<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
(MARK ONE)
/X/ ANNUAL REPORT UNDER TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1997
/ / TRANSITION REPORT UNDER TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 0-28760
PACIFIC COAST APPAREL COMPANY, INC.
(Exact name of registrant as specified in its charter)
CALIFORNIA 95-4536683
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
1620 SOUTH LOS ANGELES STREET
LOS ANGELES, CA 90015
(Address of principal executive offices)
ISSUER'S TELEPHONE NUMBER: (213) 748-9724
___________
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE EXCHANGE ACT:
None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE EXCHANGE ACT:
Common Stock, no par value
Common Stock Purchase Warrants
(Title of Class)
Check whether the registrant (1) has filed all reports required to be filed
by Section 13 of 15(d) of the Securities Exchange Act of 1934 during the past 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 X No .
--- ---
Check if disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will 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-KSB
or any amendment to this Form 10-KSB. X .
---
The registrant's revenues for the fiscal year ended September 30, 1997 were
$1,270,482.
As of January 2, 1998, the aggregate market value of the registrant's
Common Stock held by non-affiliates of the registrant, based on the closing
price for the registrant's Common Stock in the Nasdaq SmallCap Market on such
date, was approximately $1,102,000. This calculation does not reflect a
determination that certain persons are affiliates of the registrant for any
other purposes.
The number of shares of Common Stock outstanding on January 2, 1998 was
2,958,000.
Transitional Small Business Disclosure Format: Yes No X .
--- ---
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
FORWARD-LOOKING STATEMENTS
In addition to historical information, this Annual Report contains
forward-looking statements, such as those pertaining to the Company's future
sales and revenues, return on investment, profitability, and cash requirements.
Forward-looking statements involve numerous risks and uncertainties. The
following factors, among others discussed herein, could cause actual results and
future events to differ materially from those set forth or contemplated in the
forward-looking statements: economic conditions, competitive products and
pricing, new product development, the lack of operating history and the
prolonged absence of ACA JOE products from the market place, the need for
additional capital, integration of the recently acquired Cotton Stuff business
with the Company's prior operations, changes in fashion trends, dependence on
key customers and personnel, and consumer response to the Company's products and
advertising. Readers are cautioned not to place undue reliance on
forward-looking statements, which reflect management's analysis only as of the
date hereof. The Company assumes no obligation to update forward-looking
statements. See also the Company's other reports to be filed from time to time
with the Securities and Exchange Commission pursuant to the Securities Exchange
Act of 1934.
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
SUMMARY
Pacific Coast Apparel Company, Inc. (the "Company") was incorporated in
California in April 1995 to design, source and market in the United States a
collection of men's active sportswear under the brand name "ACA JOE"-Registered
Trademark- through traditional department stores and men's apparel stores. In
August 1997, the Company acquired the assets and business of Cotton Stuff, Inc.
BUSINESS
The Company's current ACA JOE product line comprises knit and woven tops
and bottoms, including short and long sleeve shirts and shorts, jeans and
slacks. The men's line is represented by A & S Star Sales in New York City,
which has represented Cotton Stuff products since 1993. The territory for A & S
Star Sales is all states east of the Mississippi. The Company is currently
recruiting a group to represent the ACA JOE line in the balance of the United
States.
The Company obtained a license to the United States intellectual property
rights to the ACA JOE name in May 1995, initiated business in August 1995 and
first shipped apparel in December 1995.
In January 1996, the Company introduced a line of ACA JOE boy's wear in
sizes 4-7 and 8-20. The boy's line is sold through the same distribution
channels as the men's line and is
1
<PAGE>
similar in fabrication and design. The boy's line is sold through a group of
multi-line representatives in territories throughout the United States.
The Company continues to target department stores and specialty apparel
stores for distribution of the ACA JOE men's and boy's lines, but to date has
not been successful getting placement in its target market, which includes the
Dillard's, Federated, Mercantile and other major department store chains. The
Company believes that it has made some progress in getting the line placed, but
has no commitments from any of the major department store chains for the
purchase of the ACA JOE line. There can be no assurances that the Company will
be successful in placing the ACA JOE line in major department store chains in
the future. Current sales of ACA JOE products are minimal.
ACQUISITION OF COTTON STUFF
In August 1997, the Company acquired through a newly-formed subsidiary
the business and assets of Cotton Stuff, Inc., a Los Angeles marketer and
designer of a line of men's and women's garment dyed better sportswear. The
Cotton Stuff brand is sold through better catalogs, department stores and
specialty stores across the United States. Revenues for Cotton Stuff, Inc.
were approximately $5.25M in calendar year 1996. The purchase price for the
assets and business of Cotton Stuff, Inc. was $475,000, paid in cash, plus
the assumption of trade payables and other operating liabilities. As used
herein, the term "Company" includes the Company's wholly-owned subsidiary,
Cotton Stuff, Inc., unless the context indicates otherwise.
Immediately following the acquisition, the Company moved its operations
into the existing Cotton Stuff office and warehouse facility located at 1620
South Los Angeles Street, Los Angeles, California 90015. Also as a result of
the acquisition, the Company has integrated the Cotton Stuff staff and all of
the operating functions, including administration, accounting, warehousing,
shipping and sales. The Company has also started stocking and selling Cotton
Stuff clothing in its ACA JOE outlet store based in Los Angeles.
The Company currently maintains separate and distinct design departments
for each of the two existing lines.
The Company's growth strategy is to continue to develop the ACA JOE men's
and boy's lines and the Cotton Stuff men's and women's line and to look for
additional strategic acquisitions in the branded men's and women's apparel
industry as additional sources of revenue.
