

 

 

 

 

** Less than 10% of Phoenix net revenue.

Suppliers

Phoenix has historically purchased raw materials from a small number of suppliers primarily to control the quality of the product and to capitalize on volume discounts.  If these suppliers were unable to provide materials on a timely basis, Phoenix management believes alternative suppliers could provide the required materials with minimal disruption to the business.  Historically, Phoenix has never experienced any significant delay or shortage in the supply of materials.

The percentages of Phoenix inventory purchases from its significant suppliers for the years ended September 30, 2018 and 2017 were as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Supplier A

 

 

26.8

%

 

 

27.8

%

Supplier B

 

 

10.2

 

 

 

10.3

 

 

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Backlog

Phoenix backlog represents executed contracts that contain minimum volume commitments over multiple years for future product deliveries. Phoenix includes only the minimum commitments as backlog. As Phoenix executed contracts mostly provide for minimum volume commitments rather than minimum revenue commitments, the actual revenue from such contracts may differ from our backlog estimates as total order volume from Phoenix customers may vary. Phoenix adjusts backlog to reflect estimated order volumes delivered by its customers based on historical experience known at the reporting date; however, future variations in order volumes by Phoenix customers may increase or decrease backlog and future revenue.

The following table reflects the amount of Phoenix backlog by the fiscal year we expect to recognize revenue (in millions):

 

 

 

As of September 30,

 

 

 

2018

 

 

2017

 

Within one year

 

$

62.8

 

 

$

55.5

 

Between one year and two years

 

 

49.3

 

 

 

48.7

 

Between two years and three years

 

 

12.6

 

 

 

36.8

 

Between three years and four years

 

 

10.0

 

 

 

4.7

 

Thereafter

 

 

2.5

 

 

 

 

 

 

$

137.2

 

 

$

145.7

 

 

For further information regarding Phoenix backlog, see “Part I, Item 1A. Risk Factors - Risks Related to our Business Generally and our Common Stock - We may not receive the full amounts estimated under the contracts in our backlog, which could reduce our revenue in future periods below the levels anticipated. This makes backlog an uncertain indicator of future operating results.

Seasonality

There is seasonality to the Phoenix business. Education book component sales (school and college) traditionally peak in the first and second quarters of the calendar year. Other book components sales traditionally peak in the third quarter of the calendar year. Book sales also traditionally peak in the third quarter of the calendar year. The fourth quarter of the calendar year traditionally has been the weakest quarter. These seasonal factors are not significant.

Competition

The printing industry in general and the printing and manufacturing of books, in particular, is extremely competitive. Over the past several years, there has been significant consolidation in the publishing industry, such that fewer publishers control a greater share of the market. Although there are still many small, independent publishers, they do not wield the leverage held by major publishing houses. Additionally, the printing industry has experienced a reduction in demand for trade books due to the impact of the e-book market and a reduction in textbooks due to lower state government funding, alternative product formats and digital distribution of content.

Primary competitors in the printing and manufacturing of books and book components include, but are not limited to, LSC Communications, Coral Graphics, Quad Graphics and Worzalla. There is no reliable industry data available to determine Phoenix’s market share and position versus that of its competitors. With respect to book components, a portion of the products is produced by the book manufacturers and a portion by component printers. The dollar value of book components manufactured by the book manufacturers or by other component printers is unknown. Phoenix and Coral Graphics are the two primary trade book component manufacturers used by major publishers in the U.S. market. Most high-quality, heavily-illustrated and multi-colored books sold in the U.S. are produced outside of the U.S. Phoenix competes with Worzalla and several domestic book manufacturers for that portion that is produced domestically.

Properties

Phoenix owns its principal properties for corporate offices and production located in Hagerstown, MD, which totals approximately 276,000 square feet.   Additionally, Phoenix owns two buildings totaling approximately 45,000 square feet in Terre Haute, IN, which were acquired as part of the Printing Components Business.  Color Optics leases approximately 84,000 square feet in Rockaway, NJ, which expires in May 2020.  During the year ended September 30, 2018, Phoenix relocated equipment and printing from its Rockaway facility to its Hagerstown facility.  Relocation efforts were completed in November 2018.  Phoenix believes its facilities will be adequate for at least the next 12 months.

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Management

Phoenix is led by our board member Marc Reisch, who serves as its Chairman and previously served as its Chief Executive Officer from 2008 to 2015. For additional information regarding Mr. Reisch, see “Part III, Item 10. Directors, Executive Officers and Corporate Governance.”

Additional Information About ALJ and its Subsidiaries

ALJ was originally incorporated in the State of Delaware under the name Nuparent, Inc. on June 22, 1999. The Company’s name was changed to YouthStream Media Networks, Inc. on June 24, 1999, and that name was used through October 23, 2006. The Company’s name was changed to ALJ Regional Holdings, Inc. on October 23, 2006.

As of September 30, 2018, ALJ had two employees, its Executive Chairman and its Chief Financial Officer, performing services dedicated primarily to general corporate and administrative matters. Neither employee is represented by a labor union.

Intellectual Property

We rely on copyright, trademark, and trade secret laws as well as contractual restrictions to protect our proprietary information and intellectual property rights. We control access to our proprietary information and intellectual property, in part, by entering into confidentiality and invention assignment agreements with our employees, contractors, and business partners. We also control the use of our proprietary information and intellectual property through provisions in our client agreements and distribution partner agreements.

We have a limited number of registered trademarks and registered copyrights in the United States as well as a number of common law trademarks and trade names. We rely substantially on unpatented proprietary technology. We do not consider the success of our business, as a whole to be dependent on our intellectual property.

Available Information

We make available free of charge our annual, quarterly and current reports, proxy statements and other information, in electronic format, upon request. To request such materials, please contact our Chief Financial Officer at 244 Madison Avenue, PMB #358, New York, NY 10016 or call 212-883-0083.

Additionally, many reports and amendments to reports filed pursuant to Sections 13(a) and 15(d) of the Securities Exchange Act of 1934, as amended, are available free of charge on our website at www.aljregionalholdings.com as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (“SEC”).  Information on our website and other information that can be accessed through our website are not part of this report.

 

 

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ITEM 1A. RISK FACTORS.

The following risk factors and other information included in this Form 10-K should be carefully considered. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations. If any of the following risks actually occur, our business, financial condition and operating results could be significantly harmed.

 

Risks Related to Faneuil

 

The anticipated benefits of the CMO Business acquisition may not be realized.

Faneuil acquired the CMO Business in May 2017 with the expectation that the acquisition would result in various benefits, including, among other things, expansion and diversification of Faneuil’s revenue base into the utilities market while leveraging its existing core competencies. Achieving those anticipated benefits is subject to several uncertainties, including whether Faneuil can integrate the operations of the CMO Business in an efficient and effective manner. The integration process could also take longer than Faneuil anticipates and could result in the loss of valuable employees, the disruption of each company’s ongoing businesses, processes and systems or inconsistencies in standards, controls, procedures, practices, policies and compensation arrangements, any of which could adversely affect the ability to achieve anticipated benefits.

Faneuil is subject to uncertainties regarding healthcare reform that could materially and adversely affect that aspect of our business.

On March 23, 2010, President Obama signed the Affordable Care Act (the Affordable Care Act) into law, which has affected comprehensive health insurance reform, including the creation of health insurance exchanges, among other reforms. A portion of Faneuil’s healthcare business relates to providing services to health insurance exchanges in various states, and Faneuil believes that there may be significant opportunities for growth in this area.  President Trump has disclosed that a key initiative for his Presidency is to repeal or substantially change the Affordable Care Act. While Congress has not passed repeal legislation, the Tax Reform Law includes a provision repealing, effective January 1, 2019, the tax-based shared responsibility payment imposed by the Affordable Care Act on certain individuals who fail to maintain qualifying health coverage for all or part of a year that is commonly referred to as the “individual mandate,” which could lead to fewer enrollments in health care exchanges. It is unclear whether further changes that President Trump has planned to the Affordable Care Act will be enacted, or if enacted changes will affect Faneuil’s business.  Further significant changes to, or repeal of, the Affordable Care Act could materially and adversely affect that aspect of Faneuil’s business.

 

Economic downturns and reductions in government funding could have a negative effect on Faneuil’s business.

Demand for the services offered by Faneuil has been, and is expected to continue to be, subject to significant fluctuations due to a variety of factors beyond its control, including economic conditions. During economic downturns, the ability of both private and governmental entities to make expenditures may decline significantly. We cannot be certain that economic or political conditions will be generally favorable or that there will not be significant fluctuations adversely affecting Faneuil as a whole, or key industry segments targeted by Faneuil. In addition, Faneuil’s operations are, in part, dependent upon state government funding. Significant changes in the level of state government funding could have an unfavorable effect on Faneuil’s business, financial position, results of operations and cash flows.

Faneuil’s business involves many program-related and contract-related risks.

Faneuil’s business is subject to a variety of program-related risks, including changes in political and other circumstances, particularly since contracts for major programs are performed over extended periods of time. These risks include changes in personnel at government authorities, the failure of applicable government authorities to take necessary actions, opposition by third parties to particular programs and the failure by customers to obtain adequate financing for particular programs. Due to these factors, losses on a particular contract or contracts could occur, and Faneuil could experience significant changes in operating results on a quarterly or annual basis.

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Delays in the government budget process or a government shutdown may adversely affect Faneuil’s cash flows and operating results.

Faneuil derives a significant portion of its revenue from state government contracts and programs. Any delay in the state government budget process or a state government shutdown may result in Faneuil incurring substantial labor or other costs without reimbursement under customer contracts, or the delay or cancellation of key programs in which Faneuil is involved, which could materially adversely affect Faneuil’s cash flows and operating results.

Faneuil faces intense competition. If Faneuil does not compete effectively, its business may suffer.

Faneuil faces intense competition from numerous competitors. Faneuil primarily competes based on quality, performance, innovation, technology, price, applications expertise, system and service flexibility, and established customer service capabilities, as its services relate to toll collection, customer contact centers, and employee staffing. Faneuil may not be able to compete effectively on all these fronts or with all of its competitors. In addition, new competitors may emerge, and service offerings may be threatened by new technologies or market trends that reduce the value of the services Faneuil provides. To remain competitive, Faneuil must respond to new technologies and enhance its existing services, and we anticipate that it may have to adjust the pricing for its services to stay competitive on future responses to proposals. If Faneuil does not compete effectively, its business, financial position, results of operations and cash flows could be materially adversely affected.

Faneuil’s dependence on a small number of customers could adversely affect its business or results of operations.

Faneuil derives a substantial portion of its revenue from a relatively small number of customers. For additional information regarding Faneuil customer concentrations, see “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 4. Concentration Risks.” We expect the largest customers of Faneuil to continue to account for a substantial portion of its total net revenue for the foreseeable future. Faneuil has long-standing relationships with many of its significant customers. However, because Faneuil customers generally contract for specific projects or programs with a finite duration, Faneuil may lose these customers if funding for their respective programs is discontinued, or if their projects end and the contracts are not renewed or replaced. The loss or reduction of, or failure to renew or replace, any significant contracts with any of these customers could materially reduce Faneuil revenue and cash flows. Additionally, many Faneuil customers are government entities, which can unilaterally terminate or modify the existing contracts with Faneuil without cause and penalty to such government entities in many situations. If Faneuil does not replace them with other customers or other programs, the loss of business from any one of such customers could have a material adverse effect on its business or results of operations.

The recovery of capital investments in Faneuil contracts is subject to risk.

In order to attract and retain large outsourcing contracts, Faneuil may be required to make significant capital investments to perform its services under the contract, such as purchases of information technology equipment and costs incurred to develop and implement software. The net book value of such assets, including intangible assets, could be impaired, and Faneuil earnings and cash flow could be materially adversely affected in the event of the early termination of all or a part of such a contract, reduction in volumes and services thereunder for reasons including, but not limited to, a clients merger or acquisition, divestiture of assets or businesses, business failure or deterioration, or a clients exercise of contract termination rights.

Faneuil’s business could be adversely affected if Faneuil’s clients are not satisfied with its services.

Faneuil’s business model largely depends on the ability to attract new work from existing clients. Faneuil’s business model also depends on client relationships, understanding client needs, and delivering specific solutions to meet such needs. If a client is not satisfied with the quality of work performed by Faneuil or a subcontractor or with the type of services or solutions delivered, Faneuil could incur additional costs to address the situation, the profitability of that work might be impaired and the clients dissatisfaction with Faneuil’s services could lead to the termination of that work or damage Faneuil’s ability to obtain additional work from that client. Also, negative publicity related to Faneuil’s client relationships, regardless of its accuracy, may further damage Faneuil’s business by affecting its ability to compete for new contracts with current and prospective clients.

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Faneuil’s dependence on subcontractors and equipment manufacturers could adversely affect it.

In some cases, Faneuil relies on and partners with third-party subcontractors as well as third-party equipment manufacturers to provide services under its contracts. To the extent that Faneuil cannot engage subcontractors or acquire equipment or materials, its performance, according to the terms of the customer contract, may be impaired. If the amount Faneuil is required to pay for subcontracted services or equipment exceeds the amount Faneuil has estimated in bidding for fixed prices or fixed unit price contracts, it could experience reduced profit or losses in the performance of these contracts with its customers. Also, if a subcontractor or a manufacturer is unable to deliver its services, equipment or materials according to the negotiated terms for any reason, including the deterioration of its financial condition, Faneuil may be required to purchase the services, equipment or materials from another source at a higher price. This may reduce the expected profit or result in a loss of a customer contract for which the services, equipment or materials were needed.

Partnerships entered into by Faneuil as a subcontractor with third parties who are primary contractors could adversely affect its ability to secure new projects and derive a profit from its existing projects.

 

In some cases, Faneuil partners as a subcontractor with third parties who are the primary contractors. In these cases, Faneuil is largely dependent on the judgments of the primary contractors in bidding for new projects and negotiating the primary contracts, including establishing the scope of services and service levels to be provided. Furthermore, even if projects are secured, if a primary contractor is unable to deliver its services according to the negotiated terms of the primary contract for any reason, including the deterioration of its financial condition, the customer may terminate or modify the primary contract, which may reduce Faneuil profit or cause losses in the performance of the contract.   In certain instances, the subcontract agreement includes a “Pay When Paid” provision, which allows the primary contractor to hold back payments to a subcontractor until they are paid by the customer, which has negatively impacted Faneuil cashflow.      

If Faneuil or a primary contractor guarantees to a customer the timely implementation or performance standards of a program, Faneuil could incur additional costs to meet its guaranteed obligations or liquidated damages if it fails to perform as agreed.

In certain instances, Faneuil or its primary contractor guarantees a customer that it will implement a program by a scheduled date. At times, they also provide that the program will achieve or adhere to certain performance standards or key performance indicators. Although Faneuil generally provides input to its primary contractors regarding the scope of services and service levels to be provided, it is possible that a primary contractor may make commitments without Faneuil’s input or approval. If Faneuil or the primary contractor subsequently fails to implement the program as scheduled, or if the program subsequently fails to meet the guaranteed performance standards, Faneuil may be held responsible for costs to the client resulting from any delay in implementation, or the costs incurred by the program to achieve the performance standards. In most cases where Faneuil or the primary contractor fails to meet contractually defined performance standards, Faneuil may be subject to agreed-upon liquidated damages. To the extent that these events occur, the total costs for such program may exceed original estimates, and cause reduced profits, or in some cases a loss for that program.

Adequate bonding is necessary for Faneuil to win new contracts.

Faneuil is often required, primarily in its toll and transportation programs, to provide performance and surety bonds to customers in conjunction with its contracts. These bonds indemnify the customer should Faneuil fail to perform its obligations under the contracts. If a bond is required for a particular program and Faneuil is unable to obtain an appropriate bond, Faneuil cannot pursue that program. The issuance of a bond is at the suretys sole discretion. Moreover, due to events that affect the insurance and bonding markets generally, bonding may be more difficult to obtain in the future or may only be available at significant additional costs. There can be no assurance that bonds will continue to be available on reasonable terms, or at all. Any inability to obtain adequate bonding and, as a result, to bid on new work could harm Faneuil’s business.

Interruption of Faneuil data centers and customer contact centers could negatively impact Faneuil’s business.

If Faneuil was to experience a temporary or permanent interruption at a customer contact center due to natural disaster, casualty, operating malfunction, cyber-attack, sabotage or any other cause, Faneuil might be unable to provide the services it is contractually obligated to deliver. This could result in Faneuil being required to pay contractual damages to some clients or to allow some clients to terminate or renegotiate their contracts. Notwithstanding disaster recovery and business continuity plans and precautions instituted to protect Faneuil and Faneuil clients from events that could interrupt delivery of services, there is no guarantee that such interruptions would not result in a prolonged interruption in service, or that such precautions would adequately compensate Faneuil for any losses it may incur as a result of such interruptions.

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Any business disruptions due to political instability, armed hostilities, and acts of terrorism or natural disasters could adversely affect Faneuil’s financial performance.

If terrorist activities, armed conflicts, political instability or natural disasters occur in the United States or other locations, such events may negatively affect Faneuil operations, cause general economic conditions to deteriorate or cause demand for Faneuil services, many of which depend on travel, to decline. A prolonged economic slowdown or recession could reduce the demand for Faneuil services, and consequently, negatively affect Faneuil’s future sales and profits. Any of these events could have a significant effect on Faneuil’s business, financial condition or results of operations.

Faneuil’s business is subject to many regulatory requirements, and current or future regulation could significantly increase Faneuil’s cost of doing business.

Faneuil’s business is subject to many laws and regulatory requirements in the United States, covering such matters as data privacy, consumer protection, health care requirements, labor relations, taxation, internal and disclosure control obligations, governmental affairs and immigration. For example, Faneuil is subject to state and federal laws and regulations regarding the protection of consumer information commonly referred to as non-public personal information. For instance, the collection of patient data through Faneuil’s contact center services is subject to the Health Insurance Portability and Accountability Act of 1996, commonly known as HIPAA, which protects the privacy of patients data. These laws, regulations, and agreements require Faneuil to develop and implement policies to protect non-public personal information and to disclose these policies to consumers before a customer relationship is established and periodically after that. These laws, regulations, and agreements limit the ability to use or disclose non-public personal information for purposes other than the ones originally intended. Many of these regulations, including those related to data privacy, are frequently changing and sometimes conflict with existing ones among the various jurisdictions in which Faneuil provides services. Violations of these laws and regulations could result in liability for damages, fines, criminal prosecution, unfavorable publicity and restrictions placed on Faneuil operations.  Faneuil’s failure to adhere to or successfully implement processes in response to changing regulatory requirements in this area could result in legal liability or impairment to Faneuil’s reputation in the marketplace, which could have a material adverse effect on Faneuil’s business, results of operations and financial condition. In addition, because a substantial portion of Faneuil operating costs consists of labor costs, changes in governmental regulations relating to wages, healthcare and healthcare reform and other benefits or employment taxes could have a material adverse effect on Faneuil’s business, results of operations or financial condition.

A failure to attract and retain necessary personnel, skilled management, and qualified subcontractors may have an adverse impact on Faneuil’s business.

Because Faneuil operates in intensely competitive markets, its success depends to a significant extent upon its ability to attract, retain and motivate highly skilled and qualified personnel and to subcontract with qualified, competent subcontractors. If Faneuil fails to attract, develop, motivate, retain, and effectively utilize personnel with the desired levels of training or experience, or is unable to contract with qualified, competent subcontractors, Faneuil’s business will be harmed. Experienced and capable personnel remain in high demand, and there is continual competition for their talents. Additionally, regarding the labor-intensive business of Faneuil, quality service depends on the ability to retain employees and control personnel turnover. Any increase in the employee turnover rate could increase recruiting and training costs and could decrease operating effectiveness and productivity. Faneuil may not be able to continue to hire, train and retain a sufficient number of qualified personnel to adequately staff new client projects. Faneuil’s business is driven in part by the personal relationships of Faneuil’s senior management team, and its success depends on the skills, experience, and performance of members of Faneuil’s senior management team. Despite executing an employment agreement with Faneuil’s CEO, she or other members of the management team may discontinue service with Faneuil and Faneuil may not be able to find individuals to replace them at the same cost, or at all. Faneuil has not obtained key person insurance for any member of its senior management team. The loss or interruption of the services of any key employee or the loss of a key subcontractor relationship could hurt Faneuil’s business, financial condition, cash flow, results of operations and prospects.

Risks Related to Carpets

The floor covering industry is highly dependent on national and regional economic conditions, such as consumer confidence and income, corporate and individual spending, interest rate levels, availability of credit and demand for housing. A decline in residential or commercial construction activity or remodeling and refurbishment in Las Vegas could have a material adverse effect on Carpets business.

The floor covering industry is highly dependent on construction activity, including new construction, which is cyclical in nature and recently experienced a downturn. The downturn in the U.S. and global economies, along with the residential and commercial markets in such economies, particularly in Las Vegas, negatively impacted the floor covering industry and Carpets business. Although the impact of a decline in new construction activity is typically accompanied by an increase in remodeling and replacement activity, these activities lagged during the downturn. Although these difficult economic conditions have improved, there may be additional downturns that could cause the industry to deteriorate in the future.  Diminished consumer confidence in general, or specifically with respect to purchasing homes, or lack of consumer interest in purchasing a home compared to other housing alternatives due to location

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preferences, perceived affordability constraints or otherwise, may contribute to such a downturn. Further, changes to monetary policy or other actions by the Federal Reserve resulting in an adverse effect on interest rates (including mortgage interest rates), a downward trend in employment levels and job and wage growth, and increasing prices for available new or existing homes could lead to a decline in housing activity and negatively impact Carpets business.  A significant or prolonged decline in residential/commercial remodeling or new construction activity could have a material adverse effect on the business and results of operations of Carpets.

Because all of Carpets operations are concentrated in the Las Vegas area, it is especially subject to certain risks, including economic and competitive risks, associated with the conditions in that area and in the areas from which it draws customers.

 

Carpets currently operates solely in the Las Vegas area. Due to this geographic concentration, its results of operations and financial conditions are subject to greater risks from changes in local and regional conditions, such as changes in local or regional economic conditions and unemployment rates; changes in local and state laws and regulations; a decline in the number of residents in the Las Vegas area; and changes in the local or regional competitive environment. As a result of the geographic concentration of is business, Carpets faces a greater risk of a negative impact on its business, financial condition, results of operations and prospects if any of the geographic areas in which it operates is more severely impacted by any such adverse condition, as compared to other areas in the United States.

Carpets faces intense competition in the floor covering industry that could decrease demand for its products or force it to lower prices, which could have a material adverse effect on our business.

The floor covering industry is highly competitive. Carpets competes with several home improvement stores, building materials supply houses and lumber yards, specialty design stores, showrooms, discount stores, local, regional and national hardware stores, mail order firms, warehouse clubs, independent building supply stores and other retailers, as well as with installers. Also, it faces growing competition from online and multichannel retailers as its customers increasingly use computers, tablets, smartphones and other mobile devices to shop online and compare prices and products in real time. Intense competitive pressures from one or more competitors of Carpets or the inability by Carpets to adapt effectively and quickly to a changing competitive landscape could affect its prices, its margins or demand for its products and services. If it is unable to respond timely and appropriately to these competitive pressures, including through maintaining competitive locations of stores, customer service, quality and price of merchandise and services, in-stock levels, and merchandise assortment and presentation, its market share and its financial performance could be adversely affected.

Carpets may not timely identify or effectively respond to consumer needs, expectations or trends, which could adversely affect its relationship with customers, its reputation, demand for its products and services and its market share.

Carpets operates in a market sector where demand is strongly influenced by rapidly changing customer preferences as to product design and features. The success of Carpets depends on its ability to anticipate and react to changing consumer demands promptly. All of its products are subject to changing consumer preferences that cannot be predicted with certainty. Also, long lead times for certain of its products may make it hard for it to respond quickly to changes in consumer demands. Consumer preferences could shift rapidly to different types of products or away from the types of products Carpets carries altogether, and its future success depends, in part, on its ability to anticipate and respond to these changes. Failure to anticipate and respond promptly to changing consumer preferences could lead to, among other things, lower sales and excess inventory levels, which could have a material adverse effect on its financial condition.

Carpets relies on third-party suppliers for its products. If it fails to identify and develop relationships with a sufficient number of qualified suppliers, or if its suppliers experience financial or operational difficulties, its ability to timely and efficiently access products that meet its standards could be adversely affected.

Carpets sources, stocks and sells products from vendors, and its ability to fulfill their orders reliably and efficiently is critical to its business success. Its ability to continue to identify and develop relationships with qualified suppliers who can satisfy its standards for quality and the need to access products in a timely, efficient and cost-effective manner is a significant challenge. The ability to access products can also be adversely affected by political instability, the financial instability of suppliers, suppliers noncompliance with applicable laws, trade restrictions, tariffs, currency exchange rates, supply disruptions, weather conditions, natural disasters, shipping or logistical interruptions or costs and other factors beyond its control. If these vendors fail or are unable to perform as expected and Carpets is unable to replace them quickly, its business could be adversely affected, at least temporarily, until it can do so, and potentially, in some cases, permanently.

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If Carpets fails to achieve and maintain a high level of product and service quality, its reputation, sales, profitability, cashflows, and financial condition could be negatively impacted.

Product and service quality issues could result in a negative impact on customer confidence in Carpets and the Carpets brand image. As a result, its reputation as a retailer of high-quality products and services could suffer and impact customer loyalty. Additionally, a decline in product and service quality could result in product recalls, product liability and warranty claims. Carpets generally provides a one-year warranty on the installation of any of its products. Warranty work related directly to installation is repaired at the cost to Carpets, and product defects are generally charged back to the manufacturer.

If Carpets is unable to manage its installation service business effectively, it could suffer lost sales and be subject to fines, lawsuits, and a damaged reputation.

Carpets acts as a general contractor to provide installation services to its customers. As such, it is subject to regulatory requirements and risks applicable to general contractors, which include management of licensing, permitting and the quality of its installers. If Carpets fails to effectively manage these processes or provide proper oversight of these services, it could suffer lost sales, fines and lawsuits, as well as damage to its reputation, which could adversely affect its business.

The business of Carpets is dependent in part on estimating fixed price projects correctly and completing the installations within budget. Carpets could suffer losses associated with installations on fixed price projects.

A portion of Carpets business consists of fixed price projects that are bid for and contracted based on estimated costs. The estimating process includes budgeting for the appropriate amount of materials, labor and overhead. At times, this work can be substantial.  The ability to estimate costs correctly and complete the project within budget or satisfaction without material defect is essential.  In particular, there may be additional tariffs or taxes related to any inputs and finished goods imported by Carpets. Compliance with changes in taxes, tariffs and other regulations may require Carpets to alter its sourcing and make the process of estimating fixed price projects more difficult. If Carpets is unable to estimate a project properly or unable to complete the project within budget or without material defect, it may suffer losses, which could adversely affect its reputation, business, and financial condition.

Carpets depends upon its ability to attract, train and retain highly qualified associates while also controlling its labor costs.

Customers expect a high level of customer service and product knowledge from associates employed by Carpets. To meet the needs and expectations of its customers, Carpets must attract, train and retain a large number of highly qualified associates while at the same time controlling labor costs. Its ability to control labor costs is subject to numerous external factors, including prevailing wage rates and health and other insurance costs, as well as the impact of legislation or regulations governing labor relations or healthcare benefits. Also, Carpets competes with other retail businesses for many of its associates in hourly positions, and it invests significant resources in training and motivating them to maintain a high level of job satisfaction. These positions have historically had high turnover rates, which can lead to increased training and retention costs. There is no assurance that Carpets will be able to attract or retain highly qualified associates in the future.

A substantial decrease or interruption in business from Carpets significant customers or suppliers could adversely affect its business.

A small number of customers have historically accounted for a substantial portion of Carpets net revenue. We expect that key customers will continue to account for a substantial portion of Carpets net revenue for the foreseeable future. However, Carpets may lose these customers due to pricing, quality or other various issues. The loss or reduction of, or failure to renew or replace, any significant contracts with any of these customers could have a material adverse effect on its business or results of operations. For additional information regarding customer concentrations, see “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 4. Concentration Risks.”

Historically, Carpets has purchased inventory from a small number of vendors. If these vendors became unable to provide materials promptly, Carpets would be required to find alternative vendors. Management estimates they could locate and qualify new vendors in a short period of time. For additional information regarding vendor concentrations, see “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 4. Concentration Risks.”  

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Risks Related to Phoenix

Phoenix faces intense competition in the printing industry that could decrease demand for its products or force it to lower prices.

The printing industry is highly competitive. Phoenix competes directly or indirectly with several established book and book component manufacturers. New distribution channels such as digital formats, the internet and online retailers and growing delivery platforms (e.g., tablets and e-readers), combined with the concentration of retailer power, pose threats and provide opportunities to traditional consumer publishing models, potentially impacting both sales volumes and pricing.

Competitive pressures or the inability by Phoenix to adapt effectively and quickly to a changing competitive landscape could affect prices, margins or demand for products and services. If Phoenix is unable to respond timely and appropriately to these competitive pressures, from existing or new competitors, its business could be adversely affected.

Economic weakness and uncertainty, as well as the effects of these conditions on Phoenix’s customers and suppliers, could reduce demand for or the ability of Phoenix to provide its products and services.

