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| CAND > SEC Filings for CAND > Form 10-Q on 10-Jun-2004 | All Recent SEC Filings |
10-Jun-2004
Quarterly Report
Safe Harbor Statement under the Private Securities Litigation Reform Act of1995. The statements that are not historical facts contained in this Form 10-Qare forward looking statements that involve a number of known and unknown risks,uncertainties and other factors, all of which are difficult or impossible topredict and many of which are beyond the control of the Company, which may causethe actual results, performance or achievements of the Company to be materiallydifferent from any future results, performance or achievements expressed orimplied by such forward looking statements.
Such factors include, but are not limited to, uncertainty regarding continuedmarket acceptance of current products and the ability to successfully developand market new products, particularly in light of rapidly changing fashiontrends, the impact of supply and manufacturing constraints or difficultiesrelating to the Company's dependence on foreign manufacturers, uncertaintiesrelating to customer plans and commitments, the ability of licensees to sellbranded products, competition, uncertainties relating to economic conditions inthe markets in which the Company or its licensees operate, the ability to hireand retain key personnel, the ability to obtain capital if required, the risksof litigation and regulatory proceedings, the risks of uncertainty of trademarkprotection, the uncertainty of marketing and licensing trademarks and otherrisks detailed below and in the Company's other Securities and ExchangeCommission filings.
The words "believe", "expect", "anticipate", "seek" and similar expressionsidentify forward-looking statements. Readers are cautioned not to place unduereliance on these forward looking statements, which speak only as of the datethe statement, was made.
General Introduction. In May 2003, the Company changed its business model bylicensing the CANDIE'S and BONGO trademarks for footwear to Steven Madden andKCP, respectively, effectively eliminating the Company's operations as theyrelated to the production and distribution of women's and girl's footwear. Inconjunction with the elimination of its footwear operations, the Company closedall of its retail stores during Fiscal 2004. The Company remains in the businessof manufacturing, distributing, selling and marketing jeanswear under the BONGOlabel through its Unzipped division. The Company also markets and sells avariety of men's outdoor boots and casual shoes under private label brandsthrough Bright Star Footwear, LLC ("Bright Star").
The Company's management agreement with Sweet along with the supply anddistribution agreements with Azteca and ADS, respectively, all expire on January31, 2005. However, consistent with the Company's current licensing structure,the Company has recently licensed the rights to BONGO jeanswear to a third partylicensee. (See Note H to the Condensed Consolidated Financial Statements)
As a result of the Company's transitions to a licensing business, the Company'soperating results are not comparable to prior years. Further, since there willbe no net sales attributable to wholesale and retail footwear activities inFiscal 2005 and thereafter as a result of the Company's transition to alicensing business the results for Fiscal 2005 and 2006 are also expected to benon-comparable to Fiscal 2004 and prior years.
Seasonal and Quarterly Fluctuations. The Company's quarterly results mayfluctuate quarter to quarter as a result of its licensees' businesses as well asa result of holidays, weather, the timing of product shipments, marketacceptance of Company products, the mix, pricing and presentation of theproducts offered and sold, the hiring and training of personnel, the timing ofinventory write downs, fluctuations in the cost of materials, the mix betweenwholesale and licensing businesses, and the incurrence of operating costs beyondthe Company's control as may be caused general economic conditions, and otherunpredictable factors such as the action of competitors. Accordingly, theresults of operations in any quarter will not necessarily be indicative of theresults that may be achieved for a full fiscal year or any future quarter.
In addition, the timing of the receipt of future revenues could be impacted bythe recent trend among retailers in the Company's industry to order goods closerto a particular selling season than they have historically done so. The Companycontinues to seek to expand and diversify its product lines under license tohelp reduce the dependence on any particular product line and lessen the impactof the seasonal nature of its business. The success of the Company, however,will still largely remain dependent on its and its licensees ability to contractwith and retain key licensees, to predict accurately upcoming fashion trendsamong its customer base, to build and maintain brand awareness and to fulfillthe product requirements of the retail channel within the shortened timeframerequired. Unanticipated changes in consumer fashion preferences, slowdowns inthe United States economy, changes in the prices of supplies, consolidation ofretail establishments, among other factors noted herein, could adversely affectthe Company's future operating results. The Company's products are marketedprimarily for Fall and Spring seasons, with slightly higher volumes of productssold during the second fiscal quarter.
Effects of Inflation. The Company does not believe that the relatively moderaterates of inflation experienced over the past few years in the United States,where it primarily competes, have had a significant effect on revenues orprofitability.
Summary of Operating Results:
The Company had net income of $33,000 for the quarter ended April 30, 2004("First Quarter") compared to $726,000 for the comparable period of the prioryear. In the First Quarter, there was $99,000 of special charges and $696,000 ofinterest expense as compared to $434,000 of special charges and $873,000 ofinterest expense for the quarter ended April 30, 2003.