TRADEMARKS
In May 1995, the Company entered into a License Agreement with Action Down
Under Ltd., which is partially-owned by the Company's founder and chief
executive officer, through which the Company received United States exclusive
rights to the ACA JOE trademark. The Company's rights are subject to the rights
of certain independent licensees to establish retail stores only in the States
of Illinois, Minnesota and New Jersey and the cities of Kansas City, Missouri
and Key West, Florida. At present, there are only three independently licensed
retail
2
<PAGE>
stores in operation, two in Chicago, Illinois and one in Key West, Florida.
These three licensees have agreed to purchase their ACA JOE products from the
Company, although they may also carry non-ACA JOE products.
The License Agreement calls for the Company to pay certain minimum
royalties. The Company is required to pay a royalty ranging from 1% to 4% of
annual net sales as follows: sales less than $3,000,000 - 1%, $3,000,000 to
$6,000,000 - 2%, $6,000,000-$10,000,000 - 3%, greater than $10,000,000 - 4%.
The Company is required to pay the greater of the royalty fees as described
above or a minimum royalty which for the fiscal year 1997 amounted to $25,000.
The Company will be required to pay the licensor the greater of 50% of all
royalty income received by the Company from sublicensing or 2% of the net sales
of related products by the sub-licensee.
The following table sets forth the minimum royalty payments under the
License Agreement:
LICENSE YEAR MINIMUM ANNUAL
ENDING MAY 31 ROYALTY PAYMENTS
------------- ----------------
1998 . . . . . . . . . . . . . . . . . . . $50,000
1999 . . . . . . . . . . . . . . . . . . .$120,000
2000 . . . . . . . . . . . . . . . . . . .$180,000
2001-5 . . . . . . . . . . . . . . . . . .$200,000
2006-10. . . . . . . . . . . . . . . . . .$300,000
each year thereafter . . . . . . . . . . .$400,000
The minimum royalty payments are due on a quarterly basis throughout each year
of the License Agreement.
One of the assets acquired in the Cotton Stuff acquisition was the Cotton
Stuff Trademark #1,774,289 first registered June 1, 1993 with the United States
Patent and Trademark Office.
PRODUCTS
ACA JOE
The ACA JOE line, both men's and boy's, consists primarily of T-shirts,
polos, Henley's, printed camp shirts, shorts, casual slacks and denim jeans.
Products are designed by house design staff. The primary fabrications for the
line include jersey, corduroy, twill, French terry, and denim. All of the
products are made in the Los Angeles area. Approximately one-half of the ACA
JOE line carries some exterior logo, label or graphic design. The target
customer for the ACA JOE men's line is a middle to upper middle income, 28-48
year-old male. The target customer for the ACA JOE boy's line is a 7-20
year-old male. The price points for both ACA JOE lines are considered moderate
to upper moderate.
3
<PAGE>
COTTON STUFF
The Cotton Stuff line consists primarily of T-shirts, polos, shorts, casual
slacks and sweat outfits in men's and women's and additionally skirt, and
dresses in the women's line. Products are designed in house. The primary
fabrications in the Cotton Stuff line include, jersey, French terry, and linen.
The Cotton Stuff line is generally understated and carries no exterior logos,
labels or graphic designs. The target customer for the Cotton Stuff line is a
30-50 year old upper income male or female. The price points for the Cotton
Stuff line are considered upper moderate to designer.
MARKETING
ACA JOE
During the fiscal year, the Company mailed two ACA JOE catalogs (fall and
spring) directly to approximately 2,500 men's and boy's specialty stores across
the country. The Company plans to continue to mail updated product catalogs to
the specialty store customer base on a regular basis. The mailings are reserved
for specialty stores because many of these stores are in small trade areas and
the economics are such that it is unprofitable for a representative to make a
sales call. The Company has had some limited success in opening new accounts
through this marketing technique.
The Company participated in several apparel trade shows during the year.
The major trade shows included both semi-annual men's MAGIC shows, the
industry's largest show for beach apparel, and the New York Kid's Show, the
largest children's apparel show. In addition, the Company participated in a
number of regional market shows in both the men's and the boy's areas. The
Company utilizes a booth designed and built for the Company in major trade shows
and rents a booth for the regional shows.
In November 1996, the Company enlisted the services of Odiorne, Wilde,
Narroway and Groome, a full service advertising agency, to help position the
brand and assist in the formal re-launch of the ACA JOE brand at the February
1997 MAGIC show. Although the Company had some success at the show, management
was not overly impressed with the execution of the plan on the part of the
agency and subsequently terminated the services of the agency in March 1997.
The Company is currently involved in arbitration (see LEGAL PROCEEDINGS) with
the agency over expenses alleged deemed to be due and owning by the agency.
The Company has produced a marketing piece that will be provided to
existing and potential customers of the ACA JOE line. The marketing piece will
show the highlights of the line and describe the benefits of carrying the ACA
JOE brand. In addition to customers and potential customers, the brochure will
be mailed to editors of industry trade publications with a cover letter and a
follow-up phone call which will serve to answer questions and give further
detail on why ACA JOE deserves a place in retail.
The Company designed and produced a line of fixtures that carry the ACA JOE
identification for distribution in better accounts. The Company to date has
placed several sets of
4
<PAGE>
fixtures meant to give the brand a sense of ownership on the retail floor. The
Company will continue to place fixtures from its existing fixture inventory in
target accounts.
The Company introduced a Quick Response program with one of its major
clients, the Harris Stores. The program identifies certain key selling items in
the line and makes those items available on a two week turnaround "never out of
stock basis." The Company did not expand the program past this one customer
because the concentration was on smaller specialty stores during the last half
of the fiscal year and the reorders were minimal. As the Company opens more of
its targeted major department store chains, the Company intends to expand the
Quick Response program.