Economic conditions related to Phoenix, Phoenix’s customers, and Phoenix’s suppliers, could negatively impact Phoenix’s business and results of operations. Phoenix has experienced, and may continue to experience, reduced demand for certain of its products and services. As a result of uncertainty about global economic conditions, including factors such as unemployment, bankruptcies, financial market volatility, sovereign debt issues, government budget deficits, tariffs, and other factors which continue to affect the global economy, Phoenix’s customers and suppliers may experience further deterioration of their businesses, suffer cash flow shortages or file for bankruptcy. In turn, existing or potential customers may delay or decline to purchase Phoenix products and related services, and Phoenix’s suppliers and customers may not be able to fulfill their obligations to it in a timely fashion.

Educational textbook cover and component sales depend on continued government funding for educational spending, which impacts demand by its customers, and may be affected by changes in or continued restrictions on local, state and/or federal funding and school budgets. As a result, a reduction in consumer discretionary spending or disposable income and/or adverse trends in the general economy (and consumer perceptions of those trends) may affect Phoenix more significantly than other businesses in other industries.

In addition, customer difficulties could result in increases in bad debt write-offs and increases to Phoenix’s allowance for doubtful accounts receivable. Further, Phoenix’s suppliers may experience similar conditions as its customers, which may impact their viability and their ability to fulfill their obligations to Phoenix. Negative changes in these or related economic factors could materially adversely affect Phoenix’s business.

A substantial decrease or interruption in business from Phoenix’s significant customers or suppliers could adversely affect its business.

Phoenix has significant customer and supplier concentration. For additional information regarding customer and supplier concentrations, see “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 4. Concentration Risks.”  Any significant cancellation, deferral or reduction in the quantity or type of products sold to these principal customers or a significant number of smaller customers, including as a result of Phoenix’s failure to perform, the impact of economic weakness and challenges to customer businesses, a change in buying habits, further industry consolidation or the impact of the shift to alternative methods of content delivery, including digital distribution and printing, to customers, could have a material adverse effect on Phoenix business. Further, if Phoenix’s significant customers, in turn, are not able to secure large orders, they will not be able to place orders with Phoenix. A substantial decrease or interruption in business from Phoenix’s significant customers could result in write-offs or the loss of future business and could have a material adverse effect on Phoenix’s business.

Additionally, Phoenix purchases certain limited grades of paper to produce book and component products. If Phoenix’s suppliers reduce their supplies or discontinue these grades of paper, Phoenix may be unable to fulfill its contract obligations, which could have a material adverse effect on its business.  See “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 4. Concentration Risks.”   

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Fluctuations in the cost and availability of raw materials could increase Phoenix cost of sales.

To produce its products, Phoenix is dependent upon the availability of raw materials, including paper, ink, and adhesives, the price and availability of which are affected by numerous factors beyond its control.  These factors include:

 

the level of consumer demand for these materials and downstream products containing or using these materials;

 

the supply of these materials and the impact of industry consolidation;

 

government regulation and taxes;

 

market uncertainty;

 

volatility in the capital and credit markets;

 

environmental conditions and regulations; and

 

political and global economic conditions.

Any material increase in the price of key raw materials could adversely impact Phoenix cost of sales or result in the loss of availability of such materials at reasonable prices. When these fluctuations result in significantly higher raw material costs, Phoenix’s operating results are adversely affected to the extent it is unable to pass on these increased costs to its customers or to the extent they materially affect customer buying habits. Significant fluctuations in prices for paper, ink, and adhesives could, therefore, have a material adverse effect on Phoenix’s business.

Any disruption at Phoenix production facility could adversely affect its results of operations.

Phoenix is dependent on certain key production facilities and certain specialized machines. Any disruption of production capabilities due to unforeseen events, including mechanical failures, labor disturbances, weather or other force majeure events, at any of its principal facilities could adversely affect its business, results of operations, cash flows, and financial condition. Further, if any of the specialized equipment that Phoenix relies upon to make its products becomes inoperable, Phoenix may experience delays in its ability to fulfill customer orders, which could harm its relationships with its customers.

Phoenix is subject to environmental obligations and liabilities that could impose substantial costs upon Phoenix.

Phoenix’s operations are subject to a variety of federal, state, local and foreign laws and regulations governing emissions to air, discharge to water, the generation, handling, storage, transportation, treatment and disposal of hazardous substances and other materials, and employee health and safety matters. As an owner and operator of real property and a generator of hazardous substances, Phoenix may be subject to environmental cleanup liability, regardless of fault, pursuant to the Comprehensive Environmental Response, Compensation and Liability Act or analogous state laws, as well as to claims for harm to health or property or for natural resource damages arising out of contamination or exposure to hazardous substances. Some current or past operations have involved metalworking and plating, printing and other activities that have resulted in or could result in environmental conditions giving rise to liabilities. If Phoenix incurs significant expenses related to environmental cleanup or damages stemming from harm or alleged harm to health, property or natural resources arising from contamination or exposure to hazardous substances, Phoenix’s business may be materially and adversely affected.

The diversion of resources and management’s attention to the integrations of the Printing Components Business and Color Optics could adversely affect Phoenix’s day-to-day business.

The integrations of the Printing Components Business and Color Optics may place a significant burden on Phoenix management and internal resources. The diversion of Phoenix management’s attention away from day-to-day business concerns and any difficulties encountered in the transition and integration process could adversely affect Phoenix’s financial results.

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Phoenix may not be able to successfully integrate recently acquired businesses, and the anticipated benefits of the recently acquired businesses may not be realized.

Phoenix has completed multiple acquisitions with the expectation that such acquisitions would result in various benefits, including, among other things, complementing Phoenix’s current product offerings and allowing Phoenix to expand and diversify its product offerings by leveraging its existing core competencies. Achieving those anticipated benefits is subject to several uncertainties, including whether Phoenix can integrate the acquired businesses in an efficient and effective manner. The integration process could also take longer than Phoenix anticipates and could result in the loss of valuable employees, the disruption of each company’s ongoing businesses, processes and systems or inconsistencies in standards, controls, procedures, practices, policies and compensation arrangements, any of which could adversely affect the achievement of anticipated benefits.  

Risks Related to our Businesses Generally and our Common Stock

Our ability to engage in some business transactions may be limited by the terms of our debt.

Our financing documents contain affirmative and negative financial covenants restricting ALJ, Faneuil, Carpets, and Phoenix. Specifically, our loan facilities covenants restrict ALJ, Faneuil, Carpets and Phoenix from:

 

incurring additional debt;

 

making certain capital expenditures;

 

allowing liens to exist;

 

entering transactions with affiliates;

 

guaranteeing the debt of other entities, including joint ventures;

 

merging, consolidating, or otherwise combining with another company; or

 

transferring or selling our assets.

The ability of ALJ, Faneuil, Carpets, and Phoenix to borrow under our loan arrangements depends upon their respective abilities to comply with certain covenants and borrowing base requirements.  The ability to meet these covenants and requirements may be affected by events beyond our control, and we or they may not meet these obligations. The failure of any of us or our subsidiaries to comply with these covenants and requirements could result in an event of default under our loan arrangements that, if not cured or waived, could terminate such partys ability to borrow further, permit acceleration of the relevant debt (and other indebtedness based on cross-default provisions) and permit foreclosure on any collateral granted as security under the loan arrangements, which includes substantially all of our assets. Accordingly, any default under our loan facilities could also result in a material adverse effect on us that may result in our lenders seeking to recover from us or against our assets. There can also be no assurance that the lenders will grant waivers on covenant violations if they occur. Any such event of default would have a material adverse effect on us.

We have substantial indebtedness and our ability to generate cash to service our indebtedness depends on factors that are beyond our control.

We currently have, and will likely continue to have, a substantial amount of indebtedness, some of which require us to make a lump-sum or “balloon” payment at maturity. Our indebtedness could, among other things, make it more difficult for us to satisfy our debt obligations, require us to use a large portion of our cash flow from operations to repay and service our debt or otherwise create liquidity problems, limit our flexibility to adjust to market conditions and place us at a competitive disadvantage. We expect to obtain the money to pay our expenses and pay the principal and interest on our indebtedness from cash flow from our operations and potentially from debt or equity offerings. However, if we do not have sufficient funds to repay the debt at maturity of these loans, we will need to refinance this debt. If the credit environment is constrained at the time the balloon payment is due or our indebtedness otherwise matures, we may not be able to refinance our existing indebtedness on acceptable terms and may be forced to choose from a number of unfavorable options. These options include agreeing to otherwise unfavorable financing terms, selling assets on disadvantageous terms or defaulting on the loan and permitting the lender to foreclose. Accordingly, our ability to meet our obligations depends on our future performance and capital raising activities, which will be affected by financial, business, economic and other factors, many of which are beyond our control. If our cash flow and capital resources prove inadequate to allow us to pay the principal and interest on our debt and meet our other obligations, our ability to execute our business plan and effectively compete in the marketplace may be materially adversely affected.

18


 

We are subject to claims arising in the ordinary course of our business that could be time-consuming, result in costly litigation and settlements or judgments, require significant amounts of management attention and result in the diversion of significant operational resources, which could adversely affect our business, financial condition and results of operations.

We, our officers, and our subsidiaries, are currently involved in, and from time to time may become involved in, legal proceedings or be subject to claims arising in the ordinary course of our business.  Litigation is inherently unpredictable, time-consuming and distracting to our management team, and the expenses of conducting litigation are not inconsequential.  Such distraction and expense may adversely affect the execution of our business plan and our ability to compete effectively in the marketplace.  Further, if we do not prevail in litigation in which we may be involved, our results could be adversely affected, in some cases, materially.  For additional information, see “Part I. Item 3, Legal Proceedings.”

Changes in interest rates may increase our interest expense.

 

As of September 30, 2018, $93.7 million of our current borrowings under the Cerberus Term Loan, Cerberus/PNC Revolver, and potential future borrowings are, and may continue to be, at variable rates of interest, tied to LIBOR or the Prime Rate of interest, thus exposing us to interest rate risk. Such rates tend to fluctuate based on general economic conditions, general interest rates, Federal Reserve rates and the supply of and demand for credit in the relevant interbanking market. In recent years, the Fed has incrementally raised the target range for the federal funds rate, with additional increases expected to come over the next year. Increases in the interest rate generally, and particularly when coupled with any significant variable rate indebtedness, could materially adversely impact our interest expenses. If interest rates continue increasing, our debt service obligations on the variable rate indebtedness would increase even though the amount borrowed remained the same, and our net income and cash flows, including cash available for servicing our indebtedness, will correspondingly decrease. For example, if interest rates increased in the future by 100 basis points, based on our current borrowings as of September 30, 2018, we would incur approximately an additional $0.9 million per year in interest expense.

We may not receive the full amounts estimated under the contracts in our backlog, which could reduce our revenue in future periods below the levels anticipated. This makes backlog an uncertain indicator of future operating results.

 

As of September 30, 2018, each of our subsidiaries had a significant backlog.  Our backlog is typically subject to large variations from quarter to quarter and comparisons of backlog from period to period are not necessarily indicative of future revenue. The contracts comprising our backlog may not result in actual revenue in any particular period or at all, and the actual revenue from such contracts may differ from our backlog estimates. The timing of receipt of revenue, if any, for projects included in backlog could change because many factors affect the scheduling of projects. In certain instances, customers may have the right to cancel, reduce or defer amounts that we have in our backlog, which could negatively affect our future revenue.  The failure to realize all amounts in our backlog could adversely affect our revenue and gross margins. As a result, our subsidiaries’ backlog as of any particular date may not be an accurate indicator of our future revenue or earnings.

Account data breaches involving stored data, or the misuse of such data could adversely affect our reputation, performance, and financial condition.

We and each of our subsidiaries provide services that involve the storage of non-public information. Cyber attacks designed to gain access to sensitive information are constantly evolving, and high-profile electronic security breaches leading to unauthorized releases of sensitive information have occurred recently at several major U.S. companies, including several large retailers, despite widespread recognition of the cyber-attack threat and improved data protection methods. Any breach of the systems on which sensitive data and account information are stored or archived and any misuse by our employees, by employees of data archiving services or by other unauthorized users of such data could lead to damage to our reputation, claims against us and other potential increases in costs. If we are unsuccessful in defending any lawsuit involving such data security breaches or misuse, we may be forced to pay damages, which could materially and adversely affect our profitability and financial condition. Also, damage to our reputation stemming from such breaches could adversely affect our prospects. As the regulatory environment relating to companies obligations to protect such sensitive data becomes stricter, a material failure on our part to comply with applicable regulations could subject us to fines or other regulatory sanctions.

Some of our officers do not devote all of their time to us because of outside business interests, which could impair our ability to implement our business strategies and lead to potential conflicts of interest. 

Jess Ravich, our Executive Chairman, is also the Group Managing Director of The TCW Group, an asset management firm. While we believe that Mr. Ravich is able to devote sufficient amounts of time to our business, the fact that Mr. Ravich has outside business interests could lessen his focus on our business, and jeopardize our ability to implement our business strategies.

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Additionally, some of our officers, in the course of their other business activities, may become aware of investments, business or other information which may be appropriate for presentation to us as well as to other entities to which they owe a fiduciary duty. They may also in the future become affiliated with entities that are engaged in business or other activities similar to those we intend to conduct. As a result, they may have conflicts of interest in determining to which entity particular opportunities or information should be presented. If, as a result of such conflict, we are deprived of investments, business or information, the execution of our business plan and our ability to effectively compete in the marketplace may be adversely affected.

We may not be able to consummate additional acquisitions and dispositions on acceptable terms or at all. Furthermore, we may not be able to integrate acquisitions successfully and achieve anticipated synergies, or the acquisitions and dispositions we pursue could disrupt our business and harm our financial condition and operating results.

As part of our business strategy, we intend to continue to pursue acquisitions and dispositions. Acquisitions and dispositions could involve a number of risks and present financial, managerial and operational challenges, including:

 

adverse developments with respect to our results of operations as a result of an acquisition which may require us to incur charges and/or substantial debt or liabilities;

 

disruption of our ongoing business and diversion of resources and management attention from existing businesses and strategic matters;

 

difficulty with assimilation and integration of operations, technologies, products, personnel or financial or other systems;

 

increased expenses, including compensation expenses resulting from newly hired employees and/or workforce integration and restructuring;

 

disruption of relationships with current and new personnel, customers and suppliers;

 

integration challenges related to implementing or improving internal controls, procedures and/or policies at a business that prior to the acquisition lacked the same level of controls, procedures and/or policies;

 

assumption of certain known and unknown liabilities of the acquired business;

 

regulatory challenges or resulting delays; and

 

potential disputes (including with respect to indemnification claims) with the buyers of disposed businesses or with the sellers of acquired businesses, technologies, services or products.

We may not be able to consummate acquisitions or dispositions on favorable terms or at all. Our ability to consummate acquisitions will be limited by our ability to identify appropriate acquisition candidates, to negotiate acceptable terms for purchase and our access to financial resources, including available cash and borrowing capacity. In addition, we could experience financial or other setbacks if we are unable to realize, or are delayed in realizing, the anticipated benefits resulting from an acquisition, if we incur greater than expected costs in achieving the anticipated benefits or if any business that we acquire or invest in encounters problems or liabilities which we were not aware of or were more extensive than believed.

Our net operating loss carryforwards could be substantially limited if we experience an “ownership change,” as defined in Section 382 of the Internal Revenue Code.

Our ability to utilize net operating losses (NOLs) and built-in losses under Section 382 of the Internal Revenue Code (the “Code”) and tax credit carryforwards to offset our future taxable income and/or to recover previously paid taxes would be limited if we were to undergo an ownership change within the meaning of Section 382 of the Code.

Section 382 of the Code contains rules that limit the ability of a company that undergoes an ownership change, which is generally any change in ownership of more than 50% of its stock over a three-year period, to utilize its NOLs and certain built-in losses recognized in years after the ownership change. These rules generally operate by focusing on ownership changes among stockholders owning directly or indirectly 5% or more of the stock of a company and any change in ownership arising from a new issuance of stock by the company.

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If we undergo an ownership change for purposes of Section 382 as a result of future transactions involving our common stock, including purchases or sales of stock between 5% stockholders, our ability to use our NOLs and to recognize certain built-in losses would be subject to the limitations of Section 382. Depending on the resulting limitation, a significant portion of our NOLs could expire before we would be able to use them.  At the end of our last fiscal year, September 30, 2018, we had net operating loss carryforwards for federal income tax purposes of approximately $144.3 million that start expiring in 2022. Approximately $121.3 million of the carryforward expires in 2022. Our inability to utilize our NOLs would have a negative impact on our financial position and results of operations.

We do not believe we have experienced an ownership change as defined by Section 382 in the last three years. However, whether a change in ownership occurs in the future is largely outside of our control, and there can be no assurance that such a change will not occur.

In May 2009, we announced that our Board of Directors adopted a shareholder rights plan (the Rights Plan) designed to preserve stockholder value and the value of certain tax assets primarily associated with NOLs and built-in losses under Section 382 of the Code. We also amended our certificate of incorporation to add certain restrictions on transfers of our stock that may result in an ownership change under Section 382.

 

Changes in U.S. tax laws could have a material adverse effect on our business, cash flow, results of operations or financial conditions.

 

The Tax Reform Law contains many significant changes to the U.S. federal income tax laws, the full consequences of which have not yet been determined. As a result of the enacted reduction in the federal corporate income tax rate, we recorded a one-time, non-cash increase to deferred income tax expense of $4.1 million to revalue ALJ’s net deferred tax asset during the year ended September 30, 2018.  The one-time revaluation was based on our current knowledge, interpretation and understanding of the Tax Reform Law and its impact to our business. Other aspects of the Tax Reform Law, including, but not limited to the state tax effect of adjustments made to federal taxes and the interest expense deduction limitation may have additional material impacts on the value of our deferred tax assets, could result in significant one-time charges in the current or future taxable years, and could increase our future tax expense. The foregoing items could have a material adverse effect on our business, cash flow, results of operations or financial conditions.  

Our internal controls and procedures may be deficient.

Our internal controls and procedures, including the internal controls and procedures of our subsidiaries, may be subject to deficiencies or weaknesses. Remedying and monitoring internal controls and procedures distract our management from its operations, planning, oversight and performance functions, which could harm our operating results. Additionally, any failure of our internal controls or procedures could harm our operating results or cause us to fail to meet our obligations to maintain adequate public information or to file periodic reports with the SEC, as applicable.

The concentration of our capital stock ownership with insiders will likely limit your ability to influence corporate matters. 

Our executive officers and directors and their affiliated entities together beneficially own a majority of our outstanding common stock, and our Executive Chairman owns approximately 37.1% of our outstanding common stock as of September 30, 2018. As a result, these stockholders, if they act together or in a block, could have significant influence over most matters that require approval by our stockholders, including the election of directors and approval of significant corporate transactions, even if other stockholders oppose them. This concentration of ownership might also have the effect of delaying or preventing a change of control of our company that other stockholders may view as beneficial.

We are an “emerging growth company” and a “smaller reporting company” and we may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies” or “smaller reporting companies.”

We qualify as an emerging growth company, as defined in Section 2(a) of the Securities Act of 1933, as amended (the “Securities Act”), as modified by the Jumpstart Our Business Startups Act of 2012 (the JOBS Act). We shall continue to be deemed an emerging growth company until the earliest of:

(a) the last day of the fiscal year in which we have total annual gross revenue of $1.07 billion or more;

(b) the last day of the fiscal year of the issuer following the fifth anniversary of the date of the first sale of common equity securities of the issuer pursuant to an effective registration statement;

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(c) the date on which we have issued more than $1 billion in non-convertible debt, during the previous 3-year period, issued; or

(d) the date on which we are deemed to be a large accelerated filer.

As an emerging growth company, we are subject to reduced public company reporting requirements. As an emerging growth company, we are exempt from Section 404(b) of Sarbanes Oxley. Section 404(a) requires issuers to publish information in their annual reports concerning the scope and adequacy of the internal control structure and procedures for financial reporting. This statement shall also assess the effectiveness of such internal controls and procedures. Section 404(b) requires that the registered accounting firm shall, in the same report, attest to and report on the assessment of the effectiveness of the internal control structure and procedures for financial reporting.

As an emerging growth company, we are also exempt from Section 14A (a) and (b) of the Securities Exchange Act of 1934 which require the shareholder approval of executive compensation and golden parachutes.

We have elected to use the extended transition period for complying with new or revised accounting standards under Section 102(b)(2) of the JOBS Act, which allows us to delay the adoption of new or revised accounting standards that have different effective dates for public and private companies until those standards apply to private companies. As a result of this election, our financial statements may not be comparable to companies that comply with public company effective dates.

We are also a “smaller reporting company,” meaning that we are not an investment company, an asset-backed issuer, or a majority-owned subsidiary of a parent company that is not a “smaller reporting company,” and have either: (i) a public float of less than $250 million or (ii) annual revenues of less than $100 million during the most recently completed fiscal year and (A) no public float or (B) a public float of less than $700 million. As a “smaller reporting company,” we are subject to reduced disclosure obligations in our SEC filings compared to other issuers, including with respect to disclosure obligations regarding executive compensation in our periodic reports and proxy statements.  Until such time as we cease to be a “smaller reporting company,” such reduced disclosure in our SEC filings may make it harder for investors to analyze our operating results and financial prospects.

The market price of our common stock is volatile.

The market price of our common stock could fluctuate substantially in the future in response to a number of factors, including the following:

 

our quarterly operating results or the operating results of other companies in our industry;

 

changes in general conditions in the economy, the financial markets or our industry;

 

announcements by our competitors of significant acquisitions; and

 

the occurrence of various risks described in these Risk Factors.

Also, the stock market has experienced extreme price and volume fluctuations recently. This volatility has had a significant impact on the market prices of securities issued by many companies for reasons unrelated to their operating performance. These broad market fluctuations may materially adversely affect our stock price, regardless of our operating results.

Your share ownership may be diluted by the issuance of additional shares of our common or preferred stock in the future.

Your share ownership may be diluted by the issuance of additional shares of our common or preferred stock or securities convertible into common or preferred stock in the future. As of September 30, 2018, a total of 1,674,000 shares of our common stock are issuable pursuant to outstanding options issued by us at a weighted-average exercise price of $3.38.  It is probable that options to purchase our common stock will be exercised during their respective terms if the fair market value of our common stock exceeds the exercise price of the particular option. If the stock options are exercised, your share ownership will be diluted.  Additionally, options to purchase up to 1,260,000 shares of ALJ common stock are available for grant under our existing equity compensation plans as of September 30, 2018.  

In addition, our Board of Directors may determine from time to time that we need to raise additional capital by issuing additional shares of our common stock or other securities. We are not restricted from issuing additional common stock or preferred stock, including any securities that are convertible into or exchangeable for, or that represent the right to receive, common or preferred stock. The issuance of any additional shares of common stock or preferred stock or securities convertible into, exchangeable for or that represent the right to receive common or preferred stock, or the exercise of such securities could be substantially dilutive to shareholders of our common stock. New investors also may have rights, preferences, and privileges that are senior to, and that

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adversely affect, our then current shareholders. Holders of our shares of common stock have no preemptive rights that entitle holders to purchase their pro rata share of any offering of shares of any class or series. The market price of our common stock could decline as a result of sales of shares of our common stock made after this offering or the perception that such sales could occur. We cannot predict or estimate the amount, timing or nature of our future offerings. Thus, our shareholders bear the risk of our future offerings reducing the market price of our common stock and diluting their stock holdings.

We do not currently plan to pay dividends to holders of our common stock.

We do not currently anticipate paying cash dividends to the holders of our common stock. Accordingly, holders of our common stock must rely on price appreciation as the sole method to realize a gain on their investment. There can be no assurances that the price of our common stock will ever appreciate in value.

The anti-takeover provisions of our stockholders rights plan may have the effect of delaying or preventing beneficial takeover bids by third parties.

We have a stockholder rights plan (the “Rights Plan”) designed to preserve the value of certain tax assets primarily associated with our NOLs and built-in losses under Section 382. At the end of our last fiscal year, September 30, 2018, we had approximately $144.3 million of NOLs. The use of such losses to offset federal income tax would be limited if we experience an ownership change under Section 382. This would occur if stockholders owning (or deemed under Section 382 to own) 5% or more of our stock by value increase their collective ownership of the aggregate amount of our stock by more than 50 percentage points over a defined period. The Rights Plan was adopted to reduce the likelihood of an ownership change occurring as defined by Section 382.

In connection with the Rights Plan, we declared a dividend of one preferred share purchase right for each share of its common stock outstanding as of the close of business on May 21, 2009. Pursuant to the Rights Plan, any stockholder or group that acquires beneficial ownership of 4.9 percent or more of our outstanding stock (an Acquiring Person) without the approval of our Board of Directors would be subjected to significant dilution of its holdings. Any existing stockholder holding 4.9% or more of our stock will not be considered an Acquiring Person unless such stockholder acquires additional stock; provided that existing stockholders actually known to us to hold 4.9% or more of its stock as of April 30, 2009, are permitted to purchase up to an additional 5% of our stock without triggering the Rights Plan. In addition, in its discretion, the Board of Directors may exempt certain persons whose acquisition of securities is determined by the Board of Directors not to jeopardize our deferred tax assets and may also exempt certain transactions. The Rights Plan will continue in effect until May 13, 2019, unless it is terminated or the preferred share purchase rights are redeemed earlier by the Board of Directors.

While the Rights Plan is intended to protect our NOLs and built-in losses under Section 382, it may also have the effect of delaying or preventing beneficial takeover bids by third parties.

ITEM 1B. UNRESOLVED STAFF COMMENTS.

None.

ITEM 2. PROPERTIES.

ALJ’s corporate mailing address is 244 Madison Avenue, PMB 358, New York, NY 10016. ALJ does not maintain any physical corporate offices. For additional information about the properties of each of ALJ’s operating subsidiaries, see “Item 1. Business.”

ITEM 3. LEGAL PROCEEDINGS.

Litigation, Claims, and Assessments

Faneuil, Inc. v. 3M Company

On September 22, 2016, Faneuil filed a complaint against 3M Company (“3M”) in the Circuit Court for the City of Richmond, Virginia.  The dispute arose out of a subcontract entered into between 3M and Faneuil in relation to a toll road project in Portsmouth, Virginia.  In its complaint, Faneuil sought recovery of $5.1 million based on three causes of action: breach of contract, breach of the implied covenant of good faith and fair dealing, and unjust enrichment. 

On October 14, 2016, 3M filed its answer and counterclaim against Faneuil.  In its counterclaim, 3M sought recovery in excess of $10.0 million based on three claims:  breach of contract/indemnification, breach of the implied covenant of good faith and fair dealing, and unjust enrichment.  3M’s counterclaim alleged it incurred approximately $3.2 million in damages payable to ERC as a result of Faneuil’s conduct and sought indemnification of an additional $10.0 million in damages incurred as a result of continued performance under its contract with ERC.

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The matter was tried in a bench trial from April 30, 2018 through May 2, 2018.  On May 15, 2018, the Circuit Court for the City of Richmond, Virginia (the “Richmond Circuit Court”) issued its opinion, which dismissed both Faneuil’s complaint and 3M’s counterclaim with prejudice.  No monetary damages were awarded to either Faneuil or 3M.  As a result of the Richmond Circuit Court’s opinion, ALJ recorded a non-cash litigation loss of $2.9 million (the outstanding unreserved receivable from 3M), which was included with selling, general and administrative expense during the year ended September 30, 2018.  Faneuil has filed an appeal of the Richmond Circuit Court’s judgment.

Marshall v. Faneuil, Inc.

On July 31, 2017, plaintiff Donna Marshall (“Marshall”), filed a proposed class action lawsuit in the Superior Court of the State of California for the County of Sacramento against Faneuil and ALJ. Marshall, a previously terminated Faneuil employee, alleges various California state law employment-related claims against Faneuil.  Faneuil has answered the complaint and removed the matter to the United States District Court for the Eastern District of California; however, Marshall filed a motion to remand the case back to state court. The motion to remand has been fully briefed and argued and remains pending before the court.  The case is in early discovery at this time. Faneuil believes this action is without merit and intends to defend it vigorously.

Other Litigation

We and our subsidiaries have been named in, and from time to time may become named in, various other lawsuits or threatened actions that are incidental to our ordinary business. Litigation is inherently unpredictable. Any claims against us, whether meritorious or not, could be time-consuming, cause us to incur costs and expenses, require significant amounts of management time and result in the diversion of significant operational resources. The results of these lawsuits and actions cannot be predicted with certainty. We concluded as of September 30, 2018 that the ultimate resolution of these matters (including the matters described above) will not have a material adverse effect on our business, consolidated financial position, results of operations or cash flows.

ITEM 4. MINE SAFETY DISCLOSURE.

Not applicable.

 

 

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PART II

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.  

Market Information

On May 11, 2016, our stock began trading on NASDAQ under the ticker symbol “ALJJ.”  Prior to May 11, 2016, our stock traded on the OTC Bulletin Board (“OTCBB”).  The following table sets forth the range of high and low sales prices for the Company’s common stock for the periods indicated:

 

 

 

High

 

 

Low

 

Fiscal 2018:

 

 

 

 

 

 

 

 

1st Quarter

 

$

3.75

 

 

$

2.98

 

2nd Quarter

 

 

3.74

 

 

 

1.82

 

3rd Quarter

 

 

2.31

 

 

 

1.42

 

4th Quarter

 

 

2.26

 

 

 

1.71

 

Fiscal 2017:

 

 

 

 

 

 

 

 

1st Quarter

 

$

4.87

 

 

$

3.75

 

2nd Quarter

 

 

4.45

 

 

 

3.51

 

3rd Quarter

 

 

3.79

 

 

 

3.09

 

4th Quarter

 

 

3.75

 

 

 

2.81

 

 

Record Holders

As of November 30, 2018, there were 127 registered holders of ALJ’s common stock.  In addition, there are a significant number of holders of ALJ common stock that are “street name” or beneficial holders, whose shares are held of record by banks, brokers, and other financial institutions.  

