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SGK > SEC Filings for SGK > Form 10-Q on 30-Oct-2013All Recent SEC Filings

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Form 10-Q for SCHAWK INC


30-Oct-2013

Quarterly Report


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

Cautionary Statement Regarding Forward-Looking Information

Certain statements contained in "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere in this report that relate to the Company's beliefs or expectations as to future events are not statements of historical fact and are forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. The Company intends any such statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Although the Company believes that the assumptions upon which such forward-looking statements are based are reasonable within the bounds of its knowledge of its industry, business and operations, it can give no assurance the assumptions will prove to have been correct and undue reliance should not be placed on such statements. Important factors that could cause actual results to differ materially and adversely from the Company's expectations and beliefs include, among other things, the strength of the United States economy in general and specifically market conditions for the consumer products industry; the level of demand for the Company's services; unfavorable foreign exchange fluctuations; changes in or weak consumer confidence and consumer spending; loss of key management and operational personnel; the ability of the Company to implement its business strategy and cost reduction plans and to realize anticipated cost savings; the ability of the Company to comply with the financial covenants contained in its debt agreements and obtain waivers or amendments in the event of non-compliance; the ability of the Company to maintain an effective system of disclosure and internal controls and the discovery of any future control deficiencies or weaknesses, which may require substantial costs and resources to rectify; the stability of state, federal and foreign tax laws; the ability of the Company to identify and capitalize on industry trends and technological advances in the imaging industry; higher than expected costs associated with compliance with legal and regulatory requirements; higher than anticipated costs or lower than anticipated benefits associated with the Company's ongoing information technology and business process improvement initiative; unanticipated costs or difficulties associated with integrating acquired operations; any impairment charges due to declines in the value of the Company's fixed and intangible assets, including goodwill; the stability of political conditions in foreign countries in which the Company has production capabilities; terrorist attacks and the U.S. response to such attacks; as well as other factors detailed in the Company's filings with the Securities and Exchange Commission. The Company assumes no obligation to update publicly any of these statements in light of future events.

Business Overview

Schawk, Inc. and its subsidiaries ("Schawk" or the "Company") provide comprehensive brand development and brand deployment services to clients primarily in the consumer packaged goods, retail and life sciences markets. The Company creates and sells it clients' brands, produces brand assets and protects brand equities to help clients drive brand performance. The Company currently delivers its services through more than 155 locations in over 20 countries across North and South America, Europe, Asia and Australia. The Company, which markets itself as "SGK", is headquartered in Des Plaines, Illinois, has been in operation since 1953 and is incorporated under the laws of the State of Delaware.

The Company believes that it is uniquely positioned to deliver brand development and brand deployment services to the marketplace. The Company's Brand Development group includes Brandimage and Anthem, each of whom creates brand desirability to help clients drive topline growth. The Company's Brand Deployment group delivers Schawk's legacy premedia expertise and efficiency to help clients improve their bottom line and is marketed under the Schawk! brand. By offering both brand development and brand deployment services to the marketplace, the Company can help its clients drive better overall brand performance.

Brandimage is a global consultancy comprised of brand equity architects and designers that creates brands that drive brand performance. Brandimage creates brand meaning and brings brands into contact with the consumer. Creating brand meaning refers to the creation of a brand's story, which is built on a fundamental emotional consumer truth and expressed strategically, visually, verbally and structurally in the form of a singularly distinctive identity system. This service encapsulates the development of the intellectual properties that define a brand as unique, such as its logo, colors, font and graphics. The services offered by Brandimage also include semiotic analysis, design and trend auditing ethnography, equity definition research, meaning perception research, brand positioning, brand meaning/purpose definition, brand architecture, design strategy, innovation strategy and visual positioning.

Anthem is a global creative agency that actively connects brands with consumers by amplifying desirability from package design to brand campaign. Anthem's services help drive brand performance by creating consumer desire and making emotional connections that inspire action. Anthem activates brands by expressing the brand's meaning and its visual and verbal identity strategically and consistently across media channels such as packaging, advertising, web, social, mobile and print. The services offered by Anthem also include brand strategy, brand architecture, brand portfolio, design strategy, package design, and research and insights.