The Company has appeared in several retail catalogs, including Bacharachs
for men and Olsen Mills for its boy's line. The Company plans to continue to
seek opportunities in targeted retail catalogs.
COTTON STUFF
The target customers of Cotton Stuff are better specialty stores, catalogs
and select better department stores.
Cotton Stuff participates in regional and national trade shows during every
line break of the year. Trade shows are held in major markets, including New
York, Chicago, Atlanta, Dallas and Los Angeles. In addition to trade shows, the
Company advertises its product through catalogs which include Coldwater Creek
and Saks Folio.
The Company plans to produce a marketing piece for the Cotton Stuff line
which will serve the same purposes as the proposed ACA JOE marketing piece.
CUSTOMER
Coldwater Creek accounted for approximately 10% of the Company's sales in
the fiscal year ended September 30, 1997.
A & S STAR SALES
The Cotton Stuff line is represented in several territories throughout the
United States by independent representatives. The Company is also under
agreement with A & S Star Sales, New York, which represents Cotton Stuff
throughout the east coast. The agreement expires in June 1998 subject to
renewal under the same terms and conditions which call for the payment of a
monthly draw against commission and a monthly contribution toward the cost of
its showroom in New York. At this time, both parties anticipate the renewal of
the agreement.
EMPLOYEES
As of September 30, 1997, the Company had 32 full-time employees. Of those
employees, 19 were salaried and 13 were hourly. None of the Company's employees
is represented by a union. The Company believes that relations with its
employees are good.
5
<PAGE>
COMPETITION
The competition in the branded apparel industry is significant. The major
competition in the ACA JOE men's lines continues to include Calvin Klein, Ralph
Lauren, The Gap, Tommy Hilfiger, Banana Republic, Nautica, Guess?, Levi Strauss
& Co and, to a lesser degree, Ocean Pacific, Stussy and Quicksilver.
The major competition in the boy's apparel includes Jnko, The Gap, Izod,
and Ralph Lauren.
The major competition for the Cotton Stuff line in both men's and women's
includes A Month of Sundays, Moda Doc, Weekends Off, and Fatigues. Additional
competition in the women's includes Allen Allen, Gavin, and Lauren Kay.
The competition in the Cotton Stuff line currently comes from other
companies that produce garment dyed products, a process that produces unique
colors and finishes but has a unique set of quality problems stemming from the
harshness of the washing and dying. The ratio of damaged goods in the garment
dyed process is significantly higher than in the more mainstream piece dyed
process. Cotton Stuff continues to produce the majority of its products using
this process.
For the Spring 1998 line which will begin shipping in late December and
early January, Cotton Stuff has developed a basic program using Tencel which is
a relatively expensive, natural fabric used in both men's and women's better
apparel. The addition to the line is both a step to cut down on the high damage
during garment dying and to expand the line to compete in other markets. As
this portion of the line begins selling, the competition will increase to
include other lines which offer better goods featuring piece-dyed fabrics.
FACTORING OF ACCOUNTS RECEIVABLE
Historically, the Company has sold a substantial portion of its trade
receivable accounts to a factor that assumes the credit risk with respect to
collection of such accounts. The factor pays up to 80% of the invoice amount
within 30 days. The factor pays the company any balance due from the orders
(minus factoring fees) after the factor receives payment from the Company's
customers. The factor approves the credit of the Company customers prior to
its agreement to purchase the invoice. If the factor chooses not to buy a
particular receivable, then the Company bears the risk that the receivable
will not be collectible if the Company decides to shop such an order. In
connection with the Cotton stuff acquisition, the Company terminated its
factoring agreement with C.I.T. Group/Commercial Services and entered into a
new agreement with Capital Factors, which can be terminated at any time by
either party upon 30 days' notice. Capital Factors also made a three-year
$325,000 amortizing loan to the Company, which is secured by the Company's
inventory and accounts receivable.
6
<PAGE>
SELECTED FINANCIAL DATA
The statement of operations data set forth below for the period from
April 28, 1995 (inception) to September 30, 1995 (financial statements not
presented herein) and for the years ended September 30, 1996 and 1997 and the
balance sheet data as of September 30, 1995, 1996 (1995 and 1996 financial
statements not presented herein) and 1997 have been derived from the audited
financial statements of the Company. The selected financial data set forth
below should be read in conjunction with "Management's Discussion and
Analysis or Plan of Operation" and the financial statements of the Company,
including the notes thereto, included elsewhere herein.
<TABLE>
<CAPTION>
APRIL 28, 1995
(INCEPTION) TO YEAR ENDED YEAR ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
1995 1996 1997
STATEMENT OF OPERATIONS DATA
(IN THOUSANDS EXCEPT PER SHARE DATA):
<S> <C> <C> <C>
Net Sales . . . . . . . . . . . . . . . . . . $ 0 $ 221 $ 1,270
Cost of Sales. . . . . . . . . . . . . . . . . 0 183 1,943
Gross Profit (Loss) . . . . . . . . . . . 0 38 (673)
Operating Expenses:
Design. . . . . . . . . . . . . . . . . . 120 354 227
Selling . . . . . . . . . . . . . . . . . 65 339 748
Shipping. . . . . . . . . . . . . . . . . 0 27 91
General and Administrative. . . . . . . . 76 957 1,314
Interest (Income) Expense . . . . . . . . (3) 186 (21)
----------- ---------- ----------
Total operating expenses . . . . . . 258 1,863 2,359
----------- ---------- ----------
Loss Before Income Taxes . . . . . . . . . . . (258) (1,825) (3,032)
----------- ---------- ----------
----------- ---------- ----------
Provision For Income Taxes . . . . . . . . . . (0) (2) (3)
----------- ---------- ----------
Net Loss . . . . . . . . . . . . . . . . . . (258) (1,827) (3,035)
----------- ---------- ----------
----------- ---------- ----------
Loss Per Share . . . . . . . . . . . . . . . . $ (.18) $ (.99) $ (1.02)
----------- ---------- ----------
----------- ---------- ----------
Weighted Average Common Stock Outstanding. . . 1,400,000 1,850,000 2,974,000
----------- ---------- ----------
----------- ---------- ----------
</TABLE>
<TABLE>
<CAPTION>
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
1995 1996 1997
BALANCE SHEET DATA (IN THOUSANDS)
<S> <C> <C> <C>
Total Assets . . . . . . . . . . . . . . . . . $ 280 $4,119 $1,684
Total Liabilities . . . . . . . . . . . . . . . 93 173 923
(Accumulated Deficit). . . . . . . . . . . . . (258) (2,137) (5,172)
Shareholders' Equity . . . . . . . . . . . . . 187 3,946 760
</TABLE>
(1) On August 22, 1997, the Company acquired certain assets and assumed certain
liabilities of Cotton Stuff, Inc. This transaction was accounted for using
the purchase method of accounting. See Notes 1 and 2 to the financial
statements for information relating to this acquisition, including
pro-forma results of operations.