Dividends

We have not declared or paid dividends on our common stock to date.  We intend to retain any earnings for use in the business for the foreseeable future.

Equity Compensation Plan Information

On July 11, 2016, ALJ shareholders approved ALJ’s Omnibus Equity Incentive Plan (the “2016 Plan”), which allows ALJ and its subsidiaries to grant securities of ALJ to officers, employees, directors or consultants.  ALJ believes that equity-based compensation is fundamental to attracting, motivating and retaining highly-qualified dedicated employees who have the skills and experience required to achieve business goals.  Further, ALJ believes the 2016 Plan aligns the compensation of directors, officers, and employees with shareholder interest.  

The 2016 Plan is administered by ALJ’s Compensation, Nominating and Corporate Governance Committee (the “Compensation, Nominating, and Corporate Governance Committee”) of the Board.  The maximum aggregate number of common stock shares that may be granted under the 2016 Plan is 2,000,000.  The 2016 Plan generally provides for the grant of qualified or nonqualified stock options, restricted stock and restricted stock units, unrestricted stock, stock appreciation rights, performance awards and other awards.  The Compensation, Nominating, and Corporate Governance Committee has full discretion to set the vesting criteria.  The exercise price of a stock option may not be less than 100% of the fair market value of ALJ’s common stock on the date of grant. The 2016 Plan prohibits the repricing of outstanding stock options without prior shareholder approval. The term of stock options granted under the 2016 Plan may not exceed ten years.  Awards are subject to accelerated vesting upon a change in control in the event the acquiring company does not assume the awards.

The Board may amend, alter, or discontinue the 2016 Plan, but shall obtain shareholder approval of any amendment as required by applicable law or stock exchange listing requirements.  

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The following table sets forth certain information concerning shares of common stock authorized for issuance under the Company’s existing equity compensation plans as of September 30, 2018:

 

 

 

Number of securities to be issued upon exercise of outstanding options, warrants and rights

(a)

 

 

Weighted average exercise price of outstanding options, warrants and rights

(b)

 

 

Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))

(c)

 

Equity compensation plans approved by

   security holders

 

 

740,000

 

 

$

3.02

 

 

 

1,260,000

 

Equity compensation plans not approved by

   security holders

 

 

934,000

 

 

 

3.67

 

 

 

 

Total

 

 

1,674,000

 

 

$

3.38

 

 

 

1,260,000

 

 

Recent Sales of Unregistered Securities

None.

Issuer Purchases of Equity Securities

None.

ITEM 6. SELECTED FINANCIAL DATA.

We are a smaller reporting company as defined by Rule 12b-2 of the Securities Exchange Act of 1934 and are not required to provide the information under this item.

 

 

26


 

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Our Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is provided in addition to the accompanying consolidated financial statements and notes to assist readers in understanding our results of operations, financial condition, and cash flows. Our MD&A is organized as follows:

 

Overview. Discussion of our business and overall analysis of financial and other highlights affecting us to provide context for the remainder of MD&A.

 

Results of Operations. An analysis comparing our financial results for the year ended September 30, 2018 (“Fiscal 2018”) to the year ended September 30, 2017 (“Fiscal 2017”).

 

Liquidity and Capital Resources. An analysis of changes in our cash flows and discussion of our financial condition and liquidity.

 

Contractual Obligations.  Discussion of our contractual obligations as of September 30, 2018.

 

Off-Balance Sheet Arrangements.  Discussion of our off-balance sheet arrangements as of September 30, 2018.

 

Critical Accounting Policies and Estimates.  This section provides a discussion of the significant estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities.

The following discussion should be read in conjunction with our consolidated financial statements and accompanying notes included in “Part IV, Item 15. Exhibits, Financial Statement Schedules.”  The following discussion contains a number of forward-looking statements that involve a number of risks and uncertainties. Words such as "anticipates," "expects," "intends," "goals," "plans," "believes," "seeks," "estimates," "continues," "may," "will," "should," and variations of such words and similar expressions are intended to identify such forward-looking statements. Such statements are based on our current expectations and could be affected by the risk and uncertainties described in “Part I, Item 1A. Risk Factors.” Our actual results may differ materially.

Overview

ALJ Regional Holdings, Inc. (“ALJ” or “we”) is a holding company that operates Faneuil, Inc., or Faneuil, Floors-N-More, LLC, d/b/a Carpets N’ More, or Carpets, and Phoenix Color Corp., or Phoenix. With several members of our senior management and Board of Directors coming from long careers in the professional service industry, ALJ is focused on acquiring and operating exceptional customer service-based businesses.

We continue to see our business evolve as we execute our strategy of buying attractively valued assets, such as the acquisition of the Printing Components Business by Phoenix on October 2, 2017, the acquisition of the CMO Business by Faneuil on May 26, 2017, and the acquisition of Color Optics by Phoenix on July 18, 2016.  In analyzing the financial impact of any potential acquisition, we focus on earnings, operating margin, cash flow and return on invested capital targets. We hire successful and experienced management teams to run each of our operating companies and incentivize them to drive higher profits. We are focused on increasing our net revenue at each of our operating subsidiaries by investing in sales and marketing, expanding into new products and markets, and evaluating and executing on tuck-in acquisitions, while continually examining our cost structures to drive higher profits.

Results of Operations

Our results of operations are impacted by the timing of acquisitions, including the CMO Business acquired by Faneuil on May 26, 2017, and the Printing Components Business acquired by Phoenix on October 2, 2017.  

27


 

The following table sets forth certain consolidated statements of operations data as a percentage of net revenue for each period as follows:

 

 

 

Year Ended September 30, 2018

 

 

Year Ended September 30, 2017

 

 

 

 

 

 

 

% of

 

 

 

 

 

 

% of

 

(in thousands, except per share amounts)

 

Dollars

 

 

Net Revenue

 

 

Dollars

 

 

Net Revenue

 

Net revenue (1)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil

 

$

188,233

 

 

 

50.9

%

 

$

158,264

 

 

 

48.4

%

Carpets

 

 

68,404

 

 

 

18.5

 

 

 

69,725

 

 

 

21.3

 

Phoenix

 

 

113,139

 

 

 

30.6

 

 

 

98,729

 

 

 

30.2

 

Consolidated net revenue

 

 

369,776

 

 

 

100.0

 

 

 

326,718

 

 

 

100.0

 

Cost of revenue (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil

 

 

146,004

 

 

 

77.6

 

 

 

120,805

 

 

 

76.3

 

Carpets

 

 

56,161

 

 

 

82.1

 

 

 

56,777

 

 

 

81.4

 

Phoenix (3)

 

 

83,707

 

 

 

74.0

 

 

 

73,122

 

 

 

74.1

 

Consolidated cost of revenue

 

 

285,872

 

 

 

77.3

 

 

 

250,704

 

 

 

76.7

 

Selling, general and administrative expense (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil

 

 

32,047

 

 

 

17.0

 

 

 

24,604

 

 

 

15.5

 

Carpets

 

 

11,803

 

 

 

17.3

 

 

 

11,659

 

 

 

16.7

 

Phoenix

 

 

15,419

 

 

 

13.6

 

 

 

12,546

 

 

 

12.7

 

ALJ

 

 

3,761

 

 

 

 

 

 

3,135

 

 

 

 

Consolidated selling, general and administrative

   expense

 

 

63,030

 

 

 

17.0

 

 

 

51,944

 

 

 

15.9

 

Depreciation and amortization expense (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil

 

 

10,286

 

 

 

5.5

 

 

 

8,109

 

 

 

5.1

 

Carpets

 

 

861

 

 

 

1.3

 

 

 

737

 

 

 

1.1

 

Phoenix (4)

 

 

2,479

 

 

 

2.2

 

 

 

2,521

 

 

 

2.6

 

Consolidated depreciation and amortization

  expense

 

 

13,626

 

 

 

3.7

 

 

 

11,367

 

 

 

3.5

 

Gain (loss) on disposal of assets, net (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Carpets

 

 

24

 

 

 

 

 

 

 

 

 

 

Phoenix

 

 

253

 

 

 

 

 

 

(8

)

 

 

 

Segment operating income (loss) (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil

 

 

(104

)

 

 

(0.1

)

 

 

4,746

 

 

 

3.0

 

Carpets

 

 

(397

)

 

 

(0.6

)

 

 

552

 

 

 

0.8

 

Phoenix

 

 

11,787

 

 

 

10.4

 

 

 

10,532

 

 

 

10.7

 

ALJ

 

 

(3,761

)

 

 

 

 

 

(3,135

)

 

 

 

Consolidated segment operating income (loss)

 

 

7,525

 

 

 

2.0

 

 

 

12,695

 

 

 

3.9

 

Interest expense (5)

 

 

(10,558

)

 

 

(2.9

)

 

 

(9,744

)

 

 

(3.0

)

Other income

 

 

 

 

 

 

 

 

298

 

 

 

0.1

 

(Provision for) benefit from income taxes (5)

 

 

(4,299

)

 

 

(1.2

)

 

 

12,424

 

 

 

3.8

 

Net (loss) income (5)

 

$

(7,332

)

 

 

(2.0

)%

 

$

15,673

 

 

 

4.8

%

Basic (loss) earnings per share of common stock

 

$

(0.19

)

 

 

 

 

 

$

0.45

 

 

 

 

 

Diluted (loss) earnings per share of common stock

 

$

(0.19

)

 

 

 

 

 

$

0.43

 

 

 

 

 

 

(1)

Percentage is calculated as segment net revenue divided by consolidated net revenue.

(2)

Percentage is calculated as a percentage of the respective segment net revenue.

(3)

Includes depreciation expense of $5.4 million and $5.2 million during Fiscal 2018 and Fiscal 2017, respectively.

(4)

Primarily amortization of intangible assets.  Total depreciation and amortization for Phoenix, including depreciation expense captured in cost of revenue, was $7.9 million and $7.8 million during Fiscal 2018 and Fiscal 2017, respectively.

(5)

Percentage is calculated as a percentage of consolidated net revenue.

28


 

 

Net Revenue

 

 

 

Year Ended September 30,

 

 

 

 

 

 

 

 

 

(in thousands)

 

2018

 

 

2017

 

 

$ Change

 

 

% Change

 

Faneuil

 

$

188,233

 

 

$

158,264

 

 

$

29,969

 

 

 

18.9

%

Carpets

 

 

68,404

 

 

 

69,725

 

 

 

(1,321

)

 

 

(1.9

)

Phoenix

 

 

113,139

 

 

 

98,729

 

 

 

14,410

 

 

 

14.6

 

Consolidated net revenue

 

$

369,776

 

 

$

326,718

 

 

$

43,058

 

 

 

13.2

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil Net Revenue

 

Faneuil net revenue for Fiscal 2018 was $188.2 million, an increase of $30.0 million, or 18.9%, compared to net revenue of $158.3 million for Fiscal 2017.  The increase was mainly attributable to a $22.0 million increase from the CMO Business acquisition, a $12.5 million increase from new customers, and a $0.7 million increase in revenue from existing customers, partly offset by a $5.2 million decrease driven by the completion of customer contracts.  The remaining change was a result of normal fluctuations in existing customer contracts.

 

Carpets Net Revenue

Carpets net revenue for Fiscal 2018 was $68.4 million, a decrease of $1.3 million, or 1.9%, compared to net revenue of $69.7 million for Fiscal 2017.  The slight decrease was primarily attributable to lower volumes from granite and cabinet sales, somewhat offset by an increase in volume from flooring sales.    

Phoenix Net Revenue

Phoenix net revenue for Fiscal 2018 was $113.1 million, an increase of $14.4 million, or 14.6%, compared to $98.7 million during Fiscal 2017.  The increase was a result of the acquisition of the Printing Component Business, which contributed net revenue of $15.7 million during Fiscal 2018.  This increase was offset by a decrease in revenue from the remaining business of $1.3 million during Fiscal 2018 compared to Fiscal 2017, due to lower volumes primarily for packaging.

Cost of Revenue

 

 

 

Year Ended September 30,

 

 

 

 

 

 

 

 

 

(in thousands)

 

2018

 

 

2017

 

 

$ Change

 

 

% Change

 

Faneuil

 

$

146,004

 

 

$

120,805

 

 

$

25,199

 

 

 

20.9

%

As a percentage of net revenue

 

 

77.6

%

 

 

76.3

%

 

 

 

 

 

 

 

 

Carpets

 

 

56,161

 

 

 

56,777

 

 

 

(616

)

 

 

(1.1

)

As a percentage of net revenue

 

 

82.1

%

 

 

81.4

%

 

 

 

 

 

 

 

 

Phoenix

 

 

83,707

 

 

 

73,122

 

 

 

10,585

 

 

 

14.5

 

As a percentage of net revenue

 

 

74.0

%

 

 

74.1

%

 

 

 

 

 

 

 

 

Consolidated cost of revenue

 

$

285,872

 

 

$

250,704

 

 

$

35,168

 

 

 

14.03

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil Cost of Revenue

Faneuil cost of revenue for Fiscal 2018 was $146.0 million, an increase of $25.2 million, or 20.9%, compared to $120.8 million for Fiscal 2017.  The absolute dollar increase in cost of revenue was a direct result of the increased net revenue.  During Fiscal 2018 as compared to Fiscal 2017, Faneuil cost of revenue as a percentage of segment net revenue increased to 77.6% from 76.3% as a result of the integration of the CMO Business.  

29


 

Carpets Cost of Revenue

Carpets cost of revenue for Fiscal 2018 was $56.2 million, a decrease of $0.6 million, or 1.1%, compared to cost of revenue of $56.8 million for Fiscal 2017.  The absolute dollar decrease in cost of revenue was a direct result of decreased net revenue.  Although Carpets cost of revenue as a percentage of net revenue was relatively constant at 82.1% during Fiscal 2018 and 81.4% during Fiscal 2017, it was impacted by the change in the relative percentage of net revenue generated from new home, retail, and commercial sales.

Phoenix Cost of Revenue

Phoenix cost of revenue for Fiscal 2018 was $83.7 million, an increase of $10.6 million, or 14.5% compared to cost of revenue of $73.1 million for Fiscal 2017.  The absolute dollar increase in cost of revenue was mainly attributable to increased net revenue associated with the aforementioned Printing Components Business acquisition.  During Fiscal 2018, as compared to Fiscal 2017, Phoenix cost of revenue as a percentage of segment net revenue was flat at 74.0% and 74.1%, respectively.  Phoenix experiences normal fluctuations to cost of revenue as a percentage of segment net revenue as a result of changes to the mix of products sold.

Selling, General and Administrative Expense

 

 

 

Year Ended September 30,

 

 

 

 

 

 

 

 

 

(in thousands)

 

2018

 

 

2017

 

 

$ Change

 

 

% Change

 

Faneuil

 

$

32,047

 

 

$

24,604

 

 

$

7,443

 

 

 

30.3

%

Carpets

 

 

11,803

 

 

 

11,659

 

 

 

144

 

 

 

1.2

 

Phoenix

 

 

15,419

 

 

 

12,546

 

 

 

2,873

 

 

 

22.9

 

ALJ

 

 

3,761

 

 

 

3,135

 

 

 

626

 

 

 

20.0

 

Consolidated selling, general and administrative

   expense

 

$

63,030

 

 

$

51,944

 

 

$

11,086

 

 

 

21.3

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil Selling, General and Administrative Expense

Faneuil selling, general and administrative expense for Fiscal 2018 was $32.0 million, an increase of $7.4 million, or 30.3%, compared to selling, general and administrative expense of $24.6 million for Fiscal 2017.  The increase was primarily attributable to a $3.4 million increase from the CMO Business acquisition, a $2.9 million non-cash litigation loss, and a $1.5 million increase to support new customers, offset by $0.1 million decrease to support existing customers, and concluded contracts of $0.3 million.  During Fiscal 2018 compared to Fiscal 2017, Faneuil selling, general and administrative expense as a percentage of segment net revenue increased to 17.0% from 15.5% principally as a result of the aforementioned non-cash litigation loss.

 

Carpets Selling, General and Administrative Expense

Carpets selling, general and administrative expense was $11.8 million for Fiscal 2018, an increase of $0.1 million, or 1.2%, compared to selling, general and administrative expense of $11.7 million for Fiscal 2017.  Although selling, general and administrative expenses were flat, they were impacted by higher labor costs and increased insurance premiums, slightly offset by reduced legal fees.  Carpets selling, general and administrative expense as a percentage of segment net revenue increased to 17.3% for Fiscal 2018 from 16.7% for Fiscal 2017 as a result of incurring additional expenses in Fiscal 2018, including insurance and equipment maintenance, which do not fluctuate with net revenue.

Phoenix Selling, General and Administrative Expense

Phoenix selling, general and administrative expense for Fiscal 2018 was $15.4 million, an increase of $2.9 million, or approximately 22.9%, compared to $12.5 million for Fiscal 2017.  The increase was mainly attributable to the Printing Component Business acquisition, and non-recurring relocation and restructuring expense totaling $2.5 million to consolidate manufacturing facilities.  Phoenix selling, general and administrative expense as a percentage of segment net revenue increased to 13.6% for Fiscal 2018 from 12.7% for Fiscal 2017, which was mainly attributable to the non-recurring relocation and restructuring expense incurred during Fiscal 2018.  

 

30


 

ALJ Selling, General and Administrative Expense

ALJ selling, general and administrative expense for Fiscal 2018 was $3.8 million, an increase of $0.6 million, or 20.0%, compared to selling, general and administrative expense of $3.1 million for Fiscal 2017. The increase was primarily attributable to the hiring of a full-time chief financial officer in August 2017 and additional personnel to support ALJ’s business, acquisition-related legal expenses to support our strategy of acquisitions, and an increase in non-cash stock-based compensation costs for key employees and board of directors.  Such increase was somewhat offset by allocating certain expenses, including accounting and tax preparation, to subsidiaries to better align expenses with ALJ’s consolidated reporting structure.  

 

Depreciation and Amortization

 

 

 

Year Ended September 30,

 

 

 

 

 

 

 

 

 

(in thousands)

 

2018

 

 

2017

 

 

$ Change

 

 

% Change

 

Faneuil

 

$

10,286

 

 

$

8,109

 

 

$

2,177

 

 

 

26.8

%

Carpets

 

 

861

 

 

 

737

 

 

 

124

 

 

 

16.8

 

Phoenix

 

 

2,479

 

 

 

2,521

 

 

 

(42

)

 

 

(1.7

)

Consolidated depreciation and amortization

   expense

 

$

13,626

 

 

$

11,367

 

 

$

2,259

 

 

 

19.9

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil Depreciation and Amortization

Faneuil depreciation and amortization expense for Fiscal 2018 was $10.3 million, an increase of $2.2 million, or 26.8%, compared to $8.1 million for Fiscal 2017.  The increase was mainly attributable to the CMO Business acquisition, and to a lesser extent capital equipment purchased to support new and expanded contracts.  Because each Faneuil contract requires capital investment and infrastructure such as lease buildouts, Faneuil depreciation and amortization expense is impacted by the timing of new contracts and the completion of existing contracts.  

Carpets Depreciation and Amortization

Carpets depreciation and amortization expense for Fiscal 2018 was $0.9 million, an increase of $0.1 million, or 16.8%, compared to $0.7 million for Fiscal 2017.  Carpets expects to experience an increase in depreciation and amortization expense as new automation machinery for its granite and stone facility is acquired.

Phoenix Depreciation and Amortization

Phoenix depreciation and amortization expense was $2.5 million for both Fiscal 2018 and Fiscal 2017.  The majority of Phoenix depreciation and amortization expense was included in the cost of revenue.

 

Interest Expense

Interest expense for Fiscal 2018 was $10.6 million, an increase of $0.8 million, or 8.4%, compared to interest expense of $9.7 million for Fiscal 2017.  The increase was attributable to the increased weighted-average outstanding balance on our line of credit to fund capital expenditures and working capital requirements, increased interest rates, $0.2 million increased amortization of deferred loan costs, and the $7.5 million increased borrowing on our term loan to acquire the Printing Components Business, partially offset by reduced interest resulting from principal payments.

Other Income

Other income for Fiscal 2017 related to a one-time derecognition of a liability for discontinued business operations, which management determined was no longer required.  

31


 

Income Taxes

We recognized a provision for income tax of $4.3 million for Fiscal 2018 compared to a benefit from income tax of $12.4 million for Fiscal 2017.  The effective tax rate during Fiscal 2018 compared to Fiscal 2017 was impacted by the reduced corporate income tax rates as part of the tax reform legislation enacted on December 22, 2017 (the “Tax Reform Law”).  As a result of the enacted reduction in the federal corporate income tax rate, we recorded a one-time, non-cash increase to deferred income tax expense of $4.1 million to revalue ALJ’s net deferred tax asset.  We recorded the provisional impacts of the Tax Reform Law, based on our current knowledge, interpretation, and understanding of the Tax Reform Law and its impact to our business.  While we were able to make reasonable estimates of the impact of certain aspects of the Tax Reform Law, we may be affected by other aspects, including, but not limited to, the state tax effect of adjustments made to federal temporary differences, and the interest expense deduction limitation.

We will continue to assess the impact of the Tax Reform Law on our future taxes and our consolidated financial statements. Actual impacts could be materially different from current estimates.  See “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 10. Income Taxes.”

Segment Adjusted EBITDA

 

 

 

Year Ended September 30,

 

 

 

 

 

 

 

 

 

(in thousands)

 

2018

 

 

2017

 

 

$ Change

 

 

% Change

 

Faneuil

 

$

13,127

 

 

$

13,110

 

 

$

17

 

 

 

0.1

%

Carpets

 

 

453

 

 

 

1,290

 

 

 

(837

)

 

 

(64.9

)

Phoenix

 

 

22,077

 

 

 

18,927

 

 

 

3,150

 

 

 

16.6

 

ALJ

 

 

(2,553

)

 

 

(2,326

)

 

 

(227

)

 

 

(9.8

)

Segment adjusted EBITDA

 

$

33,104

 

 

$

31,001

 

 

$

2,103

 

 

 

6.8

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Faneuil Segment Adjusted EBITDA

Faneuil segment adjusted EBITDA was $13.1 million for both Fiscal 2018 and Fiscal 2017.  Higher expenses related to new technology, training and call handling for the new CMO Business offset the increased net revenue recognized from the new CMO Business contracts.

Carpets Segment Adjusted EBITDA

Carpets segment adjusted EBITDA for Fiscal 2018 was $0.5 million compared to segment adjusted EBITDA of $1.3 million for Fiscal 2017.  Fiscal 2018 was impacted by lower revenue, and higher material, labor, and customer service expenses.

Phoenix Segment Adjusted EBITDA

Phoenix segment adjusted EBITDA for Fiscal 2018 was $22.1 million compared to segment adjusted EBITDA of $18.9 million for Fiscal 2017.  The increase was a result of the Printing Component Business acquisition somewhat offset by reduced net revenues in packaging.

ALJ Segment Adjusted EBITDA

ALJ segment adjusted EBITDA for Fiscal 2018 was $(2.6) million compared to segment adjusted EBITDA of $(2.3) million for Fiscal 2017.  Fiscal 2018 was impacted by the hiring of a full-time chief financial officer and other headcount to support ALJ’s business.  

Segment adjusted EBITDA is not considered a non-GAAP measure because we include segment adjusted EBITDA in our segment disclosures in accordance with the Accounting Standards Codification Topic 280 – Segment Reporting.  See “Part IV, Item 15. Exhibits, Financial Statements Schedules – Note 12. Reportable Segments and Geographic Information.”  

Seasonality

Faneuil

Faneuil experiences seasonality within its various lines of business. For example, during the end of the calendar year through the end of the first calendar quarter, Faneuil generally experiences higher revenue attributable to its healthcare customers as the customer contact centers increase operations during the open enrollment periods of the healthcare exchanges. Faneuil revenue from its healthcare customers generally decreases during the remaining portion of the year after the open enrollment period. Seasonality is less

32


 

pronounced with Faneuil customers in the transportation industry, though there is typically some volume increase during the summer months.

Carpets

Carpets generally experiences seasonality within the home building business as the number of houses sold during the winter months is typically lower than during other times of the year. Conversely, the number of houses sold and delivered during the remaining portion of the year increases in comparison.

Phoenix

There is seasonality to the Phoenix business. Education book component sales (school and college) traditionally peak in the first and second quarters of the calendar year. Other book components sales traditionally peak in the third quarter of the calendar year. Book sales also traditionally peak in the third quarter of the calendar year. The fourth quarter of the calendar year has traditionally has been the weakest quarter. These seasonal factors are not significant.  

Liquidity and Capital Resources

Our principal sources of liquidity have been cash provided by operations and borrowings under various debt arrangements.  At September 30, 2018, our principal sources of liquidity included cash and cash equivalents of $2.0 million and an available borrowing capacity of $14.4 million on our line of credit.  Our principal uses of cash have been for acquisitions and to pay down debt.  We anticipate that our principal uses of cash will continue to be to acquire businesses and pay down our debt.    

Global financial and credit markets have been volatile in recent years, and future adverse conditions of these markets could negatively affect our ability to secure funds or raise capital at a reasonable cost or at all.  For additional discussion of our various debt arrangements see Contractual Obligations below.    

In summary, our cash flows for each period were as follows:

 

 

 

Year Ended September 30,

 

(in thousands)

 

2018

 

 

2017

 

Cash provided by operating activities

 

$

17,762

 

 

$

25,233

 

Cash used for investing activities

 

 

(17,054

)

 

 

(17,173

)

Cash used for financing activities

 

 

(4,338

)

 

 

(7,709

)

Change in cash and cash equivalents

 

$

(3,630

)

 

$

351

 

 

We recognized a net loss of $7.3 million for Fiscal 2018, and generated cash from operating activities of $17.8 million, offset by cash used for investing and financing activities of $17.1 million and $4.3 million, respectively.

 

We recognized net income of $15.7 million for Fiscal 2017, and generated cash from operating activities of $25.2 million, offset by cash used for investing and financing activities of $17.2 million and $7.7 million, respectively.

 

Operating Activities

Cash provided by operations of $17.8 million during Fiscal 2018 was the result of our $7.3 million net loss, $27.8 million addback of net non-cash expenses, and $2.7 million of net cash used by changes in operating assets and liabilities.  The most significant components of net non-cash expenses were depreciation and amortization of $19.0 million, deferred income taxes of $3.4 million, litigation loss of $2.9 million, amortization of deferred loan costs of $1.3 million, and stock-based compensation of $1.1 million.  The most significant components of changes in operating assets and liabilities included inventories of $3.1 million and other assets of $2.0 million, which provided cash, and deferred revenue and customer deposits of $4.3 million, and accounts payable of $2.9 million, which used cash.  

Cash provided by operations of $25.2 million during Fiscal 2017 was the result of our $15.7 million net income, $5.9 million addback of net non-cash expenses, and $3.6 million of net cash provided by changes in operating assets and liabilities.  The most significant components of net non-cash expenses were depreciation and amortization of $16.6 million, stock-based compensation of $0.8 million and amortization of deferred loan costs of $1.1 million, offset by deferred income tax benefit of $12.5 million.  The most significant components of changes in operating assets and liabilities included prepaid expenses and other current assets of $1.4 million, accounts

33


 

payable of $1.8 million, and accrued expenses of $1.5 million, which provided cash, and accounts receivable of $1.9 million, which used cash.  

Investing Activities

During Fiscal 2018, our investing activities used $17.1 million of cash, of which $9.0 million was for our Printing Components Business acquisition, $5.9 million was used to purchase equipment, software and leasehold improvements for Faneuil’s new and existing customers, and $2.7 million was used to purchase capital equipment in the normal course of operations, partially offset by $0.5 million proceeds received from the sale of equipment.

During Fiscal 2017, our investing activities used $17.2 million of cash, mainly for the CMO Business acquisition and purchases of equipment, software and leasehold improvements, which used $8.0 million and $9.3 million, respectively, slightly offset by $0.2 million of proceeds from the sale of assets.  The majority of the capital expenditures were to support Faneuil new and existing customers, and purchase of production equipment by Phoenix.

 

Financing Activities

 

During Fiscal 2018, our financing activities used $4.3 million of cash.  Financing activities which used cash included $13.5 million to pay down our term loan, $2.8 million of capital lease payments, and $0.5 million for debt and stock issuance costs.  Proceeds from our line of credit and our amended term loan provided $3.2 million and $7.5 million, respectively (see further discussion at Contractual Obligations below).  Proceeds from the issuance of common stock and exercise of stock options provided $1.5 million and $0.3 million, respectively. Proceeds from the amended term loan and issuance of common stock were used to fund our Printing Components Business acquisition discussed above.

During Fiscal 2017, our financing activities used $7.7 million of cash, mainly for term-loan payments totaling $11.0 million and $2.3 million of capital lease payments, partially offset by an increase in our line of credit of $5.5 million, which was used to fund the CMO Business acquisition discussed above.