Schawk! is a global cross-media production services provider that produces brand assets and protects brand equities to help make brands more profitable. Leveraging its more than 60 years of industry experience, Schawk! identifies and deploys scalable solutions to address a brand's complex production and delivery needs through proven expertise in workflow, resourcing, color management and imaging. The services offered by Schawk! are focused on packaging, point of purchase/point of sale, digital, catalog, photography, advertising, circulars, direct mail, video, marketing collateral, continuous improvement and outsourcing. The Company also owns and markets BLUE™, a cloud-based software platform that delivers a set of global capabilities to help brand-driven organizations control and manage brand development and brand deployment assets and activities to drive brand performance. The Company also owns and markets ColorDrive, print quality management software that is used to align measured and calibrated visual scores of color throughout the packaging development supply chain process to help brand driven organizations achieve color consistency for their brand colors worldwide.


Table of Contents

Organization

The Company is organized on a geographic basis, in three operating and reportable segments: Americas, Europe and Asia Pacific. The Company's Americas segment includes all of the Company's operations located in North and South America, including its operations in the United States, Canada, Mexico and Brazil. The Company's Europe segment includes all operations located in Europe. The Company's Asia Pacific segment includes all operations in Asia and Australia.

Discontinued Operations

On July 3, 2013, the Company completed the sale of various assets comprising its large-format printing business located in Los Angeles, California. The net assets of the large format printing business were considered to be held for sale as of June 30, 2013. The large-format printing business was considered to be outside of the Company's core business and was included in the Americas segment. The aggregate selling price for the business was $10.6 million, comprised of $8.3 million in cash, $2.0 million in a secured subordinated note and $0.3 million accrued as a receivable from the buyer for an estimated net working capital adjustment, which is expected to be settled in the fourth quarter of 2013. The results of operations of the business sold are reported as discontinued operations for all periods presented in this quarterly report and the assets and liabilities of the discontinued operation have been segregated in the Consolidated Balance Sheets.

The Company recorded a loss of $6.1 million on the sale of the business during the second quarter of 2013, which is included in Income (loss) from discontinued operations on the Company's Consolidated Statements of Comprehensive Income
(Loss). Included in the net loss is a goodwill allocation of $7.0 million, representing a portion of the Company's Americas reporting segment goodwill which was allocated to the large-format printing business.

Financial Overview

Net revenues in the third quarter of 2013 were $110.7 million compared to $106.0 million in the third quarter of 2012, an increase of $4.7 million, or 4.4 percent. The revenue increase in the third quarter of 2013 compared to the prior year's quarter reflects an increase in revenues from the Company's consumer products packaging accounts partially offset by a decrease in promotional activity from the Company's advertising and retail accounts. Revenues in the current quarter compared to the prior year's quarter were negatively impacted by changes in foreign currency translation rates of approximately $1.0 million, as the U.S. dollar increased in value relative to the local currencies of certain of the Company's non-U.S. subsidiaries. Net revenues increased in all three segments in the third quarter of 2013 compared to the prior year's quarter. The Americas segment increased by $2.4 million, or 3.0 percent, the Europe segment increased by $2.5 million, or 12.9 percent, and the Asia Pacific segment increased by $1.1 million, or 10.5 percent, in each case prior to intersegment revenue elimination.

Consumer products packaging accounts revenues in the third quarter of 2013 were $95.8 million, or 86.5 percent of total revenues, as compared to $90.0 million, or 84.9 percent of total revenues, in the same period of the prior year, representing an increase of 6.4 percent. Retail and advertising accounts revenues of $14.9 million in the third quarter of 2013, or 13.5 percent of total revenues, decreased 6.6 percent from $16.0 million in the third quarter of 2012. During the third quarter of 2013, the Company continued to see measured progress in its largest client channel, consumer packaged goods accounts, with their continued product and brand innovation activity in the areas of strategy and design. However, consumer packaged goods clients continue to exercise caution based on economic uncertainties.

Cost of services (excluding depreciation and amortization) was $67.9 million, or 61.3 percent of revenues, in the third quarter of 2013, an increase of $2.0 million, or 3.1 percent, from $65.8 million, or 62.1 percent of revenues, in the third quarter of 2012. The increase in cost of services during the third quarter of 2013 compared to 2012 was mainly due to an increase in labor related expenses.