7
<PAGE>
CERTAIN RISK FACTORS
EARLY STAGE OF DEVELOPMENT. The Company remains at an early stage of
development and is subject to all business risks associated with a new
enterprise. To date, the Company has had limited sales and operations and
therefore has little operating history on which to base an evaluation of the
Company's performance. In view of the Company's limited operating history, the
Company may experience the problems, expenses, difficulties, and delays
frequently encountered in connection with the development of a new business and
the competitive environment in which the Company operates. Accordingly, period
to period comparisons of operating results may not be meaningful and may not be
indicative of future results. The Company experienced aggregate losses from
operations totalling $5,114,782 for the period from April 28, 1995 to
September 30, 1997. Since September 30, 1997, the Company has continued to
experience losses from operations and increases in its net deficit.
FUTURE CAPITAL NEEDS; UNCERTAINTY OF ADDITIONAL FUNDING. The Company does
not have capital resources to satisfy its cash requirements for the current
fiscal year. The Company is instituting a cost-cutting program, but there is no
assurance that cutting costs will enable the Company to continue in business
without additional capital. The Company may seek additional funding through
public or private financing or collaborative or other arrangements with third
parties. There can be no assurance that additional funds will be available on
acceptable terms. If additional funds are raised by issuing equity securities,
substantial dilution to existing shareholders may result. If adequate funds are
not available, the Company may be required to delay, scale back or eliminate one
or more of its strategies, or to obtain funds through entering into arrangements
with third parties that may require the Company to relinquish certain exclusive
rights that the Company might not otherwise relinquish.
POSSIBLE ILLIQUIDITY OF TRADING MARKET; ANTICIPATED DE-LISTING FROM NASDAQ.
The Company's shares are not actively traded, and there can be no assurance that
an active public market for the securities will develop or be sustained. To
continue to be listed on the Nasdaq SmallCap Market, the Company must continue
to satisfy certain maintenance standards. The Company has received a letter
from Nasdaq stating that if the Company is unable to demonstrate compliance with
Nasdaq's minimum $1.00 bid price on or before March 4, 1998, the Company's
securities will be subject to delisting effective the close of business March 4,
1998. And, the Company must at a minimum to continue listing, maintain a $1.00
minimum bid price, have net tangible assets of at least $2 million or net income
of $500 thousand in the latest fiscal year and have a market value of the public
float of at least $1 million. If the Company is unable to meet this or other
standards for continued quotation on the Nasdaq SmallCap Market, the securities
could be subject to removal from the Nasdaq SmallCap Market and trading, if any,
of the securities would thereafter be conducted in the over-the-counter market
on an electronic bulletin board or in what are commonly referred to as "pink
sheets." As a result, shareholders would find it more difficult to dispose of,
or to obtain accurate quotations as to the price of, the Company's securities.
In addition, depending on several factors, including the future price of the
common stock, the securities could become subject to the so-called "penny stock"
rules that impose additional sales practice and market making requirements on
broker-dealers who sell or make a market in the securities and adversely affect
the ability of shareholders to sell their securities.
DEPENDENCE ON FACTORING. The Company's existing resources include cash
received through factoring a substantial portion of its trade accounts
receivable pursuant to a factoring agreement which, if canceled, could result in
an increase in its cash requirements.
LIMITED SALES HISTORY. The ACA JOE brand has been sold in the United
States since 1984, but has not been actively sold in the United States since the
former holder of the trademark went bankrupt and ceased doing business. There
can be no assurance that retail stores or consumers will purchase the ACA JOE
brand in quantities sufficient for the Company to operate profitably. Through
September 30, 1997, the Company's sales of the ACA JOE line have totaled only
$981,000. The Company terminated the draw of all of its ACA JOE men's wear
8
<PAGE>
representatives earlier in 1997 because the results of sales efforts were
unsatisfactory and the Company could not justify the continued expense.
Consequently, the sales for the Spring 1998 season (the line that was being sold
when the Company released its representatives) will be insignificant. The
Company will have to rely on revenues of the Cotton Stuff brand through at least
June 1998 when the Company hopes to begin shipping the next ACA JOE line. It is
uncertain if the sales from the Cotton Stuff brand will be sufficient to cover
the overhead of the Company during this period.