Contractual Obligations

The following table summarizes our significant contractual obligations at September 30, 2018, and the effect such obligations are expected to have on our liquidity and cash flows in future periods:

 

 

 

Payments due by Period

 

 

 

 

 

 

 

Less Than

 

 

One – Three

 

 

Four – Five

 

 

More than Five

 

(in thousands)

 

Total

 

 

One Year

 

 

Years

 

 

Years

 

 

Years

 

     Line of credit (1)

 

$

8,739

 

 

$

 

 

$

8,739

 

 

$

 

 

$

 

     Term loan payable (1)

 

 

84,974

 

 

 

9,470

 

 

 

75,504

 

 

 

 

 

 

 

     Operating lease obligations

 

 

36,027

 

 

 

5,881

 

 

 

11,328

 

 

 

2,695

 

 

 

16,123

 

     Leasehold improvements obligations (2)

 

 

3,500

 

 

 

3,500

 

 

 

 

 

 

 

 

 

 

     Capital lease obligations

 

 

7,336

 

 

 

2,909

 

 

 

3,765

 

 

 

496

 

 

 

166

 

     Other liabilities (3)

 

 

7,797

 

 

 

1,000

 

 

 

6,797

 

 

 

 

 

 

 

Total contractual cash obligations

 

$

148,373

 

 

$

22,760

 

 

$

106,133

 

 

$

3,191

 

 

$

16,289

 

 

(1)

In August 2015, ALJ entered into a financing agreement (“Financing Agreement”) with Cerberus Business Finance, LLC (“Cerberus”), to borrow $105.0 million in a term loan (“Cerberus Term Loan”) and have available up to $30.0 million in a revolving loan (“Cerberus/PNC Revolver”), collectively (“Cerberus Debt”).  As of September 30, 2018, ALJ had entered into three amendments to the Financing Agreement.  The Financing Agreement and the amendments thereto are summarized below (dollars in thousands):

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Description

 

Use of

Proceeds

 

Origination

Date

 

Interest

Rate *

 

Quarterly

Payments

 

 

Balance at

September 30, 2018

 

Term Loan:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing Agreement

 

Phoenix acquisition

 

August 2015

 

7.99% to 9.0%

 

$

1,969

 

 

$

70,670

 

First Amendment

 

Color Optics acquisition

 

July 2016

 

7.99% to 9.0%

 

 

187

 

 

 

7,698

 

Third Amendment

 

Printing Components Business acquisition

 

October 2017

 

7.99% to 9.0%

 

 

141

 

 

 

6,606

 

 

 

 

 

 

 

Totals

 

$

2,297

 

 

$

84,974

 

Line of Credit:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cerberus/PNC

  Revolver

 

Working capital

 

August 2015

 

7.99% to 11.0%

 

$

 

 

$

8,739

 

 

Interest payments are due in arrears on the first day of each month.  Quarterly principal payments are due on the last day of each fiscal quarter.  Annual principal payments equal to 75% of ALJ’s excess cash flow (“ECF”), as defined in the Financing Agreement, are due upon delivery of the audited financial statements.  During Fiscal 2018, ALJ made an ECF payment of $4.1 million, and mandatory payments totaling $0.2 million as a result of receiving proceeds from sales of assets.  A final balloon payment is due at maturity, August 14, 2020.  

 

The Cerberus Debt is secured by substantially all the Company’s assets and imposes certain limitations on the Company, including its ability to incur debt, grant liens, initiate certain investments, declare dividends and dispose of assets.  The Cerberus Debt also requires ALJ to comply with certain debt covenants.  As of September 30, 2018, ALJ was in compliance with all debt covenants and had unused borrowing capacity of $14.4 million.  

 

In November 2018, we entered into the Fourth Amendment to the Financing Agreement, which is not reflected in the above table.  For further discussion of the Fourth Amendment to the Financing Agreement, see “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 13.  Subsequent Events.”

 

(2)

At September 30, 2018, Faneuil had total liabilities and commitments of $9.6 million to buildout three new call centers.  $2.7 million was recorded to accrued liabilities, $3.4 million was recorded to other non-current liabilities, and $3.5 million was disclosed as a commitment.  

 

(3)

Amounts represent future cash payments to satisfy our short- and long-term workers’ compensation reserve and other long-term   liabilities.

Off-Balance Sheet Arrangements

As of September 30, 2018, we had two types of off-balance sheet arrangements.

Surety Bonds.  In the normal course of operations, certain Faneuil customers require surety bonds guaranteeing the performance of a contract.  As of September 30, 2018, the face value of such surety bonds, which represents the maximum cash payments that Faneuil would have to make under certain circumstances of non-performance, was approximately $29.6 million.

Letter of Credit.  Faneuil had a letter of credit for $2.6 million as of September 30, 2018.

Critical Accounting Estimates

The preparation of financial statements in accordance with U.S. generally accepted accounting principles (“GAAP”) requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net revenue and expenses during the reporting period. We regularly evaluate our estimates and assumptions related to the fair value of assets and liabilities, including intangible assets acquired and allocation of purchase price, useful lives, carrying value and recoverability of long-lived and intangible assets, the recoverability of goodwill, the realizability of deferred tax assets, stock-based compensation, the allowance for doubtful accounts and inventory reserves, and calculation of insurance reserves.  Certain accounting policies, as described below, are considered "critical accounting policies" because they are particularly dependent on estimates made by us about matters that are inherently uncertain and could have a material impact on our consolidated financial statements. We base our estimates and assumptions on current facts, historical experience and various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the recording of revenue, costs and expenses that are not readily apparent from other sources. The actual results experienced by us may differ materially and adversely from our estimates. To the extent there are material differences between our estimates and the actual results, our future results of operations will be affected.  A summary of all of our significant accounting policies is included in “Part IV, Item 15. Exhibits, Financial Statement Schedules – Note 2. Summary of Significant Accounting Policies.”

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We believe the following are critical accounting policies that require us to make significant estimates, assumptions or judgments:

 

Valuation and allocation of assets acquired and liabilities assumed in connection with business acquisitions;

 

Impairment of goodwill, long-lived assets, and intangible assets;

 

Recognition and measurement of current and deferred income taxes (including the measurement of uncertain tax positions and deferred tax assets);

 

Revenue recognition, including our allowance for bad debts;

 

Estimate of potential loss from litigation;

 

Workers’ compensation reserves; and

 

Share-based awards and related compensation.

Business Acquisitions

Accounting for acquisitions requires our management to estimate the fair value of the assets acquired and liabilities assumed, which involves a number of judgments, assumptions, and estimates that could materially affect the timing or amounts recognized in our financial statements. The items involving the most significant assumptions, estimates, and judgments include determining the fair value of the following:

 

-

Intangible assets, including valuation methodology, estimations of future cash flows, and discount rates, as well as the estimated useful life of the intangible assets;

 

-

Deferred tax assets and liabilities, uncertain tax positions, and tax-related valuation allowances, which are initially estimated as of the acquisition date;

 

-

Inventory; property, plant and equipment; pre-existing liabilities or legal claims; deferred revenue; and contingent consideration, each as may be applicable; and

 

-

Goodwill, as measured as the excess of consideration transferred over the net of the acquisition date fair values of the assets acquired and the liabilities assumed.

The goodwill and intangible assets acquired in business acquisitions are pushed down to the reporting segment that benefits from the business combination.

We use an independent valuation firm to assist with our valuation, and our assumptions and estimates are based upon comparable market data and information obtained from our management and the management of the acquired companies. While we use our best estimates and assumptions to accurately value assets acquired and liabilities assumed at the acquisition date, our estimates are inherently uncertain and subject to refinement. As a result, during the measurement period, which may be up to one year following the acquisition date, we record adjustments to the assets acquired and liabilities assumed with the corresponding offset to goodwill.

Long-Lived Asset Impairments

Property and Equipment

We assess property and equipment for impairment when events or changes in circumstances indicate that the carrying value of the assets may not be recoverable. Factors that we consider in deciding when to perform an impairment review include significant under-performance of a business or product line in relation to expectations, significant negative industry or economic trends, and significant changes or planned changes in our use of the assets. We measure the impairment by comparing the difference between the carrying value and its fair value. Property and equipment is considered a non-financial asset and is recorded at fair value only if an impairment charge is recognized.  When we determine that the useful lives of assets are shorter than we had originally estimated, we accelerate the rate of depreciation over the assets’ new, shorter useful lives.

36


 

Identified Intangibles

We make judgments about the recoverability of purchased finite-lived intangible assets whenever events or changes in circumstances indicate that an impairment may exist. Recoverability of finite-lived intangible assets is measured by comparing the carrying amount of the asset to the future undiscounted cash flows that the asset is expected to generate.

The assumptions and estimates used to determine future values and remaining useful lives of our intangible and other long-lived assets are complex and subjective. They can be affected by internal factors such as changes in our business strategy or external factors such as industry and economic trends.  

Goodwill

The application of the goodwill impairment test is considered a critical accounting estimate.  We perform an annual impairment assessment of goodwill in the fourth quarter of each fiscal year, or more frequently if indicators of potential impairment exist, which includes evaluating qualitative and quantitative factors to assess the likelihood of an impairment of goodwill.  Each of our subsidiaries has goodwill assigned, which is assessed independently.    

 

Qualitative factors considered in this assessment include industry and market considerations, overall financial performance, and other relevant events and factors affecting the subsidiary.   Additionally, as part of this assessment, we may perform a quantitative analysis to supplement and support the qualitative factors.  Although there were no specific qualitative indicators of impairment for our subsidiaries, we elected to perform a step 1 impairment test in the fourth quarter of Fiscal 2018.

 

Our goodwill impairment test considers both the income method and the market method to estimate fair value.  Determining the fair value of a reporting segment involves the use of significant estimates and assumptions.  The income method is based on a discounted future cash flow approach that uses the following major assumptions and inputs: revenue, based on assumed market segment growth rates and our assumed market segment share, and estimated costs.  Our estimates of market segment growth, our market segment share, and costs are based on historical data, various internal estimates, and a variety of external sources. The same estimates are also used in our business planning and forecasting process. We test the reasonableness of the inputs and outcomes of our discounted cash flow analysis against available comparable market data. The market method is based on financial multiples and transaction prices of comparable companies.  

 

Each of our subsidiaries were deemed to have fair values that exceeded their carrying value.

Income Taxes

We make estimates and judgments in determining the provision for taxes for financial statement purposes. These estimates and judgments occur in the calculation of tax credits, benefits, and deductions, and in the calculation of certain tax assets and liabilities that arise from differences in the timing of recognition of revenue and expense for tax and financial statement purposes, as well as the interest and penalties related to uncertain tax positions. Significant changes in these estimates may result in an increase or decrease in our tax provision in a subsequent period.

We must assess the likelihood that we will be able to recover our deferred tax assets. If recovery is not more likely than not, we must increase our provision for taxes by recording a valuation allowance against the deferred tax assets that we estimate will not ultimately be recoverable. We believe that we will ultimately recover the deferred tax assets recorded on our consolidated balance sheets. However, should a change occur in our ability to recover our deferred tax assets, our tax provision would increase in the period in which we determined that the recovery is not more likely than not. Recovery of a portion of our deferred tax assets is impacted by management’s plans with respect to holding or disposing of certain investments; therefore, changes in management’s plans with respect to holding or disposing of investments could affect our future provision for taxes.

At September 30, 2018, we had a $30.3 million deferred tax asset related to net operating loss (“NOL”) carryforwards, with a related valuation allowance of $17.7 million.  The valuation allowance was based on the weight of positive and negative evidence considered, including history of income or loss, projected future taxable income, availability of tax planning strategies and the expiration dates of these carryforwards.

37


 

We use a two-step process to recognize liabilities for uncertain tax positions. The first step is to evaluate the tax position for recognition by determining whether the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. If we determine that a tax position will more likely than not be sustained on audit, the second step requires us to estimate and measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. We consider many factors when evaluating and estimating our tax positions and tax benefits, which may require periodic adjustments and may not accurately forecast actual outcomes. Determining whether an uncertain tax position is effectively settled requires judgment. Such a change in recognition or measurement would result in the recognition of a tax benefit or an additional charge to the tax provision.

Revenue Recognition

We must make subjective estimates as to when our revenue is earned, the impact of pricing adjustments, and the collectability of our accounts receivable.

We recognize revenue from non-refundable up-front payments attributable to contract implementation over the longer of the initial term of the contract or the expected customer life, which is estimated at the time the initial contract is executed.

We record reductions to revenue for pricing adjustments, such as rebates, in the same period that the related revenue is recorded. We accrue 100% of potential rebates at the time of sale.   We reverse the accrual of unclaimed rebate amounts as specific rebate programs contractually end and when we believe unclaimed rebates are no longer subject to payment and will not be paid. Thus the reversal of unclaimed rebates may have a positive impact on our net revenue and net income in subsequent periods. Additional reductions to revenue will result if actual pricing adjustments exceed our estimates.

We establish an allowance for doubtful accounts to cover probable and estimable losses on our customer accounts receivable resulting from the failure of customers to make contractual payments.  A portion of our customer portfolio consists of a small number of relatively large accounts, which are individually evaluated for realizability.  These estimates have a direct impact on our net income because a higher bad debt allowance for a particular period would result in lower net income in that period.  

Potential Loss from Litigation

We are involved in disputes, litigation, and other legal proceedings. We prosecute and defend these matters aggressively. However, there are many uncertainties associated with any litigation, and we cannot provide assurance that these actions or other third-party claims against us will be resolved without costly litigation and/or substantial settlement costs.  We establish an accrual based on our estimate of the potential loss from litigation.  Our estimate has a direct impact on our net income because a higher accrual for a particular period would result in lower net income in that period.  

Workers’ Compensation Reserves

Our accrued self-insurance reserves represent the estimated costs of known and anticipated or unasserted claims under our workers’ compensation insurance policies. Accrued insurance provisions for unasserted claims arising from unreported incidents are based on an analysis of historical claims data using an independent actuarial analysis. For each unasserted claim, we record a self-insurance provision up to the estimated amount of the probable claim utilizing loss-development factors calculated by an actuary, applied to actual claims data. Our self-insurance provisions are susceptible to change to the extent that actual claims development differs from historical claims development. Historically, we have not experienced significant variability in our actuarial estimates for claims incurred but not reported.  Accrued insurance provisions for reported claims are evaluated by management each quarter.  Our assessment of whether a loss is probable and/or reasonably estimable is updated as necessary. Due to the inherently uncertain nature of workers’ compensation claims, the ultimate loss may differ materially from our estimates, which could directly impact our operating expense and net income.  

Share-Based Awards

The calculation of the fair value of share-based awards is subjective and requires several assumptions over such items as expected life and expected stock volatility. These assumptions have a direct impact on our net income because a higher share-based awards fair value would result in higher compensation expense and lower net income for a particular period.

38


 

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.  

We are a smaller reporting company as defined by Rule 12b-2 of the Securities Exchange Act of 1934 and are not required to provide the information under this item.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.  

The financial statements and supplementary data required by this item are included in “Part IV, Item 15. Exhibits, Financial Statement Schedules.”  

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.  

None.

 

ITEM 9A. CONTROLS AND PROCEDURES.  

Evaluation of Disclosure Controls and Procedures

Based on management’s evaluation (with the participation of our Executive Chairman and Chief Financial Officer (“CFO”)), as of the end of the period covered by this report, our Executive Chairman and CFO have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”)), are effective to provide reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in U.S. Securities and Exchange Commission (“SEC”) rules and forms, and is accumulated and communicated to management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.

Changes in Internal Control Over Financial Reporting

There were no changes to our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the fourth fiscal quarter for the year ended September 30, 2018, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Management Report on Internal Control Over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of consolidated financial statements for external purposes in accordance with U.S. generally accepted accounting principles (“GAAP”).

Management assessed our internal control over financial reporting as of September 30, 2018, the end of our fiscal year. Management based its assessment on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework). Management’s assessment included evaluation of elements such as the design and operating effectiveness of key financial reporting controls, process documentation, accounting policies, and our overall control environment.

Based on this assessment, management has concluded that our internal controls over financial reporting were effective as of September 30, 2018, and provide reasonable assurance regarding the reliability of financial reporting and the preparation of consolidated financial statements for external reporting purposes in accordance with GAAP. We reviewed the results of management’s assessment with the Audit Committee of our Board of Directors.

This Annual Report does not include an attestation report of our independent registered public accounting firm regarding internal control over financial reporting. Our report was not subject to attestation by our independent registered public accounting firm pursuant to the rules of the Securities and Exchange Commission that permit us to provide only management’s report in this report.

39


 

Inherent Limitations on Effectiveness of Controls

Our management, including our Executive Chairman and CFO, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well-designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. The design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Further, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, have been detected. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of the effectiveness of controls to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures.

ITEM 9B. OTHER INFORMATION.

None.

 

40


 

PART III

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE.

Directors and Executive Officers

The following table sets forth the names, ages, and principal offices and positions of our current directors and executive officers as of November 30, 2018.

 

Name

 

Age

 

Position

Jess M. Ravich

 

61

 

Director, Chairman of the Board, and Executive Chairman

Brian Hartman

 

48

 

Chief Financial Officer

Hal G. Byer

 

61

 

Director

Robert Scott Fritz

 

62

 

Director

Rae Ravich

 

27

 

Director

John Scheel

 

64

 

Director, Vice Chairman, and Chairman of Audit Committee

Anna Van Buren

 

60

 

Director, President and CEO of Faneuil

Michael Borofsky

 

46

 

Director, and Chairman of Compensation, Nominating and

   Corporate Governance Committee

Marc Reisch

 

63

 

Director, Chairman of Phoenix

Margarita Paláu Hernández

 

62

 

Director

The following is a brief summary of the backgrounds of the Company’s directors and executive officers.

Jess M. Ravich. Mr. Ravich has served as a director since June 2006 and Chairman of the Board of Directors since August 2006.  He has served as the Executive Chairman and senior executive officer of the Company since February 2013. Mr. Ravich joined The TCW Group as Group Managing Director in December 2012. From 2009 to 2012, Mr. Ravich was Managing Director at Houlihan Lokey.  In 1991 Mr. Ravich founded Libra Securities, LLC (“Libra Securities”), a Los Angeles-based investment banking firm that focused on capital raising and financial advisory services for middle-market corporate clients and the sales and trading of debt and equity securities for institutional investors, and served as its Chairman and Chief Executive Officer from 1991 until 2009.  Prior to founding Libra Securities, Mr. Ravich was an Executive Vice President at Jefferies & Co., Inc. and a Senior Vice President at Drexel Burnham Lambert.

Mr. Ravich has been a member of the board of directors of Cherokee Inc. (Nasdaq GS: CHKE) since May 1995 and served as its Chairman of the Board until June 2017.  Mr. Ravich has also served on the Board of Directors of A-Mark International since 2014 and Unwired Planet since November 2015. In addition to his professional responsibilities, Mr. Ravich has also served on the Undergraduate Executive Board of the Wharton School and the Board of Trustees of the Archer School for Girls. Mr. Ravich earned both a B.S and M.S. from the Wharton School and a J.D. from Harvard University.  Mr. Ravich is the father of Rae Ravich, a director of the Company.

Brian Hartman.  Mr. Hartman has served as Chief Financial Officer since August 2017.  Previously, Mr. Hartman was the Senior Vice President, Chief Financial Officer of Arcade Beauty, a manufacturer of sampling solutions for the beauty, fragrance and skincare segments, having served in such role since March 2012.  From April 2005 to March 2012, Mr. Hartman was the Vice President, Corporate Controller of Visant Corporation, a specialty printing and marketing services enterprise.  From January 1996 to April 2005, Mr. Hartman was the Controller for Metallurg Inc, a producer and distributor of specialty metals.  Prior to this, Mr. Hartman held various accounting and auditing positions at Witco Chemical Corp., a manufacturer of specialty chemicals and Deloitte & Touche, LLP.  Mr. Hartman is a certified public accountant and received a Bachelor of Business Administration degree in public accounting and a Master of Business Administration in financial management from Pace University.

Hal G. Byer. Mr. Byer has served as a director since January 2003. Mr. Byer joined Houlihan Lokey as a Senior Vice President in its Financial Sponsors Coverage Group in December 2009.   He was a director for Houlihan Lokey from 2011 to 2017 and a senior advisor during 2017 until his retirement in November 2017.  From May 2001 to November 2009, Mr. Byer was a Senior Vice President of Libra Securities, a broker-dealer registered with the SEC and an NASD member. From 1995 to 2003, Mr. Byer was Chief Executive Officer of Byer Distributing Co., a snack food distribution company. From 2000 to 2003, Mr. Byer was also the Chief Operating Officer of eGreatcause.com, an internet start-up involved in fundraising for charitable and non-profit organizations that is no longer active.

Robert Scott Fritz. Mr. Fritz has served as a director since January 2003. Since May 1982, Mr. Fritz has served as the President of Robert Fritz and Sons Sales Company, a New Jersey-based food broker and paper distributor that he owns.  Mr. Fritz earned a B.S. in Business from Fairleigh Dickinson University.

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Rae Ravich. Ms. Ravich has served as a director since June 2014. Ms. Ravich is currently the founder of a startup engaged in the health and wellness space, which she founded in July 2016.  From July 2013 until June 2016, Ms. Ravich was an Associate in the direct lending group at TCW Financial Planning LLC. Previously, Ms. Ravich was a Financial Analyst at Houlihan Lokey, which she joined in July 2013. Ms. Ravich has dual B.S. degrees from the Wharton School and the Nursing School at the University of Pennsylvania. Ms. Ravich is the daughter of Jess Ravich, ALJ’s Executive Chairman.

John Scheel. Mr. Scheel has served as a director since September 2006 and our Vice Chairman since December 2016. From August 2006 to February 2013, Mr. Scheel was the President and Chief Executive Officer of the Company. Mr. Scheel is a principal of, and also currently serves as the Chief Operating Officer, of Pinnacle Steel.  He served as the plant manager for the Company’s former subsidiary Kentucky Electric Steel’s (“KES”) steel mini-mill in Ashland, Kentucky (the “Mill”) and managed the operations of KES on our behalf from January 2004 until its sale in February 2013 to Optima Specialty Steel (“Optima”).  Following such sale, Mr. Scheel not only continued to manage the Mill for Optima as its general manager, but also managed the melt shop and caster for Warren Steel Holdings EAF in Warren, Ohio, which was also managed by Optima. Prior to joining Pinnacle Steel, Mr. Scheel held various positions of increased responsibility at AK Steel, Nucor Corporation, and Birmingham Steel Management. Mr. Scheel holds both B.S. and M.S. degrees in Metallurgical Engineering from Purdue University and a Master of Business Administration in Finance and International Business from Xavier University.

Anna Van Buren. Ms. Van Buren has served as a director since November 2013. Ms. Van Buren was appointed President and Chief Executive Officer of Faneuil in April 2009, after previously serving as President and Chief Operating Officer from 2007 to 2009, as Vice President and Managing Director of Faneuil’s Government Services Division from 2005 to 2007, and as Vice President of Business Development from 2004 to 2005. Prior to her association with Faneuil, Ms. Van Buren founded Capital Initiatives, a consulting service for clients seeking visibility among federal lawmakers with the objective of encouraging legislative action, and operated numerous government services and marketing companies. Ms. Van Buren has served in leadership roles for many civic and business organizations including chairmanship of the United Way of the Virginia Peninsula, the Peninsula Chamber of Commerce and the NASA Aeronautics Support Team. She is the recipient of numerous awards including the Women in Business Achievement Award by Inside Business Magazine, the Presidential Citizenship Award from Hampton University and the NCCJ Humanitarian Award. Ms. Van Buren holds a degree from Hollins University and the University of Virginia Executive School.

Michael Borofsky. Mr. Borofsky has served as a director since September 2013.  Mr. Borofsky was formerly Senior Vice President of MacAndrews & Forbes. Prior to that, Mr. Borofsky worked for Skadden, Arps, Slate, Meagher & Flom LLP, where he specialized in mergers & acquisitions, and was an analyst at Goldman Sachs. Mr. Borofsky earned a B.A. from Yale University and a J.D. from Columbia University School of Law.

Marc Reisch. Mr. Reisch was appointed Chairman of Phoenix in August 2015 and has served as a director of the Company since that time. Mr. Reisch served as Chairman of the Board, Chief Executive Officer and President of Visant and Visant Holding Corp. from October 2004 to November 2015. Prior to joining Visant, he served as Senior Advisor to Kohlberg Kravis Roberts & Co. and has over 35 years of experience in the printing and publishing industries. Mr. Reisch holds a Bachelor of Science degree and a Master of Business Administration degree from Cornell University.

Margarita Paláu Hernández. Ms. Paláu Hernández has served as a director since November 2015. Ms. Paláu Hernández is a Principal and Founding Partner of Hernández Ventures, a privately held entity engaged in the acquisition and management of a variety of business interests. She has served in this capacity since 1988. Prior to founding Hernández Ventures, Ms. Paláu Hernández was an attorney with the law firm of McCutcheon, Black, Verleger & Shea, where she focused on domestic and international business and real estate transactions. Ms. Paláu Hernández has a B.A. from the University of San Diego and a J.D. from UCLA School of Law.

Other Key Employees

Steve Chesin. Mr. Chesin has served as the Chief Executive Officer of Carpets since August 2007. From 2002 to 2007, Mr. Chesin served as the Executive Vice President of Carpets. From 1995 to 2001, Mr. Chesin served as the Senior Vice President and the Chief Operating Officer of Carpet Barn Inc., a subsidiary of Nations Flooring Inc. Mr. Chesin attended University of Nevada, Las Vegas.

Involvement in Certain Legal Proceedings

To the best of our knowledge, none of our directors or officers has had a determination during the past ten years in any legal proceedings listed in Item 401(f) of Regulation S-K that may bear on his or her ability or integrity to serve as a director or officer of the Company.

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Section 16(a) Beneficial Ownership Reporting Compliance

Section 16(a) of the Securities Exchange Act of 1934 requires our directors and executive officers, as well as persons who own more than 10% of a registered class of our equity securities, to file with the SEC initial reports of ownership and reports of changes in beneficial ownership. Directors, executive officers, and greater than 10% shareholders are required by SEC regulations to furnish us with copies of all Section 16(a) forms they file. Based solely on a review of copies of Section 16(a) reports and representations received by us from reporting persons, and without conducting any independent investigation of our own, we believe all Forms 3, 4 and 5 were timely filed with the SEC by such reporting persons during the year ended September 30, 2018.

Code of Business Conduct and Ethics

Our Board of Directors adopted a Code of Business Conduct and Ethics (“Ethics Code”), which is applicable to all employees of ALJ, ALJ subsidiaries, and members of our Board of Directors.  

The Ethics Code addresses, among other things, honesty and ethical conduct, conflicts of interest, compliance with laws and regulations, policies related to disclosure requirements under federal securities laws, confidentiality, trading on insider information, and reporting violations of the Ethics Code.  Any amendment to our Ethics Code, or waiver thereof, applicable to our principal executive officer, principal financial officer, directors, or persons performing similar functions will be disclosed on our website within five days of the date of such amendment or waiver. In the case of a waiver, the nature of the waiver, the name of the person to whom the waiver was granted and the date of the waiver will also be disclosed.

Our Ethics Code can be found in the Investor Relations section of the Company’s website, www.aljregionalholdings.com, and is filed as Exhibit 14.1 to this Form 10-K.  In addition, a printed copy of our Ethics Code can be requested by writing our Chief Financial Officer at 244 Madison Avenue, PMB #358, New York, NY 10016.

Committees of the Board of Directors

The Board of Directors has a standing audit committee (“Audit Committee”) and compensation, nominating, and corporate governance committee (“Compensation, Nominating, and Corporate Governance Committee”). The composition and responsibilities of each committee are described below. Members serve on these committees until their resignation or until otherwise determined by the Board of Directors.

The Board of Directors has determined that all members of both committees are independent under the applicable rules and regulations of NASDAQ and the SEC as currently in effect.  The Audit Committee and the Compensation, Nominating, and Corporate Governance Committee each operate under a written charter approved by the Board of Directors. Each committee will review and reassess the adequacy of its charter periodically. The charters of both committees are available in the Investor Relations section of the Company’s website, www.aljregionalholdings.com.

The following chart details the current membership of each committee:

 

Name of Director

 

Audit Committee

 

Compensation, Nominating and Corporate Governance Committee

Michael Borofsky

 

Member

 

Chair

Hal G. Byer

 

 

 

Member

Robert Scott Fritz

 

Member

 

 

Margarita Paláu Hernández

 

 

 

Member

John Scheel

 

Chair

 

 

Audit Committee

Our Audit Committee consists of Messrs. Scheel, Borofsky and Fritz, with Mr. Scheel chairing this committee. All members of our Audit Committee are independent directors and meet the requirements for financial literacy as defined by SEC guidelines. Our Board of Directors has determined that Mr. Scheel is an “audit committee financial expert” as defined by SEC guidelines.  

The Audit Committee’s responsibilities include, among other responsibilities:

 

appointing, approving the compensation of, and assessing the independence of our independent registered public accounting firm;

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pre-approving audit and permissible non-audit services, and the terms of such services, to be provided by our independent registered public accounting firm;

 

reviewing and discussing with management and the independent registered public accounting firm our annual and quarterly financial statements and related disclosures;

 

coordinating the oversight and reviewing the adequacy of our internal control over financial reporting;

 

establishing policies and procedures for the receipt and retention of accounting-related complaints and concerns; and

 

preparing the audit committee report required by SEC rules to be included in our annual proxy statement.