The Company recorded an operating profit of $5.8 million in the third quarter of 2013 compared to an operating loss of $1.6 million in the third quarter of 2012, an increase of $7.4 million. The operating income percentage was 5.2 percent for the third quarter of 2013, compared to a 1.5 percent operating loss percentage in the third quarter of 2012. The operating income in the current quarter compared to the operating loss in the prior year's quarter is due primarily to the higher net revenues in the third quarter of 2013 compared to the third quarter of 2012, as well as to reduced business and systems integration expenses, reduced acquisition integration and restructuring expenses and impairment of long-lived assets during the third quarter of 2012 that did not occur in the 2013 period.


Table of Contents

Selling, general and administrative expenses (excluding depreciation and amortization) increased $0.1 million, or 0.3 percent, in the third quarter of 2013 to $29.4 million from $29.3 million in the third quarter of 2012. Business and systems integration expenses related to the Company's information technology and business process improvement initiative decreased $1.0 million to $2.0 million in the third quarter of 2013 from $3.0 million in the third quarter of 2012, as the Company's investment in the system build phase is substantially complete. Acquisition integration and restructuring expenses, related to the Company's cost reduction and capacity utilization initiatives, decreased by $0.5 million, from $1.2 million in the third quarter of 2012 to $0.7 million in the third quarter of 2013, due to a reduced level of restructuring activities. The Company recorded a net loss of $0.1 million on foreign exchange exposures in the third quarter of 2013 compared to a net gain of less than $0.1 million on foreign exchange exposures in the third quarter of 2012. No impairment of long-lived assets was recorded in third quarter of 2013. The Company recorded $4.3 million of impairment of long-lived assets in the third quarter of 2012, of which $3.8 million related to customer relationship intangible assets at Company locations being restructured where projected cash flows did not support the carrying value of the assets and $0.5 million related to real estate that was written down to its estimated market value. In addition, during the third quarter of 2012, the Company recorded income of $0.2 million related to multiemployer pension withdrawal actions from prior periods.

Interest expense in the third quarter of 2013 was $1.1 million compared to $0.9 million in the third quarter of 2012, an increase of $0.2 million, or 17.0 percent. The increase in interest expense in the third quarter of 2013 compared to the third quarter of 2012 includes $0.2 million of interest related to accretion of the present value discount recorded at year-end 2012 in conjunction with the Company's estimated multiemployer pension withdrawal liability.

The Company recorded an income tax provision of $1.3 million in the third quarter of 2013 compared to an income tax benefit of $0.2 million in the third quarter of 2012. The effective tax rate was 26.7 percent for the third quarter of 2013 compared to an effective tax rate of 7.4 percent in the third quarter of 2012.

In the third quarter of 2013, the Company recorded income from continuing operations of $3.5 million, or $0.13 per diluted share compared to a loss from continuing operations of $2.3 million, or $0.09 per diluted share in the third quarter of 2012. The increase in profitability, period-over-period, is principally due to the higher net revenue, as well as decreases in business and systems integration expenses and acquisition integration and restructuring expenses as well as impairment of long-lived assets during the third quarter of 2012 that did not occur in the 2013 period.

In the third quarter of 2013, the Company recorded a loss of less than $0.1 million, net of tax, from discontinued operations, compared to $0.1 million of income, net of tax, from discontinued operations in the third quarter of 2012.

Cost Reduction and Capacity Utilization Actions

Beginning in 2008, and continuing to-date, the Company incurred restructuring costs for employee terminations, obligations for future lease payments, fixed asset impairments, and other associated costs as part of its previously announced plan to reduce costs through a consolidation and realignment of its work force and facilities. The total expense recorded for the nine-month periods ended September 30, 2013 and September 30, 2012 was $1.2 million and $4.7 million, respectively, and is presented as Acquisition integration and restructuring expense in the Consolidated Statements of Comprehensive Income
(Loss). See Note 12 - Acquisition Integration and Restructuring in Part I, Item 1 for additional information.

The expense for each of the years 2008 through 2012 and for the first nine months of 2013, and the cumulative expense since the cost reduction program's inception, was recorded in the following operating segments:

                                                                  Asia
(in millions)                     Americas        Europe        Pacific        Corporate        Total

Nine months ended September
30, 2013                         $      1.1     $       --     $      0.1     $        --     $     1.2
Year ended December 31, 2012            4.3            0.9            0.1              --           5.3
Year ended December 31, 2011            0.7            0.6             --             0.1           1.4
Year ended December 31, 2010            1.1            0.5             --             0.5           2.1
Year ended December 31, 2009            3.4            1.4            1.0             0.4           6.2
Year ended December 31, 2008            5.5            3.6            0.2             0.9          10.2

Cumulative since program
inception                        $     16.1     $      7.0     $      1.4     $       1.9     $    26.4

The Company is exploring various additional cost reduction actions that could be taken, particularly in the Americas segment, if revenue does not improve.