CHANGES IN FASHION TRENDS. The apparel industry is subject to rapidly
changing consumer demands and preferences, which may adversely affect companies
which misjudge such demands and preferences. The Company believes that its
success depends on its ability to anticipate, gauge and respond in a timely
manner to changing consumer demands and fashion trends. There can be no
assurance that the Company will be successful in this regard. If fashion trends
shift away from the Company's products, or if the Company otherwise misjudges
the market for its product lines, it may be faced with a significant amount of
unsold inventory or other conditions which could have a material adverse effect
on the Company's financial condition and results of operations. Decisions with
respect to product designs often need to be made several months in advance of
the time when consumer acceptance of such products is known. In addition, any
failure by the Company to identify and respond to changing demands and trends
could adversely affect consumer acceptance of the ACA JOE and Cotton Stuff brand
names, which may have an adverse effect on the Company's business and prospects.
UNCERTAINTIES IN APPAREL RETAILING; GENERAL ECONOMIC CONDITIONS. The
apparel industry historically has been subject to substantial cyclical
variations. During recessionary periods, when disposable income is low,
purchases of apparel and related goods tend to decline. Accordingly, a
recession in the general economy or uncertainties regarding future economic
prospects that affect consumer spending habits could have a material adverse
effect on the Company's results of operations. Additionally, the retail
industry has experienced significant changes and difficulties over the past
several years, including consolidation of ownership, increased centralization of
buying decisions, restructurings, bankruptcies and liquidations. Financial
problems of a retailer could cause the Company's factor to limit the amount of
receivables of such retailer that the factor would approve, which could cause
the Company to curtail business with such retailer or require the Company to
assume more credit risk relating to such retailer's receivables.
NEW PRODUCT INTRODUCTIONS. The Company's success is dependent entirely
upon its ability to design and deliver new products and new product lines that
are accepted by consumer. As is typical with new products, demand for and
market acceptance of new products introduced by the Company are subject to
uncertainty. Achieving market acceptance for new products may require
substantial marketing and other efforts and the expenditure of significant funds
to create customer demand. There can be no assurance that the Company's efforts
will be successful. In addition, the failure of new products or new product
lines to gain sufficient market acceptance could adversely affect the image of
the Company's brand names and retailers' demand for other products. The
Company's attempt to design and market its ACA JOE product lines to date have
not been successful.
9
<PAGE>
RELIANCE ON INDEPENDENT, MANUFACTURERS AND SUPPLIERS. The Company does not
maintain its own manufacturing facilities and does not intend to do so. The
Company's products are manufactured and supplied by independent companies, many
of which also manufacture and supply products to the Company's competitors. As
is customary in the apparel business, the Company does not have any licensing or
other supply agreements with its manufacturers or suppliers. Therefore, any of
these companies could terminate its relationship with the Company at any time.
There can be no assurance that in the event the Company were to have supply
problems with its current suppliers, the Company would be able to readily
replace those suppliers. Any delay in replacement of suppliers by the Company
could prove to be detrimental to the Company's results of operations. While the
Company carefully monitors the manufacture of its products, there can be no
assurance that its independent manufacturers and suppliers will consistently
deliver products that meet the high standards required by the Company. The
Company reserves the right to reject any substandard products and some delays in
deliveries to customers could result if any such rejection were to occur.
DEPENDENCE ON KEY PERSONNEL. The Company's success largely depends on the
personal efforts and abilities of Terrence L. McGovern, founder, chairman of the
board, chief executive officer and chief financial officer, and Stuart Bryer,
the former CEO of Cotton Stuff who is now general manager of the Company's
Cotton Stuff, Inc. subsidiary. James A. McDermott, formerly president and chief
operating officer, and Jill Grossman, formerly executive vice president and
national sales manager, have recently left the Company. The Company is
attempting to recruit and retain an experienced management team and intends to
recruit seasoned executives to serve on its Board of Directors. In addition,
the Company has purchased "key man" life insurance policies in the amount of
$1.0 million each for Mr. McGovern and Mr. McDermott.
LACK OF CONTROL OVER INTERNATIONAL LICENSE. The Company has exclusive
rights to use the ACA JOE trademark for sale in the United States of all types
of products. The Company has not, however, received an international license
for the trademark. As a result, the possibility exists that a manufacturer
outside of the United States could manufacture an inferior product under the ACA
JOE label that could be sold to a purchaser who would bring the product into the
United States. While the Company can take legal action to enforce its exclusive
rights to the ACA JOE trademark in the United States, there is some risk that
inferior products bearing the ACA JOE label could end up in the United States
marketplace.
POTENTIAL ADVERSE EFFECT OF OUTSTANDING STOCK OPTIONS AND WARRANTS. As set
forth elsewhere herein (see "Index to Financial Statements -- Notes to the
Financial Statements -- Notes 11 and 12"), various warrants and options to
purchase the Company's common stock are outstanding and additional stock options
are authorized for issuance. For the term of these warrants and options, the
holders thereof will have, at nominal cost, the opportunity to profit from a
rise in the market price of the common stock without assuming the risk of
ownership, with a resulting dilution in the interest of the other security
holders. As long as warrants and options remain unexercised, the Company's
ability to obtain additional capital might be adversely affected. Moreover, the
holders of the warrants and options may be expected to exercise such warrants or
options at a time when the Company would, in all likelihood, be able to
10
<PAGE>
obtain any needed capital by a new offering of its securities on terms more
favorable than those provided in such warrants or options.
NO DIVIDENDS. The Company has paid no dividends on its Common Stock and
does not anticipate doing so for the foreseeable future. Dividends will only be
paid at such time as the cash flow of the Company is sufficient to justify such
payments.
BLANK CHECK PREFERRED STOCK. The Company is authorized to issue 600,000
shares of preferred stock, on terms determined by the Board of Directors without
the need for shareholder approval. The issuance of preferred stock in the
future could dilute the common shareholders and discourage or impede a tender
offer, proxy contest or other similar transaction involving a potential change
in control of the Company, which transaction might be viewed favorably by other
shareholders.