Compensation, Nominating, and Corporate Governance Committee

Our Compensation, Nominating, and Corporate Governance Committee consists of Messrs. Borofsky and Byer and Ms. Paláu Hernández, with Mr. Borofsky chairing this committee. All members of this committee meet the requirements for independence under the applicable rules and regulations of the SEC, NASDAQ, and the Code, as amended, including the application of such rules and regulations to members of a listed company’s compensation committee.

The Compensation, Nominating, and Corporate Governance Committee’s responsibilities include:

 

reviewing and approving corporate goals and objectives relevant to compensation of our executive chairman;

 

evaluating the performance of our executive chairman in light of such corporate goals and objectives and determining the compensation of our chief executive officer;

 

determining the compensation of all our other officers and reviewing the aggregate amount of compensation payable to such officers periodically;

 

developing and making recommendations to the Board of Directors with respect to succession plans for our executive chairman and other key officers;

 

overseeing and making recommendations to the Board of Directors with respect to our incentive-based compensation and equity plans;

 

reviewing and making recommendations to the Board of Directors with respect to director compensation;

 

developing and recommending to the Board of Directors the criteria for selecting board and committee membership;

 

establishing procedures for identifying and evaluating director candidates including nominees recommended by stockholders;

 

identifying individuals qualified to become board members;

 

recommending to the Board of Directors the persons to be nominated for election as directors and to each of the Board’s committees;

 

overseeing the evaluation of the Board of Directors, its committees, and management;

 

reviewing and accessing the adequacy of our policies and practices in corporate governance, and recommending any proposed changes to the Board of Directors for approval; and

 

reviewing and accessing the adequacy of our code of ethics for selected executives and other internal policies and guidelines, and monitor that the principles described therein are incorporated into our culture and business practices.

There have been no material changes to the procedures by which shareholders may nominate nominees to our Board of Directors during the year ended September 30, 2018.  

 

 

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ITEM 11. EXECUTIVE COMPENSATION.

Summary Compensation

Our executive compensation program, consisting of a three-part compensation strategy that includes base salary, annual discretionary cash bonuses, and equity incentive compensation, is designed to (i) pay for performance to encourage both Company and individual achievement; (ii) encourage efficient use of shareholder resources; and (iii) provide market competitive compensation to attract and retain highly qualified individuals who are capable of making significant contributions to the long-term success of the Company.

We do not adopt express formulae for weighting different elements of compensation or for allocating between long-term and short-term compensation but strive to develop comprehensive packages that are competitive with those offered by other companies with which we compete to attract and retain talented executives. Under our compensation practices, cash compensation consists of an annual base salary and discretionary bonuses.  Equity-based compensation is primarily stock options.

The following table sets forth, for the years indicated, all compensation awarded to, paid to or earned by each of our named executive officers and certain other key employees.

SUMMARY COMPENSATION TABLE

 

Name and Principal Position

 

Year

 

Salary

 

 

Bonus

 

 

Stock

Awards (1)

 

 

Option

Awards (2)

 

 

Non-equity

Incentive Plan

Compensation

 

 

All Other

Compensation

 

 

Total

 

Named Executive Officers:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Jess M. Ravich

 

2018

 

$

 

 

$

 

 

$

225,000

 

(3)

$

 

 

$

 

 

$

 

 

$

225,000

 

Executive Chairman

 

2017

 

 

93,750

 

 

 

 

 

 

131,250

 

(3)

 

 

 

 

 

 

 

 

 

 

225,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Anna Van Buren

 

2018

 

 

520,000

 

 

 

 

 

 

 

 

 

 

 

 

330,380

 

(5)

 

31,147

 

(6)

 

881,527

 

President and CEO, Faneuil

 

2017

 

 

520,000

 

 

 

 

 

 

 

 

 

244,196

 

(4)

 

798,872

 

(5)

 

30,463

 

(6)

 

1,593,531

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Brian Hartman

 

2018

 

 

307,222

 

 

 

191,000

 

(9)

 

 

 

 

161,659

 

(11)

 

 

 

 

 

 

 

659,881

 

Chief Financial Officer

 

2017

 

 

45,769

 

(8)

 

175,000

 

(10)

 

 

 

 

239,063

 

(12)

 

 

 

 

 

 

 

459,832

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other Key Employees:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Marc Reisch

 

2018

 

 

200,000

 

 

 

 

 

 

 

 

 

 

 

 

294,442

 

(7)

 

 

 

 

494,442

 

Chairman, Phoenix

 

2017

 

 

200,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

200,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Steve Chesin

 

2018

 

 

300,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

46,582

 

(13)

 

346,582

 

President and CEO, Carpets

 

2017

 

 

300,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

75,220

 

(14)

 

375,220

 

 

 

(1)

This column represents the aggregate fair value of common stock awards calculated in accordance with Accounting Standards Codification (“ASC”) Topic 718, “Compensation – Stock Compensation” (“ASC Topic 718”). Fair value is the closing price of the common stock as listed on the NASDAQ Global Market on the issuance date.  

(2)

This column represents the aggregate grant date fair value of option awards calculated in accordance with ASC Topic 718.  Assumptions used in the calculation of this amount are included in Note 2Summary of Significant Accounting Policies, of the Consolidated Financial Statements in “Part IV, Item 15. Exhibits, Financial Statement Schedules.”

(3)

Represents the aggregate fair value of common stock earned as ALJ’s Executive Chairman.

(4)

Represents an option to purchase 150,000 shares of ALJ common stock at an exercise price of $3.33 per share.  Options vest in three equal annual installments on August 11, 2018, August 11, 2019, and August 11, 2020.  

(5)

Represents an annual bonus amount equal to 10% of Faneuil EBITDA, before any bonus amount owed to Ms. Van Buren, in excess of $5.0 million in calendar 2016, $6.25 million in calendar 2017, and $7.5 million in calendar 2018.  Ms. Van Buren’s bonus is based on a calendar year.  The amounts included in the table above are estimates based on ALJ fiscal year and are subject to adjustments.  

(6)

Represents health care insurance premiums.

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(7)

Represents an annual bonus amount equal to 10% of Phoenix pre-bonus EBITDA, in excess of $20.0 million, with a step down to 5% in excess of $27.0 million.  Mr. Reisch’s bonus is based on a calendar year.  The amounts included in the table above are estimates based on ALJ’s fiscal year and are subject to adjustments.  

(8)

Mr. Hartman’s base salary from his hire date, August 8, 2017, through September 30, 2017.

(9)

Represents performance bonus.

(10)

Includes $75,000 sign-on bonus and $100,000 performance bonus.

(11)

Represents an option to purchase 150,000 shares of ALJ common stock at an exercise price of $2.10 per share.  Options vest in three equal annual installments on August 8, 2019, August 8, 2020, and August 8, 2021.

(12)

Represents an option to purchase 150,000 shares of ALJ’s common stock at an exercise price of $3.26 per share.  Options vest in three equal annual installments on August 8, 2018, August 8, 2019, and August 8, 2020.

(13)

Represents health care insurance premiums of $3,848, personal time off payouts of $28,248, and car lease payments and other of $14,486.  

(14)

Represents health care insurance premiums of $11,443, personal time off payouts of $48,133, and car lease payments and other of $15,644.

Employment Arrangements with Named Executive Officers and Other Key Employees

Named Executive Officers

Jess Ravich. Mr. Ravich has served as our Executive Chairman since February 2013.  During the last two fiscal years, Mr. Ravich has received total annual compensation of $225,000.  From October 2015, through June 2017, Mr. Ravich elected to receive $125,000 in cash and $100,000 in common stock.  Effective July 2017, Mr. Ravich elected to receive his entire annual compensation of $225,000 in common stock.  

Anna Van Buren. In October 2013, concurrent with ALJ’s acquisition of Faneuil, Faneuil entered into an employment agreement with Ms. Van Buren through December 2018. In August 2017, Faneuil and Ms. Van Buren entered into an amended employment agreement (the “Van Buren Amended Employment Agreement”), which extended the term to December 2021.  Pursuant to the Van Buren Amended Employment Agreement, Ms. Van Buren receives an annual base salary of $520,000 and is eligible to earn an incentive bonus equal to 10% of Faneuil EBITDA, as defined in the Van Buren Amended Employment Agreement, before any bonus amount owed to Ms. Van Buren, in excess of $6,250,000 for calendar year 2017 and $7,500,000 thereafter, subject to further adjustment by ALJ Compensation, Nominating and Corporate Governance Committee from time to time in its discretion, with a step down to 5% of pre-bonus Faneuil EBITDA at $2,000,000 total compensation.

As of September 30, 2018, if Ms. Van Buren’s employment is terminated by Faneuil without cause, or by Ms. Van Buren for good reason, Ms. Van Buren is entitled to receive: (i) the lesser of one-year base salary or pro-rated base salary for the remaining term; (ii) continuation of group health plan benefits, with the cost of the regular premium for such benefits paid in full by Faneuil; (iii) full annual bonus for the year of termination if otherwise entitled to receive the bonus; and (iv) the annual bonus for the previous year if such bonus has been earned but not yet paid at time of termination.

Brian Hartman.   In connection with ALJ’s appointment of Mr. Hartman to serve as its Chief Financial Officer in August 2017, ALJ entered into an employment agreement with Mr. Hartman through August 2018, subject to one-year renewals.  Pursuant to the employment agreement, Mr. Hartman received an annual base salary of $300,000, a one-time sign-on bonus of $75,000, a cash bonus of $100,000 for the calendar year 2017, and an individual bonus target of 50% of annual base salary effective January 2018.    

In August 2018, ALJ and Mr. Hartman entered into the First Amended and Restated Employment Agreement, which (i) extended the term through August 2019, subject to further one-year renewals; (ii) increased the base salary to $350,000; and (iii) amended the bonus to add a target of up to 25% of annual base salary based on the achievement of performance goals set by the Compensation, Nominating and Corporate Governance Committee with regards to the performance of Carpets.  

As of September 30, 2018, if Mr. Hartman’s employment is terminated by ALJ without cause, or by Mr. Hartman for good reason, Mr. Hartman is entitled to receive: (i) one year of base salary; (ii) continuation of group health plan benefits with the cost of the regular premium for such benefits shared in the same relative proportion by ALJ and Mr. Hartman as in effect on the date of termination; (iii) full annual bonus for the year of termination if otherwise entitled to receive the bonus; and (iv) the annual bonus for the previous year if such bonus has been earned but not yet paid at time of termination.

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Other Key Employees

Marc Reisch.  In August 2015, concurrent with ALJ’s acquisition of Phoenix, Phoenix entered into an employment agreement with Mr. Reisch through December 2018. In March 2018, Phoenix entered into a new employment agreement with Mr. Reisch (the “New Reisch Employment Agreement”), which superseded and terminated the August 2015 employment agreement, and extended the term to December 2021.  Under the New Reisch Employment Agreement, Mr. Reisch receives an annual base salary of $200,000 and is eligible to earn an annual bonus equal to 10% of any pre-bonus EBITDA of Phoenix in excess of $20,000,000, with a step down to 5% of any pre-bonus EBITDA of Phoenix in excess of $27,000,000, in each case before any bonus amount owed to Mr. Reisch and the Chief Operating Officer of Phoenix.  In the event of a material restatement, revision, or change to Phoenix’s financial statements requiring a recalculation of EBITDA for any particular fiscal year, the Compensation, Nominating and Corporate Governance Committee of ALJ may require reimbursement from Mr. Reisch of any excess bonus paid to Mr. Reisch as a result of the recalculated EBITDA for such particular fiscal year.  

As of September 30, 2018, if Mr. Reisch’s employment is terminated by Phoenix without cause, or by Mr. Reisch for good reason, Mr. Reisch is entitled to receive, for each calendar year remaining during the employment term, an annual bonus calculated and paid in the same manner as if Mr. Reisch’s employment had continued.  

Steve Chesin.  During April 2014, concurrent with ALJ’s acquisition of Carpets, Carpets entered into an employment agreement with Mr. Chesin through December 2017. In December 2017, Carpets and Mr. Chesin entered into an amended employment agreement (the “New Chesin Employment Agreement”), which extended the term to January 2019. Under the New Chesin Employment Agreement, Mr. Chesin receives an annual base salary of $300,000 and is eligible to earn an annual bonus equal to the sum of (i) 5% of any pre-bonus EBITDA of Carpets in excess of $1,500,000 and less than $5,000,000, and (ii) 2.5% of any pre-bonus EBITDA of Carpets in excess of $5,000,000.

As of September 30, 2018, if Mr. Chesin’s employment is terminated by Carpets without cause, or by Mr. Chesin for good reason, Mr. Chesin is entitled to receive: (i) one year of base salary paid in 12 equal installments; (ii) continuation of group health plan benefits, with the cost of the regular premium for such benefits paid in full Carpets; (iii) full annual bonus for the year of termination if otherwise entitled to receive the bonus; and (iv) the annual bonus for the previous year if such bonus has been earned but not yet paid at time of termination.

Outstanding Equity Awards at Fiscal Year End

The following table sets forth certain information regarding outstanding equity awards at September 30, 2018, by the named executive officers and other key employees. 

OUTSTANDING EQUITY AWARDS TABLE

 

 

 

Option Awards

Name

 

Option

Grant Date

 

Number of

Securities

Underlying

Unexercised

Options (#)

Exercisable

 

 

Number of

Securities

Underlying

Unexercised

Options (#)

Unexercisable

 

 

Equity Incentive Plan Awards: Total

Number of

Securities

Underlying

Unexercised

Options (#)

 

 

Option

Exercise Price ($)

 

 

Option

Expiration Date

Named Executive Officers:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Jess M. Ravich, Executive Chairman

 

8/3/2015

 

 

350,000

 

 

 

 

 

 

350,000

 

 

 

4.00

 

 

8/3/2022

Anna Van Buren, President and CEO, Faneuil

 

8/11/2017

 

 

50,000

 

 

 

100,000

 

(1)

 

150,000

 

 

 

3.33

 

 

8/9/2027

Brian Hartman, Chief Financial Officer

 

8/8/2017

 

 

50,000

 

 

 

100,000

 

(2)

 

150,000

 

 

 

3.26

 

 

8/8/2027

 

 

8/9/2018

 

 

 

 

 

150,000

 

(3)

 

150,000

 

 

 

2.10

 

 

8/9/2028

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other Key Employees:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Marc Reisch, Chairman, Phoenix

 

8/14/2015

 

 

166,667

 

 

 

83,333

 

(4)

 

250,000

 

 

 

4.27

 

 

8/13/2025

Steve Chesin, President and CEO, Carpets

 

12/7/2017

 

 

 

 

 

10,000

 

(5)

 

10,000

 

 

 

3.21

 

 

12/7/2027

 

(1)

Vests in two equal annual installments on August 11, 2019 and August 11, 2020.  

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(2)

Vests in two equal annual installments on August 8, 2019 and August 8, 2020.

(3)

Vests in three equal annual installments on August 9, 2019, August 9, 2020, and August 9, 2021.

(4)

Vested on October 1, 2018.

(5)

Vests in three equal annual installments on December 7, 2018, December 7, 2019, and December 7, 2020.

Director Compensation

The following table sets forth the total compensation paid or accrued by ALJ to the named directors for services rendered during the year ended September 30, 2018:

DIRECTOR COMPENSATION TABLE

 

Name

 

Fees Earned or

Paid in Cash

 

 

Stock

Awards

 

 

Option

Awards

 

 

Non-Equity

Incentive

Compensation

 

 

Nonqualified

Deferred

Compensation

on Earnings

 

 

All Other

Compensation

 

 

Total

 

Hal G. Byer

 

$

84,000

 

 

$

 

 

$

 

 

$

 

 

$

 

 

$

 

 

$

84,000

 

Robert Scott Fritz

 

 

61,250

 

 

 

23,750

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

85,000

 

Rae Ravich

 

 

55,000

 

 

 

25,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

80,000

 

John Scheel

 

 

52,500

 

 

 

40,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

92,500

 

Michael Borofsky

 

 

55,000

 

 

 

40,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

95,000

 

Margarita Paláu Hernández

 

 

44,000

 

 

 

40,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

84,000

 

 

In December 2015, the Board of Directors approved an outside director compensation package comprised of (i) an annual retainer of $40,000 in cash, (ii) an annual grant of common stock with a value of $40,000, (iii) an additional $12,500 for the chair and $5,000 for each other member of the Audit Committee, and (iv) an additional $10,000 for the chair and $4,000 for each other member of the Compensation, Nominating, and Corporate Governance Committee.  Effective July 1, 2017, each outside director was given the option of how to allocate the payment between cash and common stock. Director who are employees do not receive any additional compensation for their service on the Board of Directors.

Report on Repricing of Stock Options

We did not re-price any stock options during the year ended September 30, 2018.  

 

48


 

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.

The following table sets forth, as of November 30, 2018, information regarding the beneficial ownership of our common stock based upon the most recent information available to us for: (i) each person known by us to own beneficially more than five (5%) percent of our outstanding common stock; (ii) each of our named executive officers, directors, and other key employees; and (iii) all of our named executive officers, directors, and other key employees as a group.  Unless otherwise indicated, each stockholder listed below has sole voting and investment power with respect to the shares beneficially owned by them and has the following address: c/o ALJ Regional Holdings, Inc., 244 Madison Avenue, PMB #358, New York, NY 10016.  As of November 30, 2018, there were 38,026,435 shares of our common stock outstanding, which was the only class of voting securities outstanding.

 

Name and Address of Beneficial Owner

 

Number of Common Shares Beneficially Owned (1)

 

 

Percentage of Common Shares Beneficially Owned

 

Named Executive Officers and Directors:

 

 

 

 

 

 

 

 

Jess Ravich, Executive Chairman and Chairman of the Board

 

 

14,503,410

 

(2)

 

37.7

%

Anna Van Buren, Director

 

 

1,565,021

 

(3)

 

4.1

%

c/o Faneuil, Inc.

 

 

 

 

 

 

 

 

2 Eaton Street, Suite 1002

 

 

 

 

 

 

 

 

Hampton, VA 23669

 

 

 

 

 

 

 

 

John Scheel, Director and Vice Chairman of the Board

 

 

858,811

 

 

 

2.3

%

Marc Reisch, Director and Chairman, Phoenix

 

 

750,000

 

(4)

 

2.0

%

c/o Phoenix Color Corp.

 

 

 

 

 

 

 

 

16th Floor, 350 7th Ave

 

 

 

 

 

 

 

 

New York, NY 10001

 

 

 

 

 

 

 

 

Robert Scott Fritz, Director

 

 

646,011

 

(5)

 

1.7

%

Hal G. Byer, Director

 

 

164,684

 

(6)

*

 

Rae G. Ravich, Director

 

 

137,890

 

(7)

*

 

Margarita Paláu Hernández, Director

 

 

87,923

 

(8)

*

 

Brian Hartman, Chief Financial Officer

 

 

50,000

 

(3)

*

 

Michael C. Borofsky, Director

 

 

47,598

 

 

*

 

Other Key Employees:

 

 

 

 

 

 

 

 

Steve Chesin, Chief Executive Officer, Carpets

 

 

153,333

 

(9)

*

 

c/o Carpets N’ More

 

 

 

 

 

 

 

 

4580 West Teco Avenue

 

 

 

 

 

 

 

 

Las Vegas, NV 89118

 

 

 

 

 

 

 

 

All Directors and Executive Officers as a Group

 

 

18,964,681

 

(10)

 

48.6

%

5% Stockholders:

 

 

 

 

 

 

 

 

Harland Clarke Holdings Corp.

 

 

3,000,000

 

 

 

8.7

%

10931 Laureate Drive

 

 

 

 

 

 

 

 

San Antonio, Texas 78249

 

 

 

 

 

 

 

 

 

*

Less than 1%.

(1)

Consistent with SEC regulations, shares of common stock issuable upon exercise of derivative securities by their terms exercisable within 60 days of November 30, 2018, are deemed outstanding for purposes of computing the percentage ownership of the person holding such securities but are not deemed outstanding for computing the percentage ownership of any other person. Unless otherwise indicated below, to the knowledge of the Company, the persons and entities named in this table have sole voting and sole investment power with respect to all shares beneficially owned, subject to community property laws where applicable.

(2)

Includes 4,853,804 shares held by the Exemption Trust under the Ravich Revocable Trust of 1989 and 350,000 shares of common stock issuable upon exercise of currently vested options.  

(3)

Includes 50,000 shares of common stock issuable upon exercise of currently vested options.

(4)

Includes 250,000 shares of common stock issuable upon exercise of currently vested options.

49


 

(5)

Includes 431,088 shares held by The Ravich Children Permanent Trust, for which Mr. Fritz is the sole trustee. Mr. Fritz disclaims all economic ownership of such shares.

(6)

Includes 134,000 shares of common stock issuable upon exercise of currently vested options and 10,014 restricted shares held by the Hal Byer and Marihelene Byer Revocable Trust.

(7)

Includes 100,000 shares of common stock issuable upon exercise of currently vested options.

(8)

Includes 50,000 shares of common stock held by the Hernandez Family Trust, dated February 11, 1993.

(9)

Includes 3,333 shares of common stock issuable upon exercise of options that vest within 60 days from the date hereof.

(10)

Includes 937,333 shares of common stock issuable upon the exercise of options that are either vested or will vest within 60 days from the date hereof.

Securities Authorized for Issuance under Equity Compensation Plans

For information regarding securities authorized for issuance under Equity Compensation Plans and the equity compensation plan information table see “Part II, Item 5. Market for Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.”

Changes in Control

We are not aware of any arrangements that may result in a change in control of the Company.

ITEM 13. CERTAIN RELATIONSHIPS RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.

Certain Relationships and Related Transactions

During the years ended September 30, 2018 and 2017, we entered into the following transaction required to be reported under Item 404 of Regulation S-K (“Item 404”):

Harland Clarke Holdings Corp. (“Harland Clarke”), a stockholder who owns ALJ shares in excess of five percent, is a counterparty to Faneuil in two contracts.  One contract provides call center services to support Harland Clarke’s banking-related products and renews annually every April. The other contract provided managed print services and concluded September 30, 2018. Faneuil recognized revenue from Harland Clarke totaling $0.3 million and $1.0 million for the years ended September 30, 2018 and 2017, respectively. The associated cost of revenue was $0.3 million and $0.9 million for the years ended September 30, 2018 and 2017, respectively. All revenue from Harland Clarke contained similar terms and conditions as for other transactions of this nature entered into by ALJ.  Total accounts receivable from Harland Clarke was less than $0.1 million and $0.1 million at September 30, 2018 and 2017, respectively.

 

On November 28, 2018, in connection with the Fourth Amendment, the Company entered into a Backstop Letter Agreement with Jess Ravich, the Company’s Chairman and Chief Executive Officer. Pursuant to the Backstop Letter Agreement, Mr. Ravich will provide a “backstop” that would enable the Company to satisfy the Alternative Financing Requirement by agreeing, if the Company is unable to locate alternative financing on terms, conditions and timing reasonably acceptable to it, and if required by the Collateral Agent.  In consideration of Mr. Ravich entering into such backstop arrangement, the Company’s Audit Committee and independent directors reviewed, approved and agreed to a backstop fee package, pursuant to which the Company would (i) pay to Mr. Ravich’s trust a one-time backstop fee of $0.1 million, and (ii) if the purchase of such subordinated debt is required by the Collateral Agent and the Company has failed to secure a financing alternative more advantageous to the Company, to issue to Mr. Ravich’s trust a five-year warrant (the “Warrant”) to purchase 1,500,000 shares of ALJ common stock at an exercise price equal to the average closing price of the Company’s common stock as reported on The Nasdaq Stock Market for the 30 trading days preceding the warrant issuance date.  

Director Independence

The following directors qualify as “independent” in accordance with the rules and regulations of the SEC and NASDAQ, as applicable:

 

Hal G. Byer

 

Robert Scott Fritz

 

John Scheel

 

Michael Borofsky

 

Margarita Paláu Hernández

50


 

ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.

 

Our Audit Committee engaged Mayer Hoffman McCann P.C. (“MHM”) to serve as our independent registered public accounting firm for the year ending September 30, 2018. The selection of MHM was ratified by our shareholders at the 2018 annual meeting of shareholders.  MHM leases substantially all its personnel, who work under the control of MHM shareholders, from wholly-owned subsidiaries of CBIZ, Inc., including CBIZ MHM, LLC, in an alternative practice structure.

The following table sets forth the fees billed to us by MHM for each of the last two years:

 

 

 

Year Ended September 30,

 

Fee Category

 

2018

 

 

2017

 

Audit fees (1)

 

$

711,000

 

 

$

537,000

 

Audit-related fees

 

 

 

 

 

 

Tax fees

 

 

 

 

 

 

All other fees

 

 

 

 

 

 

Total

 

$

711,000

 

 

$

537,000

 

 

(1)

Audit Fees. Consists of fees billed for professional services rendered for the audit of our consolidated financial statements and review of our interim consolidated financial statements included in quarterly reports and services that are normally provided in connection with statutory and regulatory filings or engagements, including post-effective amendments to previously filed registration statements.  

Pre-Approval Policies and Procedures  

Consistent with policies of the SEC regarding auditor independence and the Audit Committee Charter, the Audit Committee has the responsibility for appointing, setting compensation and overseeing the work of the registered independent public accounting firm (the “Firm”). The Audit Committee’s policy is to pre-approve all audit and permissible non-audit services provided by the Firm. Pre-approval is detailed as to the particular service to the category of services and is generally subject to a specific budget. The Audit Committee may also pre-approve particular services on a case-by-case basis. In assessing request for services by the Firm, the Audit Committee considers whether such services are consistent with the Firm’s independence, whether the Firm is likely to provide the most effective and efficient service based on their familiarity with the Company, and whether the service could enhance the Company’s ability to manage or control risk or improve audit quality.  All of the services relating to the fees described in the table above were approved by the Audit Committee.

 

51


 

PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES.

Financial Statements

 

The financial statements required by this Item are included beginning at page F-1.

 

Financial Statement Schedules

 

The financial statement schedules required by this Item are included on page S-1.

 

52


 

Exhibits

The following documents are filed as exhibits hereto:

 

Exhibit Number

 

 

Description of Exhibit

 

Method of Filing

2.1

 

 

Asset Purchase Agreement, dated as of June 21, 2016, by and among Phoenix Color Corp., AKI, Inc. and Bioplan USA, Inc.