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Multiemployer pension withdrawal expense

The Company has eight bargaining units in the United States that participate in the GCC/IBT National Pension Plan pursuant to a number of collective bargaining agreements. In December 2012, the Schawk Board of Directors authorized management to enter into good faith negotiations with the local bargaining units to effect a complete withdrawal from the pension plan. The negotiations with the local bargaining units continued during the first nine months of 2013. The decision to exit the plan was made in order to mitigate potentially greater financial exposure to the Company in the future under the plan, which is significantly underfunded, and to facilitate the consideration of future changes to the Company's operations in the United States. Based on an analysis prepared by an independent actuary, the Company recorded an estimated liability in the fourth quarter of 2012 for its withdrawal from the pension plan of $31.7 million, which is the present value of the estimated future payments required for withdrawal. The payments are expected to total approximately $41.2 million, payable $2.1 million per year over a 20 year period, with the annual cash payments expected to commence on or about May 1, 2014. These payments were discounted at a risk free rate of 2.54 percent. During the third quarter of 2013, the Company accreted $0.2 million of the present value discount, resulting in an estimated liability balance of $32.3 million at September 30, 2013, of which $1.3 million is included in Accrued expenses and $31.0 million is included in Other long-term liabilities on the Consolidated Balance Sheets as of September 30, 2013. The expense associated with the accretion of the present value discount is reflected in Interest expense on the Consolidated Statements of Comprehensive Income (Loss).


Table of Contents

Results of Operations

Consolidated

The following table sets forth certain amounts, ratios and relationships
calculated from the Consolidated Statements of Comprehensive Income (Loss) for
the three-month periods ended:

                                     Three Months Ended             2013 vs. 2012
                                        September 30,            Increase (Decrease)
                                                                    $             %
                                     2013          2012          Change         Change

Net revenues                       $ 110,692     $ 106,009     $     4,683         4.4   %

Operating expenses:
Cost of services (excluding
depreciation and
amortization)                         67,872        65,829           2,043         3.1   %
Selling, general and
administrative expenses
(excluding
depreciation and amortization)        29,448        29,347             101         0.3   %
Depreciation and amortization          4,782         4,171             611        14.6   %
Business and systems integration
expenses                               1,992         2,997          (1,005 )     (33.5 ) %
Acquisition integration and
restructuring expenses                   674         1,218            (544 )     (44.7 ) %
Foreign exchange (gain) loss             132           (12 )           144          nm
Impairment of long-lived assets           --         4,281          (4,281 )        nm
Multiemployer pension withdrawal
income                                    --          (203 )           203          nm
Operating income (loss)                5,792        (1,619 )         7,411          nm
Operating margin percentage              5.2   %      (1.5 ) %

Other income (expense):
Interest income                          108            57              51        89.5   %
Interest expense                      (1,073 )        (917 )          (156 )      17.0   %

Income (loss) from continuing
operations before
 income taxes                          4,827        (2,479 )         7,306          nm
Income tax provision (benefit)         1,291          (184 )         1,475          nm

Effective income tax rate               26.7   %       7.4   %

Income (loss) from continuing
operations                             3,536        (2,295 )         5,831          nm
Income (loss) from discontinued
operations, net of tax                    (3 )          82             (85 )        nm

Net income (loss)                  $   3,533     $  (2,213 )   $     5,746          nm

Expressed as a percentage of net revenues:

Cost of services                                       61.3 %  62.1  %    (80 )   bp
Selling, general and administrative expenses           26.6 %  27.7  %   (110 )   bp
Depreciation and amortization                           4.3 %   3.9  %     40     bp
Business and systems integration expenses               1.8 %   2.8  %   (100 )   bp
Foreign exchange loss                                   0.1 %    --  %     10     bp
Impairment of long-lived assets                          -- %   4.0  %   (400 )   bp
Acquisition integration and restructuring expenses      0.6 %   1.1  %    (50 )   bp