GOING CONCERN QUALIFICATION. The Company has incurred significant losses
from operations and has a net deficit in accumulated earnings. These factors
raise substantial doubt about the Company's ability to continue as a going
concern. In the event the Company is unable to raise additional capital,
increase revenues and lower expenses, the Company may be forced to liquidate.
SHARES ELIGIBLE FOR FUTURE SALE. Sales of shares of common stock by
existing shareholders, or by existing holders of warrants, under Rule 144 of the
Securities Act, or pursuant to the exercise of registration rights or otherwise,
could have an adverse effect on the price of the Company's common stock.
Certain current shareholders of the Company executed lock-up agreements with the
underwriter of the Company's initial public offering that restricted
11
<PAGE>
the public sale or disposition of such shares until March or September 1997.
These shares are now eligible for sale in the public market subject to
compliance with Rule 144 under the Securities Act of 1933.
EXECUTIVE OFFICERS AND KEY EMPLOYEES OF THE REGISTRANT
The executive officers and other key employees of the Company are:
Name Age Position Year Joined
Company
---- --- -------- -------
Terrence L. McGovern 48 CEO/Chairman 1995
Stuart Bryer 70 General Manager 1997
Michael Mote 42 Controller 1997
ITEM 2. DESCRIPTION OF PROPERTY.
The Company leases its headquarters premises at 1620 South Los Angeles
Street, Los Angeles, California 90015. The office portion of the space is
12,000 and the warehouse portion is 21,500 square feet. The monthly rental is
approximately $8,654. The Company believes the facility is sufficient in size
to accommodate its operations until the expiration of the lease in the year
2000. The needs will be assessed during the remaining period of the lease and a
decision as to extend the lease or look for a headquarters that better fits the
Company's needs will be made closer to the expiration of the lease.
The Company shares its warehouse with CMG Corporation, a women's apparel
company. A sharing agreement is in place which calls for an allocation of rent
and expenses based on the number of square feet each company occupies. Pacific
Coast Apparel Company is responsible for approximately 40% of the rent and
expenses of the facility.
The Company maintains a showroom located at 110 East Ninth Street Suite
B867-869, Los Angeles, which serves as the Company's west coast showroom. The
lease was renewed in September 1997 for an additional three year period. The
average monthly rental during the term of this agreement is $2,617. In addition
the Company is responsible for certain expenses including common area
maintenance, real estate taxes and utilities.
The Company leases one retail outlet store located at 5675 East Telegraph
Road in Los Angeles. The shopping center is called The Citadel Center. The
property is leased and the Company has four years remaining on the lease. The
store is approximately 1,100 square feet. The monthly base rent is
approximately $1,790 per month plus monthly common area charges that average
approximately $300 per month.
12
<PAGE>
The Company currently leases a showroom at 350 Broadway, New York, New York
10018. The lease is in effect until October 2000, but the Company plans to
sublease the property to another tenant. The Company believes the real estate
market is such that a tenant can be found for this space but there are no
assurances that this will happen. The monthly lease payment for the showroom is
$2,202 plus approximately $400 in monthly common area charges and other fees.
ITEM 3. LEGAL PROCEEDINGS.
The Company is currently involved in an arbitration being conducted by The
American Arbitration Association office in San Francisco California. The
arbitration claim was filed by the Company's former advertising agency Odiorne,
Wilde, Narroway and Groome. The original claim was for the sum of $44,000 which
the agency believes it is owed because the agreement between the Company and the
agency called for a sixty day notice of termination with pay. The monthly
retainer with the agency was $22,000.
The claim was later amended to include approximately $16,400 out-of-pocket
expenses the agency claims were incurred on behalf of the Company.
The Company believes the agency breached the agreement and therefore is not
liable for the two month ($44,000) termination fee. The arbitration was held on
August 8, 1997 and on October 3, 1997 the arbitrator awarded Odiorne the sum of
$41,066.67, plus $7,274.84. The Company is appealing the arbitrator's decision.
See also Item 10 - Employment Agreements.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Inapplicable.
PART II
ITEM 5. MARKET FOR COMMON STOCK AND RELATED STOCKHOLDER MATTERS.
(a) The Company's common stock trades under the symbol "ACAJ" on the
Nasdaq SmallCap Market. The Company's warrants to purchase common stock at
$6.00 per share (which warrants expire on August 22, 2001) also trade on the
Nasdaq SmallCap Market under the symbol "ACAJW."
The following table sets forth the range of high and low closing sale
prices for the common stock and the warrants on the Nasdaq SmallCap Market for
the period from August 22, 1996 to September 30, 1997.
Common Stock Warrants
------------ --------
High Low High Low
---- --- ---- ---
13
<PAGE>
August 22 to September 30, 1996 4 3/4 2 7/8 1 7/16
1st Quarter Fiscal 1997 1 3/4 7/8 25/32 1/16
2nd Quarter Fiscal 1997 2 3/4 5/16 3/8 1/8
3rd Quarter Fiscal 1997 1 1/8 5/8 5/16 1/16
4th Quarter Fiscal 1997 1 11/32 3/4 3/16 1/16
The closing price for the common stock on January 2, 1997 was $11/16 per share.
On that date, there were approximately 350 holders of record of the Company's
common stock. The Company has never paid or declared any dividend on its common
stock.
On July 23, 1997, the Company issued 9,000 shares of its common stock for
$1.00 to former officer John Ankeny, pursuant to the exercise of a warrant
issued to Mr. Ankeny to resolve a dispute with him relating to his employment.
These shares were issued in reliance on the exemption from registration under
Section 4(2) of the Securities Act of 1933.