The Company's operating income was $729,000 in the First Quarter, comparedto $1.6 million in the comparable prior year quarter.
During Fiscal 2004, the Company exited the operating footwear business,closing its wholesale and retail footwear businesses and granting footwearlicenses to third party licensees, which significantly impacted its operatingresults and its comparability to prior periods.
Results of Operations
For the three months ended April 30, 2004
Revenues. During the First Quarter, consolidated net sales decreased from thecomparable prior year quarter by $29.0 million to $11.8 million. As a result ofthe Company changing to licensing arrangements in its footwear operations in May2003, there were no wholesale or retail women's footwear net sales in the FirstQuarter as compared to $20.0 million in the prior year quarter. There will be nonet sales for wholesale and retail women's footwear for the remainder of Fiscal2005 and thereafter.
Unzipped's net sales decreased by $5.8 million from $17.2 million in the prioryear quarter to $11.4 million in First Quarter. This decrease consists of a $3.4million decrease related to the number of units sold, $2.0 million related tounit price decreases and a $400,000 increase in deductions for returns andallowances. During the quarter ended April 30, 2003, Unzipped sold approximately320,000 units of prior season merchandise in an effort to reduce its inventory.Approximately 70,000 units of prior season merchandise was sold in the FirstQuarter. Deductions for returns and allowances for Unzipped in the First Quarterwere $1.8 million or 13.7% of its gross sales as compared to $1.4 million, or7.4% of its gross sales during the comparable prior year period. This increasereflects a shift in Unzipped's customer base toward department stores, whichrequire more vendor support in the form of markdowns and advertisingcontributions.
Bright Star men's private label footwear net revenues (including commissionincome) decreased from $3.6 million in the prior year quarter to $477,000 in theFirst Quarter. Due to a change in the structure of its customer transactions,whereby the customers open letters of credit directly to manufacturers therebyeliminating Bright Star's inventory risk, Bright Star recorded only the netcommission earned on such transactions in the First Quarter and will continue todo so in the future. While revenues decreased, there is no cost of salesassociated with the net commission income, and gross profit increased from$266,000 in the prior year quarter to $477,000 in the First Quarter, reflectingthe growth in its business with Wal-Mart, which now represents over 90% ofBright Star's sales.
Licensing income increased $758,000, or 64.3% to $1.9 million in the FirstQuarter from $1.2 million in the prior year quarter. The increase was dueprimarily to revenue generated by new licenses as the Company transitioned froman operating footwear business to a licensing business.
Gross Profit. Consolidated gross profit decreased by $7.0 million to $4.9million in the First Quarter from $11.9 million in the prior year quarter. Therewas no gross profit from wholesale and retail women's footwear in the FirstQuarter as compared to $7.4 million in the prior year quarter. Unzipped's grossprofit in First Quarter was $2.5 million, or 22.3 % of its net revenues ascompared to $3.3 million, or 19.2% of net revenues in the prior year quarter.Unzipped's gross profit in the First Quarter included $988,000 adjustment fromthe Shortfall Payment (See Note F to Condensed Consolidated FinancialStatements). Unzipped's gross profit before the adjustment was $1.5 million or13.6% of its net revenues, a 5.6% decrease from 19.2% achieved in the prior yearquarter, primarily resulting from the increase in deductions for returns andallowances discussed above. As discussed above, Bright Star gross profitincreased from $266,000 in the prior year quarter to $477,000 in the FirstQuarter.
Operating Expenses. During the First Quarter, consolidated selling, general andadministrative expenses decreased by $5.8 million to $ 4.1 million from $9.9million in the prior year quarter. Selling, general and administrative expensesrelated to the Company's activities other than Unzipped and Bright Stardecreased by $5.4 million to $1.8 million in the First Quarter as compared to$7.2 million in the comparable prior year period. The decrease resulted from theCompany's closing its wholesale and retail women's footwear operations andtransitioning to a licensing business during the second half of Fiscal 2004. TheCompany anticipates further significant decreases in selling, general andadministrative expenses for the remainder of Fiscal 2005, its first full yearunder the licensing model when compared to the prior year periods.
Unzipped's selling, general and administrative expenses decreased $375,000 inthe First Quarter to $2.1 million as compared to $2.5 million in the prior yearquarter 2003. As a percentage of net sales, Unzipped's selling, general andadministrative expenses increased to 18.4% in the First Quarter as compared to14.3% in prior year quarter. Selling, general and administrative expenses forBright Star were $243,000 in the First Quarter, virtually flat with the prioryear.