 

Incorporated by reference to Exhibit 2.1 to Form 8-K as filed on June 22, 2016

 

 

 

 

 

 

 

3.1

 

 

First Amendment to the Restated Certificate of Incorporation of ALJ Regional Holdings, Inc. as filed with the Secretary of State of the State of Delaware on June 1, 2010

 

Incorporated by reference to Exhibit 3.1 to Form 10-12B as filed on February 2, 2016

 

 

 

 

 

 

 

3.2

 

 

Restated Certificate of Incorporation of ALJ Regional Holdings, Inc. as filed with the Secretary of State of the State of Delaware on June 16, 2009

 

Incorporated by reference to Exhibit 3.2 to Form 10-12B as filed on February 2, 2016

 

 

 

 

 

 

 

3.3

 

 

Certificate of Ownership and Merger of YouthStream Media Networks, Inc. as filed with the Secretary of State of the State of Delaware on October 23, 2006

 

Incorporated by reference to Exhibit 3.3 to Form 10-12B as filed on February 2, 2016

 

 

 

 

 

 

 

3.4

 

 

Restated Bylaws of ALJ Regional Holdings, Inc., dated as of May 11, 2009

 

Incorporated by reference to Exhibit 3.4 to Form 10-12B as filed on February 2, 2016

 

 

 

 

 

 

 

3.5

 

 

Restated Certificate of Incorporation of ALJ Regional Holdings, Inc. as filed with the Secretary of State of the State of Delaware on August 17, 2018

 

Filed herewith

 

 

 

 

 

 

 

10.1

 

 

Form of Indemnification Agreement for Directors and Officers

 

Incorporated by reference to Exhibit 10.2 to Form 10-12B as filed on February 2, 2016

 

 

 

 

 

 

 

10.2

 

 

Employment Agreement, dated as of October 18, 2013, by and between Faneuil, Inc. and Anna Van Buren

 

Incorporated by reference to Exhibit 10.3 to Form 10-12B as on filed February 2, 2016

 

 

 

 

 

 

 

10.3

 

 

First Amendment to Employment Agreement, dated August 11, 2017, by and between Faneuil, Inc. and Anna Van Buren

 

Incorporated by reference to Exhibit 10.2 to Form 8-K as filed on August 14, 2017

 

 

 

 

 

 

 

10.4

 

 

Employment Agreement, dated August 8, 2017, by and between ALJ Regional Holdings, Inc. and Brian Hartman

 

Incorporated by reference to Exhibit 10.1 to Form 8-K as filed on August 14, 2017

 

 

 

 

 

 

 

10.5

 

 

First Amendment to Employment Agreement, dated August 2, 2018, by and between ALJ Regional Holdings, Inc. and Brian Hartman

 

Incorporated by reference to Exhibit 10.1 to Form 8-K as filed on August 3, 2018

 

 

 

 

 

 

 

10.6

 

 

Employment Agreement, dated as of March 12, 2018, by and between ALJ Regional Holdings, Inc. and Marc Reisch

 

Incorporated by reference to Exhibit 10.1 to Form 8-K as filed on March 13, 2018

 

 

 

 

 

 

 

10.7

 

 

Employment Agreement, dated April 14, 2014, by and between Floors-N-More, LLC and Steven Chesin

 

Incorporated by reference to Exhibit 10.2 to Form 8-K as filed on March 13, 2018

 

 

 

 

 

 

 

10.8

 

 

First Amendment to Employment Agreement, dated December 29, 2017, by and between Floors-N-More, LLC and Steven Chesin

 

Incorporated by reference to Exhibit 10.3 to Form 8-K as filed on March 13, 2018

 

 

 

 

 

 

 

10.9

 

 

ALJ Regional Holdings, Inc. 2016 Omnibus Equity Plan

 

Incorporated by reference to Exhibit 10.1 to Form S-8 as filed on August 23, 2016

 

 

 

 

 

 

 

53


 

10.10

 

 

Financing Agreement, dated as of August 14, 2015, by and among ALJ Regional Holdings, Inc., Faneuil, Inc., Floors-N-More, LLC, Phoenix Color Corp., each subsidiary of ALJ Regional Holdings, Inc. listed as a “Guarantor” on the signature pages thereto, the lenders from time to time party thereto, Cerberus Business Finance, LLC, as collateral agent for the lenders, and PNC Bank, National Association, as administrative agent for the lenders

 

Incorporated by reference to Exhibit 10.1 to Form 10-12B as filed on February 2, 2016

 

 

 

 

 

 

 

10.11

 

 

First Amendment to Financing Agreement, dated as of July 18, 2016, by and among the Company, Faneuil, Inc., Floors-N-More, LLC, Phoenix Color Corp., each subsidiary of the Company listed as a “Guarantor” on the signature pages thereto, the lenders from time to time party thereto, Cerberus Business Finance, LLC, as collateral agent for the lenders, and PNC Bank, National Association, as administrative agent for the lenders

 

Incorporated by reference to Exhibit 10.1 to Form 8-K as filed on July 20, 2016

 

 

 

 

 

 

 

 

10.12

 

 

Second Amendment to Financing Agreement, dated as of May 26, 2017, by and among the Company, Faneuil, Inc., Floors-N-More, LLC, Phoenix Color Corp., each subsidiary of the Company listed as a “Guarantor” on the signature pages thereto, the lenders from time to time party thereto, Cerberus Business Finance, LLC, as collateral agent for the lenders, and PNC Bank, National Association, as administrative agent for the lenders

 

Incorporated by reference to Exhibit 10.1 to Form 8-K as filed on May 30, 2017

 

 

 

 

 

 

 

 

10.13

 

 

Third Amendment to Financing Agreement, dated as of October 2, 2017, by and among the Company, Faneuil, Inc., Floors-N-More, LLC, Phoenix Color Corp., each subsidiary of the Company listed as a “Guarantor” on the signature pages thereto, the lenders from time to time party thereto, Cerberus Business Finance, LLC, as collateral agent for the lenders, and PNC Bank, National Association, as administrative agent for the lenders

 

Incorporated by reference to Exhibit 10.1 to Form 8-K as filed on October 2, 2017

 

 

 

 

 

 

 

 

10.14

 

 

Fourth Amendment to Financing Agreement, dated as of November 28, 2018, by and among the Company, Faneuil, Inc., Floors-N-More, LLC, Phoenix Color Corp., each subsidiary of the Company listed as a “Guarantor” on the signature pages thereto, the lenders from time to time party thereto, Cerberus Business Finance, LLC, as collateral agent for the lenders, and PNC Bank, National Association, as administrative agent for the lenders

 

Incorporated by reference to Exhibit 10.1 to Form 8-K as filed on November 30, 2018

 

 

 

 

 

 

 

 

10.15

 

 

Backstop Letter Agreement, dated as of November 28, 2018, between the Company and Jess Ravich

 

Incorporated by reference to Exhibit 10.2 to Form 8-K as filed on November 30, 2018

 

 

 

 

 

 

 

14.1

 

 

Code of Business Conduct and Ethics

 

Incorporated by reference to Exhibit 14.1 to Form 10-K as filed on December 23, 2016

 

 

 

 

 

 

 

21.1

 

 

List of Subsidiaries

 

Filed herewith

 

 

 

 

 

 

 

23.1

 

 

Consent of Independent Registered Public Accounting Firm

 

Filed herewith

 

 

 

 

 

 

 

24

 

 

Power of Attorney (see signature page)

 

 

54


 

 

 

 

 

 

 

 

31.1

 

 

Certification of Chief Executive Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")

 

Filed herewith

 

 

 

 

 

 

 

31.2

 

 

Certification of Chief Financial Officer and Principal Accounting Officer pursuant to Rule 13a-14(a) of the Exchange Act

 

Filed herewith

 

 

 

 

 

 

 

32.1

 

 

Certification of the Chief Executive Officer and the Chief Financial Officer and Principal Accounting Officer pursuant to Rule 13a-14(b) of the Exchange Act and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

Filed herewith

 

 

 

 

 

 

 

101.INS

 

 

XBRL Instance Document

 

Filed herewith

 

 

 

 

 

 

 

101.SCH

 

 

XBRL Taxonomy Extension Schema Document

 

Filed herewith

 

 

 

 

 

 

 

101.CAL

 

 

XBRL Taxonomy Extension Calculation Linkbase Document

 

Filed herewith

 

 

 

 

 

 

 

101.DEF

 

 

XBRL Taxonomy Extension Definition Linkbase Document

 

Filed herewith

 

 

 

 

 

 

 

101.LAB

 

 

XBRL Taxonomy Extension Label Linkbase Document

 

Filed herewith

 

 

 

 

 

 

 

101.PRE

 

 

XBRL Taxonomy Extension Presentation Linkbase Document

 

Filed herewith

 

55


 

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

 

ALJ REGIONAL HOLDINGS, INC.

 

 

 

 

 

Date:  December 17, 2018

 

By:

 

/s/ Jess Ravich

 

 

 

 

Jess Ravich

 

 

 

 

Executive Chairman

(Principal Executive Officer)

 

56


 

POWER OF ATTORNEY

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Jess Ravich and Brian Hartman, and each of them, as his true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for her or him and in her or his name, place, and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection therewith, as fully to all intents and purposes as she or he might or could do in person, hereby ratifying and confirming that all said attorneys-in-fact and agents, or any of them or their or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof.

 

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the Registrant in the capacities and on the dates indicated.

 

Name

 

Title

 

Date

 

 

 

 

 

/s/ Jess Ravich

 

Chairman of the Board, and Executive Chairman

 

December 17, 2018

Jess Ravich

 

(Principal Executive Officer)

 

 

 

 

 

 

 

/s/ Brian Hartman

 

Chief Financial Officer (Principal Financial Officer and Principal

 

December 17, 2018

Brian Hartman

 

Accounting Officer)

 

 

 

 

 

 

 

/s/ Hal G. Byer

 

Director

 

December 17, 2018

Hal G. Byer

 

 

 

 

 

 

 

 

 

/s/ Robert Scott Fritz

 

Director

 

December 17, 2018

Robert Scott Fritz

 

 

 

 

 

 

 

 

 

/s/ Rae Ravich

 

Director

 

December 17, 2018

Rae Ravich

 

 

 

 

 

 

 

 

 

/s/ John Scheel

 

Director

 

December 17, 2018

John Scheel

 

 

 

 

 

 

 

 

 

/s/ Anna Van Buren

 

Director

 

December 17, 2018

Anna Van Buren

 

 

 

 

 

 

 

 

 

/s/ Michael Borofsky

 

Director

 

December 17, 2018

Michael Borofsky

 

 

 

 

 

 

 

 

 

/s/ Marc Reisch

 

Director

 

December 17, 2018

Marc Reisch

 

 

 

 

 

 

 

 

 

/s/ Margarita Paláu Hernández

 

Director

 

December 17, 2018

Margarita Paláu Hernández

 

 

 

 

 

 

57


 

ALJ REGIONAL HOLDINGS, INC. AND SUBSIDIARIES

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

F-1


 

Report of Independent Registered Public Accounting Firm

To the Board of Directors and Stockholders of

ALJ Regional Holdings, Inc.

 

Opinion on the Financial Statements

 

We have audited the accompanying consolidated balance sheets of ALJ Regional Holdings, Inc. and Subsidiaries (the “Company”) as of September 30, 2018 and 2017, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the two years in the period ended September 30, 2018, and the related notes and schedule listed in the Index at Item 15 (collectively referred to as the “financial statements”).  In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of September 30, 2018 and 2017, and the results of its operations and its cash flows for each of the two years in the period ended September 30, 2018, in conformity with accounting principles generally accepted in the United States of America.

 

Basis for Opinion

 

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

 

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.

 

Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

 

We have served as the Company's auditor since 2015.

 

/s/ Mayer Hoffman McCann P.C.

 

 

San Diego, California

December 17, 2018

 

 

F-2


 

ALJ REGIONAL HOLDINGS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(in thousands, except par value)

 

 

 

September 30,

 

 

September 30,

 

 

 

2018

 

 

2017

 

ASSETS

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

2,000

 

 

$

5,630

 

Accounts receivable, net of allowance for doubtful accounts of $208 ($830 in 2017)

 

 

46,383

 

 

 

49,457

 

Inventories, net

 

 

7,656

 

 

 

9,376

 

Prepaid expenses and other current assets

 

 

5,504

 

 

 

5,783

 

Assets held for sale

 

 

222

 

 

 

 

Total current assets

 

 

61,765

 

 

 

70,246

 

Property and equipment, net

 

 

60,162

 

 

 

54,335

 

Goodwill

 

 

56,372

 

 

 

54,964

 

Intangible assets, net

 

 

42,400

 

 

 

43,179

 

Collateral deposits, less current portion

 

 

695

 

 

 

879

 

Deferred tax assets, net

 

 

7,639

 

 

 

11,052

 

Other assets

 

 

2,435

 

 

 

4,474

 

Total assets

 

$

231,468

 

 

$

239,129

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

12,692

 

 

$

15,597

 

Accrued expenses

 

 

14,371

 

 

 

12,661

 

Income taxes payable

 

 

204

 

 

 

195

 

Deferred revenue and customer deposits

 

 

3,179

 

 

 

5,755

 

Current portion of term loan, net of deferred loan costs

 

 

8,595

 

 

 

11,848

 

Current portion of capital lease obligations

 

 

2,909

 

 

 

2,571

 

Current portion of workers’ compensation reserve

 

 

1,000

 

 

 

1,015

 

Other current liabilities

 

 

1,003

 

 

 

64

 

Total current liabilities

 

 

43,953

 

 

 

49,706

 

Line of credit, net of deferred loan costs

 

 

8,594

 

 

 

5,330

 

Term loan payable, less current portion, net of deferred loan costs

 

 

74,795

 

 

 

76,753

 

Deferred revenue, less current portion

 

 

1,374

 

 

 

3,111

 

Workers’ compensation reserve, less current portion

 

 

1,508

 

 

 

1,748

 

Capital lease obligations, less current portion

 

 

4,427

 

 

 

4,679

 

Other non-current liabilities

 

 

5,289

 

 

 

2,049

 

Total liabilities

 

 

139,940

 

 

 

143,376

 

Commitments and contingencies (Note 8)

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Common stock, $0.01 par value; authorized – 100,000 shares; 38,111 and 37,042

   issued and outstanding at September 30, 2018 and 2017, respectively

 

 

381

 

 

 

371

 

Additional paid-in capital

 

 

279,575

 

 

 

276,478

 

Accumulated deficit

 

 

(188,428

)

 

 

(181,096

)

Total stockholders’ equity

 

 

91,528

 

 

 

95,753

 

Total liabilities and stockholders’ equity

 

$

231,468

 

 

$

239,129

 

 

See accompanying notes to consolidated financial statements.

F-3


 

ALJ REGIONAL HOLDINGS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Net revenue

 

$

369,776

 

 

$

326,718

 

Costs and expenses:

 

 

 

 

 

 

 

 

Cost of revenue

 

 

285,872

 

 

 

250,704

 

Selling, general, and administrative expense

 

 

76,656

 

 

 

63,311

 

(Gain) loss on disposal of assets, net

 

 

(277

)

 

 

8

 

Total operating expenses

 

 

362,251

 

 

 

314,023

 

Operating income

 

 

7,525

 

 

 

12,695

 

Other (expense) income:

 

 

 

 

 

 

 

 

Interest expense, net

 

 

(10,558

)

 

 

(9,744

)

Other income

 

 

 

 

 

298

 

Total other expense, net

 

 

(10,558

)

 

 

(9,446

)

(Loss) income before income taxes

 

 

(3,033

)

 

 

3,249

 

(Provision for) benefit from income taxes

 

 

(4,299

)

 

 

12,424

 

Net (loss) income

 

$

(7,332

)

 

$

15,673

 

Basic (loss) earnings per share of common stock

 

$

(0.19

)

 

$

0.45

 

Diluted (loss) earnings per share of common stock

 

$

(0.19

)

 

$

0.43

 

Weighted average shares of common stock outstanding:

 

 

 

 

 

 

 

 

Basic

 

 

37,856

 

 

 

35,208

 

Diluted

 

 

37,856

 

 

 

36,186

 

 

See accompanying notes to consolidated financial statements.

F-4


 

ALJ REGIONAL HOLDINGS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(in thousands)

 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

 

 

 

 

 

 

 

Common Stock

 

 

Paid-in

 

 

Accumulated

 

 

 

 

 

 

 

Shares

 

 

Amount

 

 

Capital

 

 

Deficit

 

 

Total

 

Balances at September 30, 2016

 

 

34,575

 

 

$

346

 

 

$

270,370

 

 

$

(196,769

)

 

$

73,947

 

Issuance of common stock upon exercise of

   stock options

 

 

1,000

 

 

 

10

 

 

 

990

 

 

 

 

 

 

1,000

 

Issuance of common stock in connection

   with acquisition, net of stock-issuance costs

 

 

1,467

 

 

 

15

 

 

 

4,666

 

 

 

 

 

 

4,681

 

Stock-based compensation expense - options

 

 

 

 

 

 

 

 

452

 

 

 

 

 

 

452

 

Net income

 

 

 

 

 

 

 

 

 

 

 

15,673

 

 

 

15,673

 

Balances at September 30, 2017

 

 

37,042

 

 

 

371

 

 

 

276,478

 

 

 

(181,096

)

 

 

95,753

 

Issuance of common stock upon exercise of

   stock options

 

 

300

 

 

 

3

 

 

 

275

 

 

 

 

 

 

278

 

Proceeds from issuance of common stock, net

   of stock-issuance costs

 

 

478

 

 

 

4

 

 

 

1,431

 

 

 

 

 

 

1,435

 

Issuance of common stock to members of

   ALJ's board of directors

 

 

291

 

 

 

3

 

 

 

752

 

 

 

 

 

 

755

 

Stock-based compensation expense - options

 

 

 

 

 

 

 

 

639

 

 

 

 

 

 

639

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

(7,332

)

 

 

(7,332

)

Balances at September 30, 2018

 

 

38,111

 

 

$

381

 

 

$

279,575

 

 

$

(188,428

)

 

$

91,528

 

 

See accompanying notes to consolidated financial statements.

F-5


 

ALJ REGIONAL HOLDINGS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Operating activities

 

 

 

 

 

 

 

 

Net (loss) income

 

$

(7,332

)

 

$

15,673

 

Adjustments to reconcile net (loss) income to cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization - cost of revenue

 

 

5,422

 

 

 

5,244

 

Depreciation and amortization - selling, general, and administrative expense

 

 

13,626

 

 

 

11,367

 

Stock-based compensation expense

 

 

1,054

 

 

 

810

 

Provision for bad debts

 

 

272

 

 

 

171

 

Litigation loss

 

 

2,910

 

 

 

 

Provision for obsolete inventory

 

 

151

 

 

 

59

 

Deferred income taxes

 

 

3,413

 

 

 

(12,482

)

Noncash gain, net

 

 

(277

)

 

 

(290

)

Amortization of deferred loan costs

 

 

1,275

 

 

 

1,068

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Accounts receivable, net

 

 

(108

)

 

 

(1,899

)

Inventories, net

 

 

3,075

 

 

 

(562

)

Prepaid expenses and other current assets

 

 

724

 

 

 

1,427

 

Other assets

 

 

2,039

 

 

 

1,249

 

Accounts payable

 

 

(2,905

)

 

 

1,838

 

Accrued expenses

 

 

(797

)

 

 

1,451

 

Income tax payable

 

 

9

 

 

 

(438

)

Deferred revenue and customer deposits

 

 

(4,313

)

 

 

81

 

Workers’ compensation reserve

 

 

(255

)

 

 

(113

)

Other current liabilities

 

 

(61

)

 

 

(664

)

Other non-current liabilities

 

 

(160

)

 

 

1,243

 

Cash provided by operating activities

 

 

17,762

 

 

 

25,233

 

Investing activities

 

 

 

 

 

 

 

 

Acquisitions, net of cash acquired

 

 

(9,000

)

 

 

(8,037

)

Proceeds from sales of assets

 

 

544

 

 

 

152

 

Capital expenditures

 

 

(8,598

)

 

 

(9,288

)

Cash used for investing activities

 

 

(17,054

)

 

 

(17,173

)

Financing activities

 

 

 

 

 

 

 

 

Proceeds from debt

 

 

7,500

 

 

 

 

Payments on debt

 

 

(13,544

)

 

 

(10,951

)

Net proceeds (payments) on line of credit

 

 

3,239

 

 

 

5,500

 

Debt and common stock issuance costs

 

 

(482

)

 

 

(267

)

Proceeds from issuance of common stock

 

 

1,500

 

 

 

 

Proceeds from stock option exercise

 

 

278

 

 

 

1,000

 

Payments on capital leases

 

 

(2,829

)

 

 

(2,339

)

Payments on financed insurance premiums

 

 

 

 

 

(652

)

Cash used for financing activities

 

 

(4,338

)

 

 

(7,709

)

Change in cash and cash equivalents

 

 

(3,630

)

 

 

351

 

Cash and cash equivalents at the beginning of the period

 

 

5,630

 

 

 

5,279

 

Cash and cash equivalents at the end of the period

 

$

2,000

 

 

$

5,630

 

 

See accompanying notes to consolidated financial statements.

F-6


 

ALJ REGIONAL HOLDINGS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Supplemental disclosures of cash flow information:

 

 

 

 

 

 

 

 

Cash paid during the period for:

 

 

 

 

 

 

 

 

Interest

 

$

9,257

 

 

$

8,743

 

Taxes

 

$

1,022

 

 

$

660

 

 

 

 

 

 

 

 

 

 

Non-cash investing and financing activities:

 

 

 

 

 

 

 

 

Capital equipment purchases financed with capital leases

 

$

2,914

 

 

$

4,837

 

Leasehold improvements funded by landlord tenant improvement allowance

 

$

3,400

 

 

$

 

Leasehold improvements not yet paid for

 

$

2,700

 

 

$

 

Issuance of common stock for acquisition

 

$

 

 

$

4,708

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes to consolidated financial statements.

 

F-7


 

ALJ REGIONAL HOLDINGS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

YEARS ENDED SEPTEMBER 30, 2018 AND 2017

 

 

1. ORGANIZATION AND BASIS OF PRESENTATION

Organization

ALJ Regional Holdings, Inc. (including subsidiaries, referred to collectively in this Report as “ALJ,” “Company,” “our,” and “we”) is a holding company.  ALJ’s primary assets as of September 30, 2018, were all of the outstanding capital stock of the following companies:

 

Faneuil, Inc. (including its subsidiaries, “Faneuil”).  Faneuil is a leading provider of call center services, back-office operations, staffing services, and toll collection services to government and regulated commercial clients across the United States, focusing on the healthcare, utility, consumer goods, toll and transportation industries. Faneuil is headquartered in Hampton, Virginia.  ALJ acquired Faneuil in October 2013.

 

Floors-N-More, LLC, d/b/a, Carpets N’ More (“Carpets”).  Carpets is one of the largest floor covering retailers in Las Vegas, Nevada, and a provider of multiple products for the commercial, retail and home builder markets including all types of flooring, countertops, cabinets, window coverings and garage/closet organizers, with two retail locations, as well as a stone and solid surface fabrication facility.  ALJ acquired Carpets in April 2014.

 

Phoenix Color Corp. (including its subsidiaries, “Phoenix”).  Phoenix is a leading manufacturer of book components, educational materials and related products producing value-added components, heavily illustrated books and specialty commercial products using a broad spectrum of materials and decorative technologies. Phoenix is headquartered in Hagerstown, Maryland.  ALJ acquired Phoenix in August 2015.

 

ALJ has organized its business and corporate structure along the following business segments: Faneuil, Carpets, and Phoenix. ALJ is reported as corporate overhead.

 

Basis of Presentation

The accompanying consolidated financial statements were prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) and include the accounts of ALJ and subsidiaries.  All intercompany items and transactions have been eliminated in consolidation.

 

 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Use of Estimates

The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting periods. Although actual results could differ materially from those estimates, such estimates are based on the best information available to management and management’s best judgments at the time. Significant estimates and assumptions by management are used for, but are not limited to, determining the fair value of assets and liabilities, including intangible assets acquired and allocation of acquisition purchase prices, estimated useful lives, recoverability of long-lived and intangible assets, the recoverability of goodwill, the realizability of deferred tax assets, stock-based compensation, the likelihood of material loss as a result of loss contingencies, customer lives, the allowance for doubtful accounts and inventory reserves, and calculation of insurance reserves.  Actual results may differ materially from estimates.

 

Business Combinations

The Company accounts for business combinations under the acquisition method of accounting in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 805, “Business Combinations” (“ASC 805”). The Company recognizes the fair value of the assets acquired and liabilities assumed, immediately expenses transaction costs and accounts for restructuring plans separately from the business combination. The excess of the cost of the acquisition over the fair value of the net tangible and intangible assets acquired is recorded as goodwill. Results of operations of the acquired business are included in the consolidated statements of operations from the effective date of acquisition.

F-8


 

While ALJ uses its best estimates and assumptions to accurately value assets acquired and liabilities assumed at the acquisition date, estimates are inherently uncertain and subject to refinement. As a result, during the measurement period, which may be up to one year from the acquisition date, ALJ records any adjustments to the assets acquired and liabilities assumed with corresponding adjustments to goodwill. Upon the conclusion of the measurement period or final determination of the values of assets acquired or liabilities assumed, whichever comes first, any subsequent adjustments are recorded to the consolidated statements of operations.

 

Cash and Cash Equivalents

Cash and equivalents include all cash, demand deposits, and money market accounts with original maturities of three months or less.

Accounts Receivable

ALJ presents accounts receivable, net of allowances for doubtful accounts and returns, to ensure accounts receivable are not overstated due to uncollectible accounts. Allowances, when required, are calculated based on a detailed review of certain individual customer accounts and an estimation of the overall economic conditions affecting ALJ’s customer base. ALJ reviews a customer’s credit history before extending credit. If the financial condition of its customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances might be required.

Inventory

Carpets. Inventory, which consists of carpet, wood, vinyl, granite and other related hard surfaces, cabinets and window treatments, is stated at the lower of cost or net realizable value.  Cost is computed on a first-in, first-out basis (“FIFO”).  Carpets reserves for slow-moving and obsolete inventory when management determines an item should be reserved based on historical and/or projected usage of the product.  Obsolete or unsalable inventories are stated at net realizable value.

Phoenix.  Inventory, which consists primarily of paper, laminating film and inks, is stated at lower of cost or net realizable value.  Cost is determined using FIFO and includes direct materials, direct labor, and applicable overhead.  Phoenix reserves for slow-moving and obsolete inventory when management determines an item should be reserved based on historical and/or projected usage of the product.  Obsolete or unsalable inventories are stated at net realizable value.

Assets Held for Sale

 

Assets that ALJ intends to sell and are not used in current operations are disclosed separately on the consolidated balance sheets and are valued at the lower of cost or realizable value.  Assets held for sale at September 30, 2018 was for redundant printing and manufacturing equipment.  

Property and Equipment

 

Property and equipment are initially recorded at cost and are depreciated over the estimated useful lives of the assets using the straight-line method.  Estimated useful lives are as follows:

 

Computer and office equipment

 

3–7 years

Computer software

 

3–6 years

Furniture and fixtures

 

7–10 years

Leasehold improvements

 

Shorter of useful life or lease term

Equipment under capital leases

 

Shorter of useful life or lease term

Equipment

 

5–12 years

Vehicles and commercial trucks

 

5 years

Buildings

 

7–40 years

Land

 

indefinite

 

Property and equipment acquired in a business acquisition are recorded at fair value on the date of acquisition. Subsequent purchases are recorded at historical cost. Significant improvements and betterments are capitalized. Routine repairs and maintenance are expensed when incurred. Gains and losses on disposal of fixed assets are recognized in the statements of operations based on the net disposal proceeds less the carrying amount of the assets.

F-9


 

Goodwill

ALJ records goodwill when the purchase price of an acquisition exceeds the fair value of the net tangible and identified intangible assets acquired.  ALJ assigns the goodwill to its reporting segments consistent with the expected fair value provided by the acquisition.  ALJ performs an annual impairment assessment in the fourth quarter of each year, or more frequently if indicators of potential impairment exist, which includes evaluating qualitative and quantitative factors to assess the likelihood of an impairment of a segment’s goodwill.  To date, ALJ has not recorded any goodwill impairment.

Intangible Assets

As of September 30, 2018 and 2017, all intangible assets were acquisition-related, recorded at fair value on the date acquired, and subject to amortization.  ALJ amortizes intangible assets over their estimated useful life based on economic benefit using the straight-line method.  In the quarter following the period in which the intangible asset becomes fully amortized, ALJ removes the fully amortized balances from the gross asset and accumulated amortization amounts.

The estimated useful life ranges for all identified intangible assets were as follows:

 

 

 

Estimated

Description

 

Useful Life (Yrs)

Non-compete agreements

 

2-5

Supply agreements

 

4-15

Internal software

 

6

Customer relationships

 

12-15

Trade names

 

15-30

 

Deferred Loan Costs

 

Deferred loan costs related to ALJ’s term loans are amortized to interest expense using the effective yield method over the contractual life of the debt.  Additional amortization is recorded in periods where optional prepayments on debt are made.  Deferred loan costs related to ALJ’s line of credit are amortized to interest expense using the straight-line method over the life of the debt.

  

Deferred Implementation Costs

Deferred implementation costs represent direct costs incurred prior to the commencement of a new contract.   The Company capitalized such costs and amortized to cost of revenue over the life of the contract, once revenue commences.  Implementation costs which are expected to be amortized during the next year are included in prepaid expenses and other current assets; the remaining balance of the implementation costs are included in other assets on the Company’s balance sheets.

 

Deferred Revenue and Customer Deposits

 

Deferred revenue represents amounts billed to the customer in excess of amounts earned. In situations where the Company receives payment in advance of the performance of services, such amounts are recorded as deferred revenue and recognized as revenue during the period in which the related services are performed.

 

Customer deposits represent payments received before all of the relevant criteria for revenue recognition are met.  In certain instances, the Company requires a deposit when the customer order is placed.  Customer deposits are recognized as revenue when the job is complete, and revenue recognition criteria have been met, which is typically less than one year.

 

Workers’ Compensation Reserve

The Company is self-insured for certain insurance coverages as discussed below.    

Faneuil.  Faneuil is self-insured for workers’ compensation claims up to $500,000 per incident, and maintains insurance coverage for costs above the specified limit. Faneuil is self-insured for health insurance claims up to $150,000 per incident, and maintains insurance coverage for costs above the specified limit. Reserves have been provided for workers’ compensation and health claims based on insurance coverages, third-party actuarial analysis, and management’s judgment.  

F-10


 

Carpets.  Carpets maintains outside insurance to cover workers’ compensation claims.

Phoenix. Phoenix maintains outside insurance to cover workers’ compensation claims.  

 

Fair Value of Financial Instruments

 

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability in the principal or most advantageous market in an orderly transaction between market participants at the measurement date. The Company’s fair value instruments consisted of accounts receivable, accounts payable, accrued expenses, line of credit, and term-loan payable.  As of September 30, 2018 and 2017, carrying value approximates fair value.  

Revenue Recognition

Overall.  The Company recognizes revenue when the earnings process is complete as evidenced by (1) an agreement with the respective customer, (2) delivery and acceptance has occurred, or services have been provided, (3) collectability is probable, and (4) pricing is fixed or determinable.  Shipping charges billed to customers are included in net revenue, and the related shipping costs are included in the cost of revenue in the period of shipment. Revenue is recorded net of any applicable sales tax.

Additional revenue recognition policies specific to each business segment are discussed below.    

Faneuil. Revenue associated with outsourcing services is generally recognized during the period in which the services are rendered. Net revenue from time-and-material contracts is recognized at the contracted rates as labor hours, and direct expenses are incurred and charged to costs of revenue.  Revenue for call center contracts is recognized at the time calls are received based on the contracted rate per call.  Revenue is generally based on staff hours, call time, call volume, number of transactions processed, or number of accounts, and are presented net of any allowance or discounts.  

Revenue from non-refundable up-front payments attributable to contract implementation, not tied to achieving a specific performance milestone, is recognized over the longer of the initial term of the contract or the expected customer life.  Grant revenue is recognized based on the contracted terms of the grant.  