(b) The following table sets forth the approximate use through September
30, 1997 of the $5,267,000 net proceeds of the Company's August 1996 initial
public offering.
DESIGN AND PRODUCTION OF DISPLAY FEATURES $113,000
DEVELOPMENT AND FIXTURE OF CITADEL OUTLET STORE $ 24,000
NATIONAL MARKETING PROGRAM $162,000
RETIREMENT OF BRIDGE PROMISSORY NOTES $417,000
RETIREMENT OF OFFICER LOANS $ 32,000
REPAYMENT OF WORKING CAPITAL LOANS $101,000
EXPENSE INCURRED IN CONJUNCTION WITH
PURCHASE OF COTTON STUFF $589,000
REPURCHASES OF COMMON STOCK 145,790
WORKING CAPITAL AND GENERAL
CORPORATE PURPOSES 3,347,210
TOTAL $4,867,000
BALANCE $410,000
14
<PAGE>
TOTAL PROCEEDS $5,267,000
The principal variances from that expected at the time of the offering are
the Cotton Stuff acquisition and the common stock repurchases.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
GENERAL
The Company was formed in April 1995 with the business strategy of
reintroducing the ACA JOE apparel brand through major department stores in the
United States. The focus has been to capitalize on the strength of the ACA JOE
name and the perceived value of the apparel products.
To date, the Company has not been successful placing product in the target
market of the major department store chains. Lack of success has been due to a
number of factors which include the retailers comments that the lines have been
shown since the reintroduction lack specific direction. The Company feels that
this issue has been addressed and in October 1997 hired a previously successful
merchandiser/designer to give new direction the ACA JOE line. The first line
under the direction of the new designer will be shown in January 1998.
Another factor which have added to the lack of success of the
reintroduction is the continued growth of several strong men's collections
including Tommon Hilfiger, Nautica and Polo. All three of these major
collections continue to introduce new product lines. All three introduced jeans
lines in 1997 and consequently the floor space available to other brands with
less advertising and marketing dollars continued to shrink. The buyers are more
likely to give the brands that produce historically above average dollars per
square foot additional space for more product than they are to allocate space to
new or less widely distributed resources.
Additional department stores have focused more and more in the development
of their own brands which produce higher gross profit margins.
RESULTS OF OPERATIONS
YEAR ENDED SEPTEMBER 30, 1997
The Company's total expenses for the year ended September 30, 1997 were
$2,360,050, which includes ($20,807) in net interest income. The total expenses
primarily reflected an increase in selling, shipping and general and
administrative expenses compared to the same period last year. Design and
production expenses were down when compared to last year. The increase in
selling expenses (222%) indicates the company's continued commitment to promote
the ACA JOE name and product. Operating expenses as a percentage of sales
decreased significantly during fiscal 1997. The Company believes that with the
addition of COTTON STUFF, this trend will continue. The negative gross profit
is a result of closing out and marking down by approximately $250,000 inventory
that will not be used in the future ACA JOE line.
15
<PAGE>
YEAR ENDED SEPTEMBER 30, 1996
The Company's total expenses for the year ended September 30, 1996 were
$1,863,064, which includes $186,028 in net interest expense of which $162,500
represents interest amortization on loans payable. The total expenses primarily
reflected an increase in selling, design and general and administrative
expenses. The selling and design expenses amounted to $692,958 for the year
ended September 30, 1996 and general and administrative expenses amounted to
$957,433. The increased selling, design and administrative expenses reflected
the Company's commencement of operations, specifically the initial selling and
shipping of its ACA JOE products in fiscal 1996. During the year ended
September 30, 1996, net sales of $221,181 were recognized, and cost of goods
sold was $182,709. While operating expenses were disproportionally large in
relation to sales, management believes that if sales increase, design and
general and administrative expenses will decline substantially as a percentage
of sales. There can be no assurance, however, that the Company will operate
profitably in the future.
FEDERAL TAXES
Since its inception, the Company has been taxed as a "C" corporation.
Accordingly the Company had available as of September 30, 1997 approximately
$5,000,000 in net operating loss carryforwards to offset future federal taxable
income until expiration in the year ending September 30, 2012.
LIQUIDITY AND CAPITAL RESOURCES
In September 1996, the Company realized net proceeds of approximately
$5,267,000 from an initial public offering of common stock and warrants to
purchase common stock. A portion of these proceeds was used to repay the
approximately $550,000 of indebtedness then outstanding.
The Company experienced losses from operations of $257,435 for the period
from April 28, 1995 (inception) to September 30, 1995, $1,824,592 for the year
ended September 30, 1996 and $3,032,755 for the year ended September 30, 1997.
Since September 30, 1997, the Company has continued to experience losses from
operations. Sales of the Company's ACA JOE line have not met expectations.
The August 1997 acquisition of Cotton Stuff was designed to provide a
revenue base for the Company from which to grow both the ACA JOE and Cotton
Stuff lines. Due to the continued lack of sales of the ACA JOE products,
however, the revenues from Cotton Stuff alone are not sufficient to sustain
the Company. At September 30,1997, the Company's cash and equivalent balance
was approximately $407,000, plus $174,000 was due from factors. At December
31, 1997, the cash and equivalent balance had decreased to approximately
$280,000, and $170,000 was due from the Company's factor.
At its currently projected level of operations, the Company will require
additional capital sometime during the quarter ending March 31, 1998. In order
to sustain operations until such time as positive cash flow can be achieved, the
Company is considering available alternatives, including a strategic alliance
and immediately implementing extreme cost cutting measures. In
16
<PAGE>
addition, the Company may seek to fund its operations through public or private
offerings of securities, with collaborative or other arrangements with corporate
partners or from other sources. Additional financing may not be available when
needed or on terms acceptable to the Company. The Company may be required to
delay, scale back or eliminate certain of its development programs, to
relinquish rights to certain of its products, or to license to third parties the
right to commercialize products the Company would otherwise seek to develop
itself.