For the First Quarter, the Company's special charges included $99,000,consisting primarily of legal and professional fees as compared to $434,000 inthe prior year quarter, which consisted of $352,000 of legal fees related to thesettlement of the Company's SEC investigation and $82,500 penalty paid to Aztecafor late stock registration in connection with the Unzipped acquisition (SeeNote F to Condensed Consolidated Financial Statements)
Interest Expense. Interest expense decreased by $177,000 in the First Quarter to$696,000, compared to $873,000 in the prior year quarter. Included in interestexpense in the First Quarter was $123,000 from Unzipped's revolving creditfacility, as compared to $211,000 in the prior year, a decrease of $88,000. TheUnzipped interest expense decrease resulted from lower average outstandingborrowing and, to a lesser extent, lower average interest rates as compared tothe prior year period. There was no interest expense under the revolving creditfacility for the operating footwear business in the First Quarter, compared to$63,000 in the prior year quarter, as the Company closed its operating wholesaleand retail footwear business. Also included in interest expense in the FirstQuarter was $203,000 from the 8% senior subordinated note in connection with theUnzipped acquisition as compared to $220,000 in the prior year quarter. Interestexpense in the First Quarter associated with the asset backed notes issued byIPH, a subsidiary of the Company was $370,000 as compared to $379,000 in thecomparable period in the prior year.
Income Tax Expense. No tax expense was recorded for the current and prior yearquarter, due to a reduction in the valuation reserve, which offsets the incometax provision.
Net Income. The Company recorded net income of $33,000, compared to $726,000 inthe comparable quarter of prior year.
Liquidity and Capital Resources
Working Capital.
At April 30, 2004, the current ratio of assets to liabilities was 0.87 to 1 ascompared to 0.83 to 1 at April 30, 2003.
The Company continues to rely upon revenues generated from operations,especially licensing and men's private label activity, as well as borrowingsunder Unzipped's revolving loan to finance its operations. Net cash used inoperating activities totaled $594,000 in the First Quarter as compared to netcash used of $2.9 million in the prior year quarter.
Capital Expenditures.
There were $4,000 capital expenditures in the First Quarter as compared to$246,000 for the prior year quarter. The Company does not anticipate significantcapital expenditures for the remainder of Fiscal 2005.
Matters Pertaining to Unzipped.
On April 23, 2002, the Company acquired the remaining 50% interest in Unzippedfrom Sweet for 3 million shares of the Company's common stock and $11 million indebt evidenced by an 8% senior subordinated note due 2012. In connection withthe acquisition, the Company has entered into a management agreement with Sweetfor a term ending January 31, 2005, which provides for Sweet to manage theoperations of Unzipped in return for a management fee, commencing in Fiscal2004, based upon certain specified percentages of net income that Unzippedachieves during the three-year term. In addition, Sweet guarantees that the netincome, as defined, of Unzipped shall be no less than $1.7 million Guarantee foreach year during the term commencing in Fiscal 2004. In the event that theGuarantee is not met, Sweet is obligated to pay the Shortfall Adjustment, thedifference between the actual net income, as defined, and the Guarantee. SeeNote F of Notes to Condensed Consolidated Financial Statements.
For the quarter ended April 30, 2004, Unzipped had a net loss (as defined, forthe purpose of determining if Guarantee has been met) of $563,000, resulting ina Shortfall Payment of $988,000 against the $425,000 quarterly Guarantee. Thispayment has been recorded in the condensed consolidated income statement as areduction of Unzipped's cost of sales and on the balance sheet as a reduction ofthe 8% senior subordinated note due to Sweet, as provided for in the managementagreement. After adjusting for the Shortfall Payment, Unzipped's reported GAAPnet income for the quarter ended April 30, 2004 was $312,500.
In connection with the acquisition of Unzipped, the Company filed and declaredeffective a registration statement with the SEC for the 3 million shares of theCompany's common stock issued to Sweet. The terms of this agreement providedthat in the event the registration statement was not declared effective by April23, 2003, the Company would be required to pay panties to Sweet. Since theregistration statement was not declared effective until July 29, 2003, theCompany was required to pay $82,500 to Sweet as a penalty. The Company recorded$82,500 expense for such penalty in the quarter ended April 30, 2003.
Current Revolving Credit Facilities.
On January 23, 2002, the Company entered into a three-year $20 million creditfacility ("the Credit Facility") with CIT Commercial Services. Borrowings underthe Credit Facility are formula based and originally included a $5 million overadvance provision with interest at 1.00% above the prime rate. In June 2002, theCompany agreed to amend the Credit Facility to increase the over advanceprovision to $7 million and include certain retail inventory in the availabilityformula. Borrowings under the amended Credit Facility bore interest at 1.5%above the prime rate.