 

Carpets. Revenue related to long-term commercial contracts is recognized using the percentage-of-completion method. In using the percentage-of-completion method, Carpets generally applies the cost-to-cost method of accounting where revenue and profit is recorded based on the ratio of costs incurred to estimated total costs at completion. When adjustments in contract value or estimated costs are determined, any changes from prior estimates are reflected in earnings in the current period. Anticipated losses on contracts or programs in progress are charged to earnings during the period the loss is initially identified.

 

Phoenix.  Phoenix records reductions of revenue for estimated rebates in the same period the related revenue is recorded.  The amount is based on historical information, specific criteria included in rebate agreements, and other factors known at the time.  Phoenix accrues rebates each month based on customers actual revenue and estimated future revenue based on the customer contract.  By the end of the contract, 100% of the rebate is recorded.  Rebates are paid to the customers based on their contractual agreements.

 

In certain instances, Phoenix will provide a customer with an incentive sign-on bonus at contract commencement in exchange for the customer committing to certain purchase volumes.  Phoenix capitalizes the sign-on bonus when paid, and amortizes the balance as a reduction of revenue systematically as the volume commitment is attained. The portion of the sign-on bonus expected to be earned within one year is calculated based on estimates of customer orders for the year and recorded as a current asset, with the remaining sign-on bonus recorded as a non-current asset.

Impairment of Goodwill and Long-Lived Assets

 

Goodwill is tested annually for impairment and in interim periods if certain events occur indicating that the carrying amounts may be impaired.  Goodwill is quantitatively assessed for impairment using a two-step approach. First, the Company compares the estimated fair value of the reporting unit in which the goodwill resides to its carrying value.  When calculating fair value, the Company considers both the income method and the market method.  The income method is based on a discounted future cash flow approach that uses the following major assumptions and inputs: revenue, based on assumed market segment growth rates and our assumed market segment share, and estimated costs.  Estimates of market segment growth, the Company’s market segment share, and costs are based on historical data, various internal estimates, and a variety of external sources. The same estimates are also used for business planning and forecasting process.  The market method is based on financial multiples and transaction prices of comparable companies.  The second step, required if the carrying value is greater than the fair value, measures the amount of impairment, if any, by comparing the implied fair value of goodwill to its carrying value.

F-11


 

Long-lived assets, such as property and equipment and intangible assets subject to amortization, are reviewed for impairment when there is evidence that events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. Recoverability of assets to be held and used is measured by comparing the carrying amount of an asset or asset group to estimated undiscounted future cash flows expected to be generated by the asset or asset group. If the carrying amount of an asset or asset group exceeds its estimated future cash flows, an impairment charge is recognized for the amount by which the carrying amount of the asset or asset group exceeds the estimated fair value of the asset or asset group. Long-lived assets to be disposed of by sale are reported at the lower of their carrying amounts or their estimated fair values, less costs to sell and are not depreciated.

To date, the Company has not recorded any impairment losses.

Income Taxes

The Company uses the asset and liability method whereby deferred tax assets are recognized for deductible temporary differences and operating loss and tax-credit carryforwards, and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amount of assets and liabilities and their tax bases. Deferred tax assets are reduced by the valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.

The Company’s judgments relative to the current provision for income taxes take into account current tax laws, our interpretation of current tax laws and possible outcomes of current and future audits conducted by tax authorities. The Company files income tax returns in the U.S. federal jurisdictions and various state jurisdictions and is subject to U.S. federal tax and state tax examinations.  The Company’s judgments relative to the value of deferred tax assets and liabilities take into account estimates of the amount of future taxable income. Actual operating results and the underlying amount of income in future years could render current estimates of recoverable net deferred taxes inaccurate. Any of the judgments mentioned above could cause actual income tax obligations to differ from our estimates, thus materially impacting the Company’s financial position and results of operations.

If the Company takes a recognized tax position or has taken a recognized tax position on a tax return that more likely than not would be sustained upon examination by tax authorities, then the Company will recognize the potential asset or liability in the financial statements. A recognized tax position is then measured at the largest amount of benefit that is greater than fifty percent likely of being realized upon ultimate settlement. Management believes that the Company has appropriate support for the income tax positions taken and to be taken on its tax returns and that its accrual for tax liabilities are adequate for all open years on assessment of many factors including past experience and interpretation of tax law applied to the facts of each matter.

Stock-Based Compensation

ALJ recognizes compensation expense for its equity awards on a straight-line basis over the requisite service period of the award based on the estimated portion of the award that is expected to vest and applies estimated forfeiture rates based on analyses of historical data, including termination patterns and other factors. ALJ uses the quoted closing market price of its common stock on the grant date to measure the fair value of common stock awards and the Black-Scholes option pricing model to measure the fair value of stock option awards. The expected volatility is based on historical volatilities of ALJ’s common stock over the most recent period commensurate with the estimated expected term of the awards. The expected term of an award is equal to the midpoint between the vesting date and the end of the contractual term of the award. The risk-free interest rate is based on the rate on U.S. Treasury securities with maturities consistent with the estimated expected term of the awards. ALJ has never paid dividends and does not anticipate paying a cash dividend in the foreseeable future and, accordingly, uses an expected dividend yield of zero.

During the year ended September 30, 2018, ALJ used the following weighted average assumptions:  expected option life of 6 years, volatility of 50.9%, dividend yield of 0.00%, and annual risk-free interest rate of 2.8%.  During the year ended September 30, 2017, ALJ used the following weighted average assumptions:  expected option life of 5.6 years, volatility of 48.3%, dividend yield of 0.00%, and annual risk-free interest rate of 1.8%.  The weighted average fair value of the options granted during the years ended September 30, 2018 and September 30, 2017 was $1.11 and $1.49 per share, respectively.

Rent Expense, Deferred Rent Obligations and Deferred Lease Incentives

The Company leases most of its facilities under operating leases. Some of these lease agreements contain tenant improvement allowances funded by landlord incentives, rent holidays, and rent escalation clauses. The authoritative guidance for leases requires rent expense to be recognized on a straight-line basis over the lease term. The difference between the rent due under the stated periods of the lease compared to that of the straight-line basis is recorded as deferred rent within other accrued expenses and other non-current liabilities.   For tenant improvement allowances funded by landlord incentives and rent holidays, the Company records a deferred lease

F-12


 

incentive liability in accrued expenses and other non-current liabilities and amortizes the deferred liability as a reduction to rent expense on the consolidated statements of operations over the term of the lease.

Earnings Per Share

 

ALJ computed basic earnings per share of common stock using net income (loss) divided by the weighted average number of shares of common stock outstanding during the period.  ALJ computed diluted earnings per share of common stock using net income divided by the weighted average number of shares of common stock outstanding plus potentially dilutive shares of common stock outstanding during the period. Potentially dilutive shares issuable upon exercise of options to purchase common stock were determined by applying the treasury stock method to the assumed exercise of outstanding stock options.

Recent Accounting Pronouncements  

Accounting Standards Adopted

In July 2015, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2015-11, “Inventory: Simplifying the Measurement of Inventory (Topic 330).”  The amendments in ASU 2015-11 require an entity to measure inventory at the lower of cost or net realizable value.  The amendments do not apply to inventory that is measured using last-in, first out (LIFO) or the retail inventory method.  The amendments apply to all other inventory, which includes inventory that is measured using first-in, first-out (FIFO) or average cost.  ASU 2015-11 should be applied prospectively.  ALJ adopted ASU 2015-11 on October 1, 2017.  The standard did not have a significant impact on ALJ’s consolidated financial statements.

 

Accounting Standards Not Yet Adopted

 

In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers,” to supersede nearly all existing revenue recognition guidance under GAAP.  The core principle of ASU 2014-09 is to recognize revenue when promised goods or services are transferred to customers in an amount that reflects the consideration that is expected to be received for those goods or services.  ASU 2014-09 defines a five-step process to achieve this core principle and, in doing so, it is possible more judgment and estimates may be required within the revenue recognition process than required under existing GAAP including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation.  Subsequently, the FASB has issued the following standards to provide additional clarification and implementation guidance for ASU 2014-09 including: (i) ASU 2016-08, “Principal versus Agent Considerations (Reporting Revenue Gross versus Net),” (ii) ASU 2016-10, “Identifying Performance Obligations and Licensing,” (iii) ASU 2016-12, “Narrow-Scope Improvements and Practical Expedients,” and (iv) ASU 2017-10, “Service Concession Arrangements (Topic 853): Determining the Customer of the Operation Services.”

 

ASU 2014-09 will be effective for ALJ on October 1, 2019.  ASU 2014-09 allows for two methods of adoption: (a) “full retrospective” adoption, meaning the standard is applied to all periods presented, or (b) “modified retrospective” adoption, meaning the cumulative effect of applying ASU 2014-09 is recognized as an adjustment to the opening retained earnings balance in the year of adoption.  ALJ has not yet determined which method it will adopt.  

 

As the new standard will supersede substantially all existing revenue guidance, it could impact the timing of ALJ’s revenue and cost of revenue recognition across all business segments. In July 2017, ALJ formed a revenue recognition project team (“Revenue Team”), which included an outside revenue recognition consultant.  The Revenue Team completed a revenue recognition adoption roadmap that includes three phases:

 

 

Phase I is the identification, documentation, and preliminary analysis of how ALJ currently accounts for revenue transactions compared to the revenue accounting required under the new standard.  Phase I was substantially completed by mid 2018.   

 

Phase II, which overlaps with Phase I and was started in January 2018, includes a more detailed analysis, including the development of revenue recognition models, data analysis, analyzing implementation options, and finalizing a transition method.  Phase II is on target to be completed by the original target timeframe of late 2018. 

 

Phase III includes identification of system requirements, changes to internal controls and business processes, and final implementation.  Phase III is on target and expected to be completed by the original target timeframe of mid 2019. 

 

Because of the nature of the work that remains, ALJ is unable to reasonably estimate the impact of adoption on its consolidated financial statements.  However, ALJ anticipates the adoption of ASU 2014-09 will expand its revenue-related disclosures.  ALJ’s

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evaluation of the financial impact and related disclosure of the new standard will likely extend over the next several future reporting periods.

 

In February 2016, the FASB issued ASU 2016-02, “Leases.”  ASU 2016-02 requires lessees to recognize a right-of-use asset and corresponding lease liability for all leases with terms of more than 12 months. Recognition, measurement, and presentation of expenses will depend on classification as either a finance or operating lease. ASU 2016-02 also requires certain quantitative and qualitative disclosures. The provisions of ASU 2016-02 should be applied on a modified retrospective basis.   ASU 2016-02 will be effective for ALJ on October 1, 2020.  The adoption of ASU 2016-02 will result in a material increase to the Company’s consolidated balance sheets for lease liabilities and right-of-use assets. The Company is currently evaluating the other effects the adoption of ASU 2016-02 will have on its consolidated financial statements and related disclosures.

 

In June 2018, the FASB issued ASU 2018-07, “Compensation-Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting.” This amendment expands the scope of the FASB’s Accounting Standards Codification (“ASC”) Topic 718, Compensation—Stock Compensation (which currently only includes share-based payments to employees) to include share-based payments issued to nonemployees for goods or services. Consequently, the accounting for share-based payments to nonemployees and employees will be substantially aligned.  ASU 2018-07 will be effective for ALJ on October 1, 2019.  ALJ does not anticipate the adoption of ASU 2018-07 to significantly impact its consolidated financial statements.

 

In August 2018, the FASB issued ASU 2018-15, “Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract” to provide guidance on implementation costs incurred in a cloud computing arrangement (“CCA”) that is a service contract. ASU 2018-15 aligns the accounting for such costs with the guidance on capitalizing costs associated with developing or obtaining internal-use software. Specifically, ASU 2018-15 amends ASC 350 to include in its scope implementation costs of a CCA that is a service contract and clarifies that a customer should apply ASC 350-40 to determine which implementation costs should be capitalized in such a CCA.  ASU 2018-15 will be effective for ALJ on October 1, 2021.  ALJ does not anticipate the adoption of ASU 2018-15 to significantly impact its consolidated financial statements.

 

 

3. ACQUISITIONS

Printing Components Business

 

On October 2, 2017 (the “Printing Components Business Purchase Date”), Phoenix acquired certain assets and assumed certain liabilities from LSC Communications, Inc. (“LSC”) and Moore-Langen Printing Company, Inc. related to LCS’s printing and manufacturing services division in Terre Haute, Indiana (“Printing Components Business”).  Total purchase price was $10.0 million in cash, subject to customary net working capital adjustments.  Phoenix withheld $1.0 million from the consideration paid at closing, which was paid subsequent to September 30, 2018.  

The Printing Components Business leverages existing capabilities and core competencies of Phoenix, strengthens its position in the education markets, and expands its revenue into new markets.

As part of the Printing Components Business acquisition, Phoenix and LSC entered into a supply agreement (the “Supply Agreement”).  Pursuant to the Supply Agreement, LSC agreed to purchase from Phoenix its print requirements to continue servicing certain of its customers, buy minimum amounts of certain components from Phoenix, and provide Phoenix with a right of last refusal to supply certain non-component work.

Phoenix and ALJ financed the acquisition by borrowing $7.5 million under a term loan with Cerberus, selling an aggregate of $1.5 million of ALJ common stock in a private offering to two investors who are unaffiliated with ALJ, and using $1.0 million cash from the exercise of stock options by Jess Ravich, Executive Chairman of ALJ.  ALJ amended its financing agreement with Cerberus to facilitate the term loan (Note 7).  

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The following schedule reflects the estimated fair value of assets acquired and liabilities assumed on the Printing Components Business Purchase Date and the purchase price details (in thousands):

 

 

 

Purchase

Price

 

Balance Sheet Caption

 

Allocation

 

Total current assets

 

$

1,767

 

Fixed assets

 

 

2,273

 

Identified intangible asset - supply agreement

 

 

4,700

 

Goodwill

 

 

1,408

 

Total assets

 

 

10,148

 

Total current liabilities

 

 

(148

)

Purchase price

 

$

10,000

 

 

 

 

 

 

Break Out of Components of Purchase Price Consideration

 

 

 

 

Term loan (Note 7)

 

$

7,500

 

Common stock issued (Note 9)

 

 

1,500

 

Cash received from exercise of stock option

 

 

1,000

 

Purchase price

 

$

10,000

 

 

The Company accounted for the Printing Components Business acquisition using the purchase method of accounting. Accordingly, the assets and liabilities were recorded at their fair values at the date of acquisition. The excess of the purchase price over the fair value of the tangible and intangible assets acquired and the liabilities assumed was recorded as goodwill. During the measurement period, if new information is obtained about facts and circumstances that existed as of the acquisition date, cumulative changes in the estimated fair values of the net assets recorded may change the amount of the purchase price allocable to goodwill. During the measurement period, which expires one year from the acquisition date, changes to any purchase price allocations that are material to the Company's consolidated financial results will be adjusted in the reporting period in which the adjustment amount is determined.

During the year ended September 30, 2018, the Printing Components Business recorded net revenue of $15.7 million.  Because the Printing Components Business was closely aligned with Phoenix’s existing business, including the overlap of customers, its operations were immediately integrated into operations, and financial metrics other than net revenue were not separately tracked, and therefore, not disclosed.    

Customer Management Outsourcing Business

On May 26, 2017 (the “CMO Business Purchase Date”), Faneuil acquired certain assets and assumed certain liabilities associated with the customer management outsourcing business (“CMO Business”) of Vertex Business Services LLC.  

Faneuil purchased the CMO Business to expand into the utilities market by providing direct customer care call center operations, back-office processes, including billing, collections and business analytics, and installation and cloud-based customer care support for the utilities industry.

F-15


 

The following schedule reflects the fair value of assets acquired and liabilities assumed on the CMO Business Purchase Date and the purchase price details (in thousands):

 

 

 

Purchase

Price

 

Balance Sheet Caption

 

Allocation

 

Total current assets

 

$

3,947

 

Fixed assets

 

 

553

 

Identified intangible assets:

 

 

 

 

Customer relationships

 

 

3,790

 

Supply agreements/contract backlog

 

 

5,418

 

Non-compete agreements

 

 

250

 

Goodwill

 

 

1,547

 

Total assets

 

 

15,505

 

Total current liabilities

 

 

(2,760

)

Purchase price

 

$

12,745

 

 

 

 

 

 

Break Out of Components of Purchase Price Consideration

 

 

 

 

Line of credit (Note 7)

 

$

5,500

 

Common stock issued (Note 9)

 

 

4,708

 

Cash

 

 

2,537

 

Purchase price

 

$

12,745

 

 

During the years ended September 30, 2018 and 2017, the CMO Business recorded $34.5 million and $12.6 million of net revenue, respectively.  Because the CMO Business has been integrated into Faneuil operations, financial metrics other than net revenue were not separately tracked, and therefore, not disclosed.

 

During the year ended September 30, 2017, the Company incurred approximately $0.3 million of acquisition-related costs in connection with the CMO Business, which were expensed to selling, general, and administrative expense as incurred.

 

 

4. CONCENTRATION RISKS

Cash

The Company maintains its cash balances in accounts, which, at times, may exceed federally insured limits. The Company has not experienced any losses in such accounts and believes there is little or no exposure to any significant credit risk.

Major Customers and Accounts Receivable

ALJ did not have any customer with net revenue in excess of 10% of consolidated net revenue during the years ended September 30, 2018 and 2017.  Each of ALJ’s segments had customers that represented more than 10% of their respective net revenue, as described below.  

Faneuil.  The percentage of Faneuil net revenue derived from its significant customers was as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Customer A

 

 

15.4

%

 

 

17.7

%

Customer B

 

 

11.2

 

 

 

12.3

 

Customer C

 

 

10.7

 

 

**

 

Customer D

 

**

 

 

 

10.5

 

 

**

Less than 10% of Faneuil net revenue.

 

F-16


 

Trade receivables from these customers totaled $9.9 million at September 30, 2018.  As of September 30, 2018, all Faneuil accounts receivable were unsecured.  The risk with respect to accounts receivable is mitigated by credit evaluations performed on customers and the short duration of payment terms extended to customers.

 

Carpets.  The percentage of Carpets net revenue derived from its significant customers was as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Customer A

 

 

27.7

%

 

 

24.3

%

Customer B

 

 

22.7

 

 

 

33.8

 

Customer C

 

 

21.3

 

 

 

17.7

 

    

Trade receivables from these customers totaled $3.5 million at September 30, 2018.  As of September 30, 2018, all Carpets accounts receivable were unsecured.  The risk with respect to accounts receivables is mitigated by credit evaluations performed on customers and the short duration of payment terms extended to customers.

Phoenix.  The percentage of Phoenix net revenue derived from its significant customers was as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Customer A

 

 

19.3

%

 

 

18.8

%

Customer B

 

 

17.4

 

 

**

 

Customer C

 

 

11.4

 

 

 

13.0

 

 

 

 

 

 

 

 

 

 

    

**

Less than 10% of Phoenix net revenue.

Trade receivables from these customers totaled $5.5 million at September 30, 2018.  As of September 30, 2018, all Phoenix accounts receivable were unsecured.  The risk with respect to accounts receivable is mitigated by credit evaluations performed on customers and the short duration of payment terms extended to customers.

Supplier Risk

ALJ did not have any suppliers that represented more than 10% of consolidated inventory purchases.   However, two of ALJ’s segments had suppliers that represented more than 10% of their respective inventory purchases as described below.  

Carpets.  The percentage of Carpets inventory purchases from its significant suppliers was as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Supplier A

 

 

20.8

%

 

 

20.4

%

Supplier B

 

 

14.0

 

 

 

11.8

 

Supplier C

 

 

11.8

 

 

 

11.3

 

Supplier D

 

**

 

 

 

16.5

 

 

**

Less than 10% of Carpets inventory purchases.

 

If these suppliers were unable to provide materials on a timely basis, Carpets management believes alternative suppliers could provide the required materials with minimal disruption to the business.

Phoenix.  The percentage of Phoenix inventory purchases from its significant suppliers was as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Supplier A

 

 

26.8

%

 

 

27.8

%

Supplier B

 

 

10.2

 

 

 

10.3

 

 

If these suppliers were unable to provide materials on a timely basis, Phoenix management believes alternative suppliers could provide the required supplies with minimal disruption to the business.

F-17


 

 

 

5. COMPOSITION OF CERTAIN FINANCIAL STATEMENT CAPTIONS

Accounts Receivable, Net

The following table summarizes accounts receivable at the end of each reporting period (in thousands):

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Accounts receivable

 

$

42,815

 

 

$

47,216

 

Unbilled receivables

 

 

3,776

 

 

 

3,071

 

Accounts receivable

 

 

46,591

 

 

 

50,287

 

Less: allowance for doubtful accounts

 

 

(208

)

 

 

(830

)

Accounts receivable, net

 

$

46,383

 

 

$

49,457

 

Inventories, Net

The following table summarizes inventories at the end of each reporting period (in thousands):

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Raw materials

 

$

4,017

 

 

$

3,127

 

Semi-finished goods/work in process

 

 

2,298

 

 

 

4,064

 

Finished goods

 

 

1,566

 

 

 

2,378

 

Inventories

 

 

7,881

 

 

 

9,569

 

Less:  allowance for obsolete inventory

 

 

(225

)

 

 

(193

)

Inventories, net

 

$

7,656

 

 

$

9,376

 

 

Property and Equipment

The following table summarizes property and equipment at the end of each reporting period (in thousands):

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Machinery and equipment

 

$

24,900

 

 

$

22,753

 

Building and improvements

 

 

16,459

 

 

 

15,593

 

Software

 

 

15,749

 

 

 

12,276

 

Leasehold improvements

 

 

15,434

 

 

 

8,997

 

Computer and office equipment

 

 

11,319

 

 

 

10,344

 

Land

 

 

9,267

 

 

 

9,167

 

Construction in process

 

 

4,527

 

 

 

136

 

Furniture and fixtures

 

 

3,834

 

 

 

3,595

 

Vehicles

 

 

342

 

 

 

229

 

Property and equipment

 

 

101,831

 

 

 

83,090

 

Less: accumulated depreciation and amortization

 

 

(41,669

)

 

 

(28,755

)

Property and equipment, net

 

$

60,162

 

 

$

54,335

 

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Property and equipment depreciation and amortization expense, including amounts related to capitalized leased assets, was $13.6 million and $12.1 million for the years ended September 30, 2018 and 2017, respectively.  

Goodwill

The following table summarizes goodwill by reportable segment at the end of each reporting period (in thousands):

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Faneuil

 

$

21,276

 

 

$

21,276

 

Carpets

 

 

2,555

 

 

 

2,555

 

Phoenix

 

 

32,541

 

 

 

31,133

 

Goodwill

 

$

56,372

 

 

$

54,964

 

 

Intangible Assets

The following table summarizes identified intangible assets at the end of each reporting period (in thousands):

 

 

 

September 30, 2018

 

 

September 30, 2017

 

 

 

Gross

 

 

Accumulated

Amortization

 

 

Net

 

 

Gross

 

 

Accumulated

Amortization

 

 

Net

 

Customer relationships

 

$

34,400

 

 

$

(10,329

)

 

$

24,071

 

 

$

34,400

 

 

$

(7,446

)

 

$

26,954

 

Trade names

 

 

10,760

 

 

 

(1,573

)

 

 

9,187

 

 

 

10,760

 

 

 

(1,143

)

 

 

9,617

 

Supply agreements/contract backlog

 

 

10,358

 

 

 

(1,836

)

 

 

8,522

 

 

 

5,658

 

 

 

(420

)

 

 

5,238

 

Non-compete agreements

 

 

2,330

 

 

 

(1,811

)

 

 

519

 

 

 

3,030

 

 

 

(1,858

)

 

 

1,172

 

Internal software

 

 

580

 

 

 

(479

)

 

 

101

 

 

 

580

 

 

 

(382

)

 

 

198

 

Totals

 

$

58,428

 

 

$

(16,028

)

 

$

42,400

 

 

$

54,428

 

 

$

(11,249

)

 

$

43,179

 

 

Intangible asset amortization expense was $5.5 million and $4.5 million for the years ended September 30, 2018 and 2017, respectively.

 

The following table presents expected annual amortization expense as of September 30, 2018 (in thousands):

 

Year Ended September 30,

 

Estimated

Future

Amortization

 

2019

 

$

5,100

 

2020

 

 

4,800

 

2021

 

 

4,485

 

2022

 

 

4,067

 

Thereafter

 

 

23,948

 

Total

 

$

42,400

 

 

F-19


 

Accrued Liabilities

The following table summarizes accrued liabilities at the end of each reporting period (in thousands):

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Accrued compensation and related taxes

 

$

7,275

 

 

$

7,370

 

Call center buildouts**

 

 

2,700

 

 

 

 

Rebates payable

 

 

1,491

 

 

 

2,014

 

Legal and other

 

 

1,123

 

 

 

1,466

 

Interest payable

 

 

676

 

 

 

651

 

Medical and benefit-related payables

 

 

609

 

 

 

431

 

Sales tax payable

 

 

193

 

 

 

151

 

Deferred rent

 

 

174

 

 

 

208

 

Accrued board of director fees

 

 

130

 

 

 

370

 

Total accrued expenses

 

$

14,371

 

 

$

12,661

 

**At September 30, 2018, Faneuil had total liabilities and commitments of $9.6 million to buildout three new call centers.  $2.7 million was recorded to accrued liabilities, $3.4 million was recorded to other non-current liabilities, and $3.5 million was disclosed as a commitment.  See Note 8.

Debt

The following table summarizes ALJ’s line of credit, and current and noncurrent term loan payables at the end of each reporting period (in thousands):

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Line of credit:

 

 

 

 

 

 

 

 

Line of credit

 

$

8,739

 

 

$

5,500

 

Less: deferred loan costs

 

 

(145

)

 

 

(170

)

Line of credit, net of deferred loan costs

 

 

8,594

 

 

 

5,330

 

Current portion of term loan:

 

 

 

 

 

 

 

 

Current portion of term loan

 

$

9,470

 

 

$

12,764

 

Less: deferred loan costs

 

 

(875

)

 

 

(916

)

Current portion of term loan, net of deferred loan

   costs

 

 

8,595

 

 

 

11,848

 

Term loan payable, less current portion:

 

 

 

 

 

 

 

 

Term loan payable, less current portion

 

$

75,504

 

 

$

78,254

 

Less: deferred loan costs

 

 

(709

)

 

 

(1,501

)

Term loan payable, less current portion, net of

   deferred loan costs

 

$

74,795

 

 

$

76,753

 

 

6. (LOSS) EARNINGS PER SHARE

ALJ computed basic and diluted (loss) earnings per common share for each period as follows (in thousands, except per share amounts):

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Net (loss) income

 

$

(7,332

)

 

$

15,673

 

Weighted average shares of common stock outstanding – basic

 

 

37,856

 

 

 

35,208

 

Potentially dilutive effect of options to purchase common

   stock

 

 

 

 

 

978

 

Weighted average shares of common stock outstanding –

   diluted

 

 

37,856

 

 

 

36,186

 

Basic (loss) earnings per share of common stock

 

$

(0.19

)

 

$

0.45

 

Diluted (loss) earnings per share of common stock

 

$

(0.19

)

 

$

0.43

 

 

F-20


 

ALJ computed basic (loss) earnings per share of common stock using net (loss) income divided by the weighted average number of shares of common stock outstanding during the period.  ALJ computed diluted (loss) earnings per share of common stock using net (loss) income divided by the weighted average number of shares of common stock outstanding plus potentially dilutive shares of common stock outstanding during the period. Potentially dilutive shares issuable upon exercise of options to purchase common stock were determined by applying the treasury stock method to the assumed exercise of outstanding stock options.  

 

Common stock equivalents of 1.7 million and 1.4 million were not considered in calculating ALJ’s diluted (loss) earnings per common share for the years ended September 30, 2018 and 2017, respectively, as their effect would be anti-dilutive.  

 

 

7. DEBT

Term Loan and Line of Credit

 

In August 2015, ALJ entered into a financing agreement (“Financing Agreement”) with Cerberus Business Finance, LLC (“Cerberus”), to borrow $105.0 million in a term loan (“Cerberus Term Loan”) and have available up to $30.0 million in a revolving loan (“Cerberus/PNC Revolver,” and together with the Cerberus Term Loan, the “Cerberus Debt”).  As of September 30, 2018, ALJ had entered into three amendments to the Financing Agreement.  The Financing Agreement and the amendments thereto are summarized below (dollars in thousands):

 

Description

 

Use of

Proceeds

 

Origination

Date

 

Interest

Rate *

 

Quarterly

Payments

 

 

Balance at

September 30, 2018

 

Term Loan:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing Agreement

 

Phoenix acquisition

 

August 2015

 

7.99% to 9.0%

 

$

1,969

 

 

$

70,670

 

First Amendment

 

Color Optics acquisition

 

July 2016

 

7.99% to 9.0%

 

 

187

 

 

 

7,698

 

Third Amendment

 

Printing Components Business acquisition

 

October 2017

 

7.99% to 9.0%

 

 

141

 

 

 

6,606

 

 

 

 

 

 

 

Totals

 

$

2,297

 

 

$

84,974

 

Line of Credit:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cerberus/PNC Revolver

 

Working capital

 

August 2015

 

7.99% to 11.0%

 

$

 

 

$

8,739

 

 

*

Range of annual interest rates accrued during the year ended September 30, 2018.  