Multiemployer pension withdrawal expense (income) -- % (0.2) % 20 bp Operating margin 5.2 % (1.5) % 670 bp

bp = basis points
nm = not meaningful


Table of Contents
Net revenues in the third quarter of 2013 were $110.7 million compared to $106.0 million in the third quarter of 2012, an increase of $4.7 million, or 4.4 percent. The revenue increase in the third quarter of 2013 compared to the prior year's quarter reflects an increase in revenues from the Company's consumer products packaging accounts partially offset by a decrease in promotional activity from the Company's advertising and retail accounts. Revenues in the current quarter compared to the prior year's quarter were negatively impacted by changes in foreign currency translation rates of approximately $1.0 million, as the U.S. dollar increased in value relative to the local currencies of certain of the Company's non-U.S. subsidiaries. Net revenues increased in all three segments in the third quarter of 2013 compared to the prior year's quarter. The Americas segment increased by $2.4 million, or 3.0 percent, the Europe segment increased by $2.5 million, or 12.9 percent and the Asia Pacific segment increased by $1.1 million, or 10.5 percent, in each case prior to intersegment revenue elimination.

Consumer products packaging accounts revenues in the third quarter of 2013 were $95.8 million, or 86.5 percent of total revenues, as compared to $90.0 million, or 84.9 percent of total revenues, in the same period of the prior year, representing an increase of 6.4 percent. Retail and advertising accounts revenues of $14.9 million in the third quarter of 2013, or 13.5 percent of total revenues, decreased 6.6 percent from $16.0 million in the third quarter of 2012. During the third quarter of 2013, the Company continued to see measured progress in its largest client channel, consumer packaged goods accounts, with their continued product and brand innovation activity in the areas of strategy and design. However, consumer packaged goods clients continue to exercise caution based on economic uncertainties.

Cost of services (excluding depreciation and amortization) was $67.9 million, or 61.3 percent of revenues, in the third quarter of 2013, an increase of $2.0 million, or 3.1 percent, from $65.8 million, or 62.1 percent of revenues, in the third quarter of 2012. The increase in cost of services during the third quarter of 2013 compared to 2012 was mainly due to an increase in labor related expenses.

The Company recorded an operating profit of $5.8 million in the third quarter of 2013 compared to an operating loss of $1.6 million in the third quarter of 2012, an increase of $7.4 million. The operating income percentage was 5.2 percent for the third quarter of 2013, compared to a 1.5 percent operating loss percentage in the third quarter of 2012. The operating income in the current quarter compared to the operating loss in the prior year's quarter is due primarily to the higher net revenues in the third quarter of 2013 compared to the third quarter of 2012, as well as to reduced business and systems integration expenses, reduced acquisition integration and restructuring expenses and impairment of long-lived assets during the third quarter of 2012 that did not occur in the 2013 period.

Selling, general and administrative expenses (excluding depreciation and amortization) increased $0.1 million, or 0.3 percent, in the third quarter of 2013 to $29.4 million from $29.3 million in the third quarter of 2012. Business and systems integration expenses related to the Company's information technology and business process improvement initiative decreased $1.0 million to $2.0 million in the third quarter of 2013 from $3.0 million in the third quarter of 2012, as the Company's investment in the system build phase is substantially complete. Acquisition integration and restructuring expenses, related to the Company's cost reduction and capacity utilization initiatives, decreased by $0.5 million, from $1.2 million in the third quarter of 2012 to $0.7 million in the third quarter of 2013, due to a reduced level of restructuring activities. The Company recorded a net loss of $0.1 million on foreign exchange exposures in the third quarter of 2013 compared to a net gain of less than $0.1 million on foreign exchange exposures in the third quarter of 2012. No impairment of long-lived assets was recorded in third quarter of 2013. The Company recorded $4.3 million of impairment of long-lived assets in the third quarter of 2012, of which $3.8 million related to customer relationship intangible assets at Company locations being restructured where projected cash flows did not support the carrying value of the assets and $0.5 million related to real estate that was written down to its estimated market value. In addition, during the third quarter of 2012, the Company recorded income of $0.2 million related to multiemployer pension withdrawal actions from prior periods.

Interest expense in the third quarter of 2013 was $1.1 million compared to $0.9 million in the third quarter of 2012, an increase of $0.2 million, or 17.0 percent. The increase in interest expense in the third quarter of 2013 compared . . .

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