At April 30, 2004, there were no outstanding borrowings under the CreditFacility which was terminated by an agreement dated January 15, 2004.
On February 25, 2003 Unzipped entered into a two-year $25 million creditfacility ("the Unzipped Credit Facility") with GE Capital Commercial Services,Inc. ("GECCS") replacing its arrangement with Congress. Borrowings are limitedby advance rates against eligible accounts receivable and inventory balances, asdefined. Under the facility, Unzipped may also arrange for letters of credit inan amount up to $5 million. The borrowings bear interest at a rate of 2.25% perannum in excess of the 30 day Commercial Paper rate or 3%, whichever is greater.
At April 30, 2004, Unzipped's borrowings totaled $10.3 million under therevolving credit agreement and the availability under the formula was $5,600.
Unzipped is in default of certain covenants under the Unzipped Credit Facility,including the tangible net worth covenant. As of June 10 2004, Unzipped had notobtained a waiver for these defaults and there can be no assurance that it willbe able to do so. As a result, the Lender could, in addition to other possibleremedies, reduce the advance rates, cease advancing funds, or demand immediaterepayment of the outstanding loan amount (which was approximately $10.3 millionas of April 30, 2004), any of which could negatively impact the operations andfinancial condition of Unzipped. While the Company believes that it is unlikelythat the Lender will accelerate Unzipped's obligations under the Unzipped CreditFacility, in the event that it did so and Unzipped could not immediately repaythe existing loan balance, it could result in the Lender foreclosing onUnzipped's assets, among other remedies.
In the event that the Lender forecloses on the Unzipped Credit Facility, theCompany believes, based on Unzipped's current financial condition, that Unzippedwould have more than sufficient assets and net worth to allow the Lender torecoup its entire loan, although there can be no assurance that it will be ableto do so. An acceleration of the Unzipped Credit Facility would impact theoperating results and financial condition of Unzipped in Fiscal 2005 (includinga possible write-off or impairment of assets), which could result in a reductionin the Company's consolidated revenues in Fiscal 2005. Sweet, the manager ofUnzipped, has guaranteed that the net income of Unzipped, as defined in theManagement Agreement, in Fiscal 2005 shall be no less than $1.7 million and theCompany believes that this guarantee is enforceable even in the event offoreclosure or acceleration of the Unzipped Credit Facility. Additionally, theCompany, as the parent of Unzipped, is not a signatory or a guarantor of theUnzipped Credit Facility and would not be liable for Unzipped's obligationsthereunder. The Company also believes that it has sufficient liquidity fromrevenues generated from its licensing and men's private label activity, whichare separate from Unzipped, as well as from the additional borrowing obtainedunder the IPH bond financing (see "Bond Financing"), to satisfy the Company'santicipated working capital requirements for the foreseeable future. Inaddition, on June 9, 2004 the Company licensed the rights to Bongo jeanswear toa third party licensee (See Note F to Condensed Consolidated FinancialStatements), which would provide the Company with additional licensing revenuescommencing upon the effective date of the agreement. Unzipped currently has aroyalty free non-exclusive sublicense for Bongo jeanswear.
Bond Financing
In August 2002 IPH, an indirect wholly owned subsidiary of the Company, issuedin a private placement $20 million of asset-backed notes secured by intellectualproperty assets (tradenames, trademarks and license payments thereon). The noteshave a 7-year term with a fixed interest rate of 7.93% with quarterly principaland interest payments of approximately $859,000. The notes are subject to aliquidity reserve account of $2.9 million, funded by a deposit of a portion ofthe proceeds of the notes. The net proceeds of $16.2 million were used to reduceamounts due by the Company under its existing revolving credit facilities. Costsincurred to obtain this financing totaled approximately $2.4 million which havebeen deferred and are being amortized over the life of the debt. At April 30,2004, the unamortized portion of such costs were $2.0 million.
During the First Quarter, IPH amended the asset-backed notes whereby it borrowedan additional $3.6 million. The additional borrowing matures in August 2009 witha floating interest rate of LIBOR + 9%, with quarterly principal and interestpayments and $500,000 of interest prepaid at closing. The net proceeds of $2.9million are being used for general working capital purposes. Costs incurred toobtain this financing totaling approximately $178,500 will be deferred andamortized over the life of the debt.
Other
The Company's cash requirements fluctuate from time to time due to, among otherfactors, seasonal requirements, including the timing of receipt of merchandise.The Company believes that it will be able to satisfy its ongoing cashrequirements for the foreseeable future, primarily with cash flow fromoperations, and borrowings under the Unzipped Credit Facility. However, if theCompany's plans change or its assumptions prove to be incorrect, it could berequired to obtain additional capital that may not be available to it onacceptable terms, or at all.
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