Interest payments are due in arrears on the first day of each month.  Quarterly principal payments are due on the last day of each fiscal quarter.  Annual principal payments equal to 75% of ALJ’s excess cash flow (“ECF”), as defined in the Financing Agreement, are due upon delivery of the audited financial statements.  During the year ended September 30, 2018 ALJ made an ECF payment of $4.1 million, and mandatory payments totaling $0.2 million as a result of receiving proceeds from sales of assets.  A final balloon payment is due at maturity, August 14, 2020.

The Cerberus Debt is secured by substantially all the Company’s assets and imposes certain limitations on the Company, including its ability to incur debt, grant liens, initiate certain investments, declare dividends and dispose of assets.  The Cerberus Debt also requires ALJ to comply with certain debt covenants.  As of September 30, 2018, ALJ was in compliance with all debt covenants and had unused borrowing capacity of $14.4 million.

Contingent Loan Costs

 

As part of the Second Amendment, ALJ paid Cerberus an amendment fee (see Deferred Loan Costs below). Additionally, as part of the Second Amendment, ALJ is required to pay a fee in each of three consecutive annual periods commencing May 27, 2018 and ending on the termination date, if at any time during each annual period there are any amounts outstanding on the Cerberus/PNC Revolver (“Contingent Payments”).   Such Contingent Payments become due and payable on the first day within each annual period there is an outstanding balance on the Cerberus/PNC Revolver.  During the year ended September 30, 2018, ALJ paid the first Contingent Payment, which was added to deferred loan costs and is being amortized to interest expense through April 30, 2019.

Deferred Loan Costs

During the years ended September 30, 2018 and 2017, ALJ paid legal fees, other fees, and Contingent Payments, totaling $0.4 million and $0.2 million, respectively, which were deferred and are being amortized to interest expense over the life of the debt.

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Cerberus Debt Estimated Future Minimum Payments

As of September 30, 2018, estimated future minimum payments are as follows (in thousands): 

 

Year Ended September 30,

 

Estimated

Future

Minimum Payments

 

2019

 

$

9,470

 

      2020*

 

 

84,243

 

Total

 

$

93,713

 

 

*

The majority of this amount is the final balloon payment due at maturity, August 14, 2020.

 

In November 2018, ALJ entered into the fourth amendment to the Financing Agreement.  See Note 13.

Capital Lease Obligations

Faneuil and Phoenix lease equipment under non-cancelable capital leases. As of September 30, 2018, future minimum payments under non-cancelable capital leases with initial or remaining terms of one year or more are as follows (in thousands):

 

Year Ended September 30,

 

Estimated

Future

Payments

 

2019

 

$

3,117

 

2020

 

 

2,315

 

2021

 

 

1,145

 

2022

 

 

535

 

2023

 

 

526

 

Thereafter

 

 

177

 

Total minimum required payments

 

 

7,815

 

Less: current portion of capital lease obligations

 

 

(2,909

)

Less: imputed interest

 

 

(479

)

Capital lease obligations, less current portion

 

$

4,427

 

 

8. COMMITMENTS AND CONTINGENCIES

Operating Leases

The Company leases real estate, equipment, and vehicles under noncancellable operating leases. As of September 30, 2018, future minimum rental commitments under noncancellable leases were as follows (in thousands):

 

Year Ended September 30,

 

Future

Minimum

Lease

Payments

 

     2019

 

$

5,881

 

     2020

 

 

4,716

 

     2021

 

 

3,868

 

     2022

 

 

2,744

 

     2023

 

 

2,695

 

     Thereafter

 

 

16,123

 

Total

 

$

36,027

 

 

During the years ended September 30, 2018 and 2017 rental expense under operating leases was $6.9 million and $5.8 million, respectively.

F-22


 

Employment Agreements

ALJ maintains employment agreements with certain key executive officers that provide for a base salary and annual bonus to be determined by the Board of Directors.  The agreements also provide for termination payments, which includes base salary and performance bonus, stock options, non-competition provisions, and other terms and conditions of employment.  As of September 30, 2018, termination payments related to base salary totaled $1.2 million.

Surety Bonds

In the normal course of operations, certain Faneuil customers require surety bonds guaranteeing the performance of a contract.  As of September 30, 2018, the face value of such surety bonds, which represents the maximum cash payments that Faneuil would have to make under certain circumstances of non-performance, was $29.6 million.  To date, Faneuil has not made any non-performance payments.

Letter of Credit

Faneuil had a letter of credit for $2.6 million as of September 30, 2018.

Leasehold Improvements

 

At September 30, 2018 Faneuil had commitments that totaled $3.5 million to buildout three new call centers.   Faneuil expects to complete all three call centers within the next 12 months.  See related accrued liabilities at Note 5.

Litigation, Claims, and Assessments

Faneuil, Inc. v. 3M Company

On September 22, 2016, Faneuil filed a complaint against 3M Company (“3M”) in the Circuit Court for the City of Richmond, Virginia.  The dispute arose out of a subcontract entered into between 3M and Faneuil in relation to a toll road project in Portsmouth, Virginia.  In its complaint, Faneuil sought recovery of $5.1 million based on three causes of action: breach of contract, breach of the implied covenant of good faith and fair dealing, and unjust enrichment. 

On October 14, 2016, 3M filed its answer and counterclaim against Faneuil.  In its counterclaim, 3M sought recovery in excess of $10.0 million based on three claims:  breach of contract/indemnification, breach of the implied covenant of good faith and fair dealing, and unjust enrichment.  3M’s counterclaim alleged it incurred approximately $3.2 million in damages payable to ERC as a result of Faneuil’s conduct and sought indemnification of an additional $10.0 million in damages incurred as a result of continued performance under its contract with ERC.

 

The matter was tried in a bench trial from April 30, 2018 through May 2, 2018.  On May 15, 2018, the Circuit Court for the City of Richmond, Virginia (the “Richmond Circuit Court”) issued its opinion, which dismissed both Faneuil’s complaint and 3M’s counterclaim with prejudice.  No monetary damages were awarded to either Faneuil or 3M.   As a result of the Richmond Circuit Court’s opinion, ALJ recorded a non-cash litigation loss of $2.9 million (the outstanding unreserved receivable from 3M), which was included with selling, general and administrative expense during the year ended September 30, 2018. Faneuil has filed an appeal of the Richmond Circuit Court’s judgment.

 

McNeil, et al. v. Faneuil, Inc.

Tammy McNeil, a former Faneuil call center employee, filed a Fair Labor Standards Act collective action case against Faneuil in federal court in Newport News, Virginia in 2015.  The class action asserted various timekeeping and overtime violations, which Faneuil denied.  On June 6, 2017, the case was settled by the parties as part of a court-ordered mediation, for $0.3 million in damages, plus plaintiff’s attorney fees.  Because the parties could not agree on the dollar amount of plaintiff’s attorney fees, both parties agreed to allow the court to determine the amount.  The court awarded $0.7 million in attorney’s fees and overruled Faneuil’s objections to the recommendation of the magistrate judge relating to that amount.  Neither party appealed the decision.  As of September 30, 2018, all amounts were paid.

Marshall v. Faneuil, Inc.

On July 31, 2017, plaintiff Donna Marshall (“Marshall”), filed a proposed class action lawsuit in the Superior Court of the State of California for the County of Sacramento against Faneuil and ALJ. Marshall, a previously terminated Faneuil employee, alleges

F-23


 

various California state law employment-related claims against Faneuil.  Faneuil has answered the complaint and removed the matter to the United States District Court for the Eastern District of California; however, Marshall filed a motion to remand the case back to state court. The motion to remand has been fully briefed and argued and remains pending before the court.  The case is in early discovery at this time. Faneuil believes this action is without merit and intends to defend it vigorously.

Other Litigation

The Company has been named in, and from time to time may become named in, various other lawsuits or threatened actions that are incidental to our ordinary business. Litigation is inherently unpredictable. Any claims against the Company, whether meritorious or not, could be time-consuming, cause the Company to incur costs and expenses, require significant amounts of management time and result in the diversion of significant operational resources. The results of these lawsuits and actions cannot be predicted with certainty.  The Company concluded as of September 30, 2018 that the ultimate resolution of these matters (including the matters described above) will not have a material adverse effect on the Company’s business, consolidated financial position, results of operations or cash flows.

Environmental Matters

The operations of Phoenix are subject to various laws and related regulations governing environmental matters.  Under such laws, an owner or lessee of real estate may be liable for the costs of removal or remediation of certain hazardous or toxic substances located on or in, or emanating from, such property, as well as investigation of property damage.  Phoenix incurs ongoing expenses associated with the performance of appropriate monitoring and remediation at certain of its locations.

 

 

9. EQUITY

Common Stock Activity during the Year Ended September 30, 2018

ALJ’s common stock activity for the year ended September 30, 2018 consisted of the following:

 

Sold 477,706 shares of common stock, at $3.14 per share, to two unaffiliated shareholders in connection with financing the Moore-Langen acquisition (Note 3);

 

Issued 102,102 and 189,319 shares of common stock to members of ALJ’s Board of Directors as compensation for the periods from July 1, 2017 to June 30, 2018 and from July 1, 2016 to June 30, 2017, respectively.  See “Common Stock Awards” below for further discussion; and

 

Issued 300,000 shares of common stock upon the exercise of options at a weighted-average exercise price of $0.93 per share.

Common Stock Activity during the Year Ended September 30, 2017

ALJ’s common stock activity for the year ended September 30, 2017, consisted of the following:

 

Issued 1,466,667 shares of common stock in connection with the CMO Business acquisition (Note 3). The common stock was valued at $3.21 per share, which was the closing price of ALJ common stock as listed on the NASDAQ Global Market on the CMO Business Purchase Date; and

 

Issued 1,000,000 shares of common stock upon exercise of stock option by ALJ’s Executive Chairman at an exercise price of $1.00 per share.

 

Preferred Stock

 

In August 2018, ALJ shareholders approved the amendment and restatement of ALJ’s Restated Certificate of Incorporation to eliminate the preferred stock and authorize the issuance of 5.0 million shares of blank check preferred stock.  ALJ had no preferred stock outstanding at September 30, 2018.

F-24


 

Equity Incentive Plans

On July 11, 2016, ALJ shareholders approved ALJ’s Omnibus Equity Incentive Plan (“2016 Plan”), which allows ALJ and its subsidiaries to grant securities of ALJ to officers, employees, directors or consultants.  ALJ believes that equity-based compensation is fundamental to attracting, motivating and retaining highly-qualified dedicated employees who have the skills and experience required to achieve business goals.  Further, ALJ believes the 2016 Plan aligns the compensation of directors, officers, and employees with shareholder interest.  

 

The 2016 Plan is administered by ALJ’s Compensation, Nominating and Corporate Governance Committee (“Committee”) of the Board.  The maximum aggregate number of common stock shares that may be granted under the 2016 Plan is 2,000,000.  The 2016 Plan generally provides for the grant of qualified or nonqualified stock options, restricted stock and restricted stock units, unrestricted stock, stock appreciation rights, performance awards and other awards.  The Committee has full discretion to set the vesting criteria.  The exercise price of a stock option may not be less than 100% of the fair market value of ALJ’s common stock on the date of grant. The 2016 Plan prohibits the repricing of outstanding stock options without prior shareholder approval. The term of stock options granted under the 2016 Plan may not exceed ten years.  Awards are subject to accelerated vesting upon a change in control in the event the acquiring company does not assume the awards.  The Board may amend, alter, or discontinue the 2016 Plan, but shall obtain shareholder approval of any amendment as required by applicable law or stock exchange listing requirements. As of September 30, 2018, there were 1,260,000 options available for future grant under the 2016 Plan.

Prior to the approval of the 2016 Plan, ALJ issued stock options that were approved by ALJ’s board of directors on a case-by-case basis.  

Stock-Based Compensation Expense  

The following table sets forth the total stock-based compensation expense included in ALJ’s statements of operations (in thousands):

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Stock options

 

$

639

 

 

$

452

 

Common stock award

 

 

415

 

 

 

358

 

 

 

$

1,054

 

 

$

810

 

 

At September 30, 2018, ALJ had approximately $0.6 million of total unrecognized compensation cost related to unvested stock options. This cost is expected to be recognized over a weighted-average period of approximately 2.0 years.

 

Stock Option Activity and Outstanding

The following table summarizes stock option activity during the years ended September 30, 2018 and 2017:

 

 

 

Number

of

Shares

 

 

Weighted-Average

Exercise

Price

 

Outstanding at September 30, 2016

 

 

2,284,000

 

 

$

2.15

 

Exercised

 

 

(1,000,000

)

 

 

1.00

 

Granted

 

 

620,000

 

 

 

3.25

 

Outstanding at September 30, 2017

 

 

1,904,000

 

 

 

3.11

 

Exercised

 

 

(300,000

)

 

 

0.93

 

Granted

 

 

160,000

 

 

 

2.17

 

Forfeited or expired

 

 

(90,000

)

 

 

3.61

 

Outstanding at September 30, 2018

 

 

1,674,000

 

 

 

3.38

 

Vested or Expected to Vest at September 30, 2018

 

 

1,674,000

 

 

$

3.38

 

 

F-25


 

The following table summarizes all options outstanding and exercisable by price range as of September 30, 2018:

 

 

 

 

 

 

 

Options Outstanding

 

 

Options Exercisable

 

Range of

Exercise Price

 

Number

Outstanding

 

 

Weighted-

Average

Remaining

Contractual

Life

 

 

Weighted-

Average

Exercise

Price

 

 

Number

Exercisable

 

 

Weighted-

Average

Exercise

Price

 

$1.00

 

 

134,000

 

 

 

1.90

 

 

$

1.00

 

 

 

134,000

 

 

$

1.00

 

$2.10 - $3.33

 

 

740,000

 

 

 

8.98

 

 

 

3.02

 

 

 

206,667

 

 

 

3.25

 

$4.00 - $4.27

 

 

800,000

 

 

 

5.17

 

 

 

4.12

 

 

 

683,334

 

 

 

4.09

 

 

 

 

1,674,000

 

 

 

6.59

 

 

 

3.38

 

 

 

1,024,001

 

 

 

3.52

 

 

The “intrinsic value” of options is the excess of the value of ALJ stock over the exercise price of such options.  The total intrinsic value of options outstanding (of which all are vested or expected to vest) was approximately $0.1 million and $1.2 million at September 30, 2018 and 2017, respectively.  The total intrinsic value for exercisable options was $0.1 and $1.1 million at September 30, 2018 and 2017, respectively. The total intrinsic value of options exercised during the years ended September 30, 2018 and 2017 was $0.7 million and $2.1 million, respectively.

Common Stock Awards

ALJ’s board of directors receive a director compensation package that includes an annual common stock award.  In connection with such awards, ALJ recorded stock-based compensation expense of $0.4 million during both the years ended September 30, 2018 and 2017.  

 

10. INCOME TAXES

(Loss) income before taxes and the provision for (benefit from) income taxes for the years ended September 30, 2018 and 2017 consisted of the following (in thousands):

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

(Loss) income before income taxes

 

$

(3,033

)

 

$

3,249

 

(Provision for) benefit from income taxes:

 

 

 

 

 

 

 

 

Current:

 

 

 

 

 

 

 

 

Federal

 

 

 

 

 

120

 

State

 

 

(886

)

 

 

(178

)

Total current (provision for) benefit from income taxes, net

 

 

(886

)

 

 

(58

)

Deferred:

 

 

 

 

 

 

 

 

Federal

 

 

(3,437

)

 

 

12,263

 

State

 

 

24

 

 

 

219

 

Total (provision for) benefit from deferred income taxes

 

 

(3,413

)

 

 

12,482

 

Total (provision for) benefit from income taxes

 

$

(4,299

)

 

$

12,424

 

Effective tax rate

 

 

(141.7

)%

 

 

(382.4

)%

 

The difference between the statutory federal income tax rate and the effective tax rate for the years ended September 30, 2018 and 2017 was as follows:

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Statutory federal income tax rate

 

 

28.1

%

 

 

35.0

%

Increase (reduction) in rate resulting from:

 

 

 

 

 

 

 

 

Change in valuation allowance and other

 

 

202.5

 

 

 

(426.8

)

Permanent differences

 

 

0.4

 

 

 

(6.8

)

State tax, net of federal benefit

 

 

(5.3

)

 

 

16.2

 

Change in corporate tax rate

 

 

(367.4

)

 

 

 

Effective tax rate

 

 

(141.7

)%

 

 

(382.4

)%

 

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Deferred tax assets and liabilities are included in the financial statements at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled.  Significant components of the Company’s deferred tax assets and liabilities as of September 30, 2018 and 2017 were as follows (in thousands):

 

 

 

Year Ended September 30,

 

 

 

2018

 

 

2017

 

Deferred tax assets:

 

 

 

 

 

 

 

 

Net operating loss carryforward

 

$

30,301

 

 

$

53,996

 

Accrued expenses and other

 

 

1,720

 

 

 

2,475

 

Other (WOTC and AMT credit carryforward)

 

 

1,881

 

 

 

1,956

 

Deferred revenue

 

 

771

 

 

 

1,463

 

Allowance for doubtful accounts

 

 

48

 

 

 

326

 

Gross deferred tax assets

 

 

34,721

 

 

 

60,216

 

Less: valuation allowance

 

 

(17,718

)

 

 

(30,691

)

Net deferred tax assets

 

 

17,003

 

 

 

29,525

 

 

 

 

 

 

 

 

 

 

Deferred tax liabilities:

 

 

 

 

 

 

 

 

Intangible assets

 

 

(6,108

)

 

 

(10,375

)

Land and depreciable assets

 

 

(2,927

)

 

 

(7,221

)

Prepaid expenses

 

 

(329

)

 

 

(877

)

Total deferred tax liabilities

 

 

(9,364

)

 

 

(18,473

)

Net deferred tax assets

 

$

7,639

 

 

$

11,052

 

 

United States Tax Reform

On December 22, 2017, the President of the United States signed and enacted into law H.R. 1 (the “Tax Reform Law”). The Tax Reform Law, effective for tax years beginning on or after January 1, 2018, except for certain provisions, resulted in significant changes to existing United States tax law, including various provisions that will impact ALJ.  Below is a summary of the provisions of the Tax Reform Law that management believes will be most impactful to ALJ.

Federal Corporate Tax Rate Reduction.  The Tax Reform Law reduces the federal corporate tax rate from 35% to 21% effective January 1, 2018. Pursuant to Section 15 of the Internal Revenue Code (“IRC”), ALJ will apply a blended corporate tax rate of 28.1%, which is based on the applicable tax rates before and after the Tax Reform Law and the number of days in ALJ’s initial tax year under the Tax Reform Law, which ends June 30, 2018. Subsequent to June 30, 2018, the federal corporate tax rate will be 21%.

Interest Expense Limitation.  Effective January 1, 2018, the Tax Reform Law disallows the deduction for interest expense in excess of 30% of “adjusted taxable income” as defined by the IRC.  

Bonus Depreciation.  The Tax Reform Law allows for the immediate deduction of 100% of eligible property placed in-service after September 27, 2017, and before January 1, 2023. For certain property with longer production periods, the 100% bonus depreciation is extended through December 31, 2023.      

Pursuant to ASC Topic 740-10, “Income Taxes,” ALJ recognized the effect of the Tax Reform Law on deferred tax assets and liabilities during its first fiscal quarter of 2018, which ended December 31, 2017.  As a result of the enacted reduction in the federal corporate income tax rate, ALJ recorded a one-time, non-cash increase to deferred income tax expense of $4.1 million to revalue ALJ’s net deferred tax asset.  The resulting $4.1 million decrease to ALJ’s net deferred tax asset was reasonably estimated, and based on the tax rates at which they are expected to reverse in the future.  ALJ will continue to analyze the provisions of the Tax Reform Law to assess the impact to ALJ’s consolidated financial statements.

Open Tax Returns, Deferred Tax Assets, and Net Operating Loss Carryforward

The Company files income tax returns in the U.S. federal jurisdiction and various states. The years still open to audit under the applicable statutes of limitations are June 30, 2016, through June 30, 2018, for federal and June 30, 2015, through June 30, 2018, for state.  Tax years ending June 30, 2002 through June 30, 2009 generated a net operating loss carry forward and remain subject to examination.  The amount of any tax assessments and penalties may be material and may negatively impact the Company’s operations. Given the uncertainty in the amount and the difficulty in estimating the probability of the assessments arising from future tax examinations, the Company has not made any accruals for such tax contingencies.  No tax returns are currently under examination by any tax authorities.

 

F-27


 

As of September 30, 2018, the Company’s deferred tax assets were primarily the result of U.S. net operating losses carryforwards. As of each reporting date, the Company’s management considers new evidence, both positive and negative, that could impact management’s view with regard to future realization of deferred tax assets  As of September 30, 2018, management reduced the valuation allowance by $13.0 million to $17.7 million from $30.7 million as a result of (i) the aforementioned Tax Reform Law, and (ii) management’s determination that sufficient positive evidence, which included generating taxable income over the past four years and continued taxable income projections.

 

The Company recognizes interest and penalties related to uncertain tax positions in income tax expense. At September 30, 2018 and 2017, the Company does not have a liability for uncertain tax positions. Additionally, the Company does not anticipate that there will be a material change of unrecognized tax benefits within the next 12 months.

 

At September 30, 2018, the Company has net operating loss carryforwards for federal income tax purposes of approximately $144.3 million that begin expiring in 2022. In addition, the use of this net operating loss in future years may be restricted under Section 382 of the Internal Revenue Code due to a potential change of ownership.

 

 

11. RELATED-PARTY TRANSACTIONS  

Revenue

Harland Clarke Holdings Corp. (“Harland Clarke”), a stockholder who owns ALJ shares in excess of five percent, is a counterparty to Faneuil in two contracts.  One contract provides call center services to support Harland Clarke’s banking-related products and renews annual every April. The other contract provided managed print services and concluded September 30, 2018. Faneuil recognized revenue from Harland Clarke totaling $0.3 million and $1.0 million for the years ended September 30, 2018 and 2017, respectively. The associated cost of revenue was $0.3 million and $0.9 million for the years ended September 30, 2018 and 2017, respectively. All revenue from Harland Clarke contained similar terms and conditions as for other transactions of this nature entered into by ALJ.  Total accounts receivable from Harland Clarke was less than $0.1 million and $0.1 million at September 30, 2018 and 2017, respectively.  

 

 

12. REPORTABLE SEGMENTS AND GEOGRAPHIC INFORMATION

Reportable Segments

As discussed in Note 1, ALJ has organized its business along three reportable segments (Faneuil, Carpets, and Phoenix) together with a corporate group for certain support services.  ALJ’s operating segments are aligned on the basis of products, services, and industry.  The accounting policies for segment reporting are the same as for ALJ as a whole.  The Chief Operating Decision Maker (“CODM”) is ALJ’s Executive Chairman. The CODM manages the business, allocates resources to, and assesses the performance of each operating segment using information about its net revenue and segment adjusted EBITDA.  ALJ defines segment adjusted EBITDA as segment net income (loss) before depreciation and amortization, interest expense, litigation loss, restructuring expenses, stock-based compensation, acquisition-related expense, loss (gain) on sales of assets, net, provision for income taxes, and other non-recurring items.  Such amounts are detailed in our segment reconciliation below.   

F-28


 

The following tables present ALJ’s segment information as of or for the years ended September 30, 2018 and 2017 (in thousands):

 

 

 

As of or for the Year Ended September 30, 2018

 

 

 

Faneuil

 

 

Carpets

 

 

Phoenix

 

 

ALJ

 

 

Consolidated

 

Total assets

 

$

93,999

 

 

$

12,447

 

 

$

117,190

 

 

$

7,832

 

 

$

231,468

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net revenue

 

$

188,233

 

 

$

68,404

 

 

$

113,139

 

 

$

 

 

$

369,776

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Segment adjusted EBITDA

 

$

13,127

 

 

$

453

 

 

$

22,077

 

 

$

(2,553

)

 

$

33,104

 

Depreciation and amortization

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(19,048

)

Interest expense

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(10,558

)

Provision for income taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(4,299

)

Litigation loss (note 8)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(2,910

)

Restructuring expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(2,314

)

Lease payments in anticipation of

  facility shutdown

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(250

)

Stock-based compensation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(1,054

)

Acquisition-related expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(280

)

Gain on disposal of assets, net

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

277

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

(7,332

)

 

 

 

 

As of or for the Year Ended September 30, 2017

 

 

 

Faneuil

 

 

Carpets

 

 

Phoenix

 

 

ALJ

 

 

Consolidated

 

Total assets

 

$

93,724

 

 

$

17,747

 

 

$

113,406

 

 

$

14,252

 

 

$

239,129

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net revenue

 

$

158,264

 

 

$

69,725

 

 

$

98,729

 

 

$

 

 

$

326,718

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Segment adjusted EBITDA

 

$

13,110

 

 

$

1,290

 

 

$

18,927

 

 

$

(2,326

)

 

$

31,001

 

Depreciation and amortization

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(16,611

)

Interest expense

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(9,744

)

Stock-based compensation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(810

)

Acquisition-related expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(602

)

Restructuring expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(275

)

Loss on disposal of assets, net

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(8

)

Other income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

298

 

Benefit from income taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

12,424

 

Net income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

15,673

 

 

Geographic Information

Substantially all assets were located in the United States.  Substantially all revenue was earned in the United States.

 

13.  SUBSEQUENT EVENT

 

Fourth Amendment to Financing Agreement

 

On November 28, 2018, ALJ entered into the Fourth Amendment (the “Fourth Amendment”) to the Financing Agreement (note 7).  The Fourth Amendment added a $5.0 million term loan, reduced the maximum availability of the Cerberus/PNC Revolver by $5.0 million to $25.0 million from $30.0 million, extended the maturity date to December 1, 2023, and reduced quarterly term loan amortization payments from $2.3 million to $2.1 million effective December 31, 2018.  The Fourth Amendment amends certain terms and covenants to support the continued growth of the Company and the associated cash required to buildout three new customer call centers to position Faneuil for anticipated increased contract awards, as summarized below:

 

 

an easing of the fixed charge coverage ratio from 1.25:1.00 to (a) 1.05:1.00 for each quarter beginning with the quarter ending December 31, 2018 through the quarter ending September 30, 2020 and (b) 1.10:1.00 for each quarter beginning with the quarter ending December 31, 2020 and for each quarter thereafter; and

 

F-29


 

 

a stepdown in the leverage ratio financial covenant from (a) 3.50:1.00 for each quarter beginning with the quarter ending December 31, 2018 through the quarter ending September 30, 2020, to (b) 3.25:1.00 for each  quarter beginning with the quarter ending December 31, 2020 through the quarter ending September 30, 2021, to (c) 3.00:1.00 for each quarter beginning with the quarter ending December 31, 2021 through the quarter ending September 30, 2022 and to (d) 2.75:1.00 for each  quarter beginning with the quarter ending December 31, 2022 and for each quarter thereafter.

 

In addition, the Fourth Amendment requires the Company, under certain circumstances, to secure not less than $5.0 million of equity or subordinated debt financing on or before February 28, 2019, which will be used to pay down the term loan (the “Alternative Financing Requirement”).

 

 

Backstop Letter Agreement

 

On November 28, 2018, in connection with the Fourth Amendment, the Company entered into a Backstop Letter Agreement with Jess Ravich, the Company’s Chairman and Chief Executive Officer. Pursuant to the Backstop Letter Agreement, Mr. Ravich will provide a “backstop” that would enable the Company to satisfy the Alternative Financing Requirement by agreeing, if the Company is unable to locate alternative financing on terms, conditions and timing reasonably acceptable to it, and if required by the Collateral Agent.  In consideration of Mr. Ravich entering into such backstop arrangement, the Company’s Audit Committee and independent directors reviewed, approved and agreed to a backstop fee package, pursuant to which the Company would (i) pay to Mr. Ravich’s trust a one-time backstop fee of $0.1 million, and (ii) if the purchase of such subordinated debt is required by the Collateral Agent and the Company has failed to secure a financing alternative more advantageous to the Company, to issue to Mr. Ravich’s trust a five-year warrant (the “Warrant”) to purchase 1,500,000 shares of ALJ common stock at an exercise price equal to the average closing price of the Company’s common stock as reported on The Nasdaq Stock Market for the 30 trading days preceding the warrant issuance date.  

 

 

 

F-30


 

ALJ REGIONAL HOLDINGS, INC.

SCHEDULE II — CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS

(in thousands)

 

 

 

Balance at the

Beginning of the Year

 

 

Charged to Costs

and Expenses

 

 

Deductions

 

 

Balance at the

End of the Year

 

Year Ended September 30, 2018:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts

 

$

830

 

 

$

272

 

 

$

(894

)

 

 

208

 

Allowance for obsolete inventory

 

 

193

 

 

 

151

 

 

 

(119

)

 

 

225

 

Rebates payable

 

 

2,014

 

 

 

2,249

 

 

 

(2,500

)

 

 

1,763

 

Workers’ compensation reserve

 

 

2,763

 

 

 

2,248

 

 

 

(2,503

)

 

 

2,508

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended September 30, 2017:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts

 

$

830

 

 

$

171

 

 

$

(171

)

 

$

830

 

Allowance for obsolete inventory

 

 

183

 

 

 

59

 

 

 

(49

)

 

 

193

 

Rebates payable

 

 

1,834

 

 

 

2,707

 

 

 

(2,527

)

 

 

2,014

 

Workers’ compensation reserve

 

 

2,875

 

 

 

2,319

 

 

 

(2,431

)

 

 

2,763

 

 

S-1