In November 1996, following a decline in the market price of the Company's
common stock, the Board authorized the Company's purchase of up to 150,000
shares of its common stock. From December 1996 to March 1997, the Company
purchased 116,000 shares for a total of $145,790 ($1.258 per share). Management
believes these purchases were in the best interests of the Company and its
shareholders at the time, but at present there are no plans to purchase any
additional shares.
ITEM 7. FINANCIAL STATEMENTS.
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
SEPTEMBER 30, 1997
I N D E X
Page No.
--------
INDEPENDENT AUDITOR'S REPORT . . . . . . . . . . . . . . . . . . . . . 18
FINANCIAL STATEMENTS
Balance Sheet as of September 30, 1997 . . . . . . . . . . . . . 19
Statement of Operations for the Years Ended
September 30, 1997 and 1996 . . . . . . . . . . . . . . . . . 20
Statement of Cash Flows for the Years Ended
September 30, 1997 and 1996 . . . . . . . . . . . . . . . . . 21 - 22
Statement of Cash Flows - Supplemental Information
for the Years Ended September 30, 1997 and 1996 . . . . . . . 23 - 24
Statement of Stockholders' Equity for the Years
Ended September 30, 1997 and 1996 . . . . . . . . . . . . . . 25
Notes to Financial Statements. . . . . . . . . . . . . . . . . . 26 - 36
17
<PAGE>
[LETTERHEAD]
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors and Stockholders
Pacific Coast Apparel Company, Inc.
dba ACA Joe
We have audited the accompanying balance sheet of Pacific Coast Apparel Company,
Inc. dba ACA Joe as of September 30, 1997 and the related statements of
operations, cash flows and stockholders' equity for the years ended September
30, 1997 and 1996. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Pacific Coast Apparel Company,
Inc. dba ACA Joe as of September 30, 1997, and the results of its operations and
its cash flows for the years ended September 30, 1997 and 1996, in conformity
with generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 17 to the
financial statements, the Company has incurred significant losses from
operations and has a net deficit in accumulated earnings. These factors raise
substantial doubt about the Company's ability to continue as a going concern.
Management's plans in regard to these matters are also described in Note 17.
The financial statements do not include any adjustments that might result from
the outcome of this uncertainty.
December 16, 1997, except for the last paragraph of
Note 12, as to which the date is December 18, 1997
Los Angeles, California
18
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
BALANCE SHEET
SEPTEMBER 30, 1997
ASSETS
CURRENT ASSETS
Cash and cash equivalents (Note 1) $ 406,608
Due from factors (Note 3) 173,577
Accounts receivable (Notes 1, 3 and 7) 52,665
Inventories (Notes 1, 3, 4 and 7) 865,326
Prepaid expenses and other current assets 17,637
Note receivable, stockholder (Note 5) 10,000
-----------
Total Current Assets 1,525,813
PROPERTY AND EQUIPMENT, at cost, net of accumulated
depreciation (Notes 1, 6 and 7) 138,011
OTHER ASSETS 19,739
-----------
$ 1,683,563
-----------
-----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 241,303
Accrued expenses 180,992
Current maturities of long-term debt (Note 7) 98,000
-----------
Total Current Liabilities 520,295
LONG-TERM DEBT, LESS CURRENT MATURITIES (Note 7) 230,355
NEGATIVE GOODWILL (Note 1) 172,566
COMMITMENTS AND CONTINGENCIES (Note 11)
STOCKHOLDERS' EQUITY (Notes 1, 9, 11, 12, 15 and 16)
Preferred stock
Authorized, 600,000 shares
No shares outstanding -
Common stock, no par value
Authorized, 10,000,000 shares
Issued and outstanding 2,958,000 shares 5,452,718
Additional paid-in capital 479,860
Deficit (5,172,231)
-----------
Total Stockholders' Equity 760,347
-----------
$ 1,683,563
-----------
-----------
See accompanying independent auditors' report
and notes to financial statements
19
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
STATEMENT OF OPERATIONS
Year Ended September 30,
--------------------------
1997 1996
----------- -----------
NET SALES (Notes 1 and 14) $ 1,270,482 $ 221,181
COST OF GOODS SOLD 1,943,187 182,709
----------- -----------
GROSS (LOSS) PROFIT (672,705) 38,472
OPERATING EXPENSES
Design and production 226,828 353,950
Selling 748,535 339,008
Shipping 91,347 26,645
General and administrative 1,314,147 957,433
Interest (income) expense (Note 15) (20,807) 186,028
----------- -----------
Total Operating Expenses 2,360,050 1,863,064
----------- -----------
LOSS BEFORE INCOME TAXES (3,032,755) (1,824,592)
PROVISION FOR INCOME TAXES
(Notes 1 and 10) (2,668) (2,336)
----------- -----------
NET LOSS $(3,035,423) $(1,826,928)
----------- -----------
----------- -----------
NET LOSS PER SHARE (Note 8) (1.02) (0.99)
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING (Note 8) 2,974,000 1,850,000
See accompanying independent auditors' report
and notes to financial statements
20
<PAGE>
Page 1 of 2
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH
Year Ended September 30,
----------------------------
1997 1996
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(3,035,423) $(1,826,928)
----------- -----------
Adjustments to reconcile net loss to
net cash used by operating activities:
Depreciation 35,888 2,772
Amortization of deferred income - (10,000)
Amortization of loan discount - 162,500
Issuance of stock for services 4,500 57,500
Changes in assets and liabilities,
net of effect of assets and
liabilities acquired
Increase in due from factors (105,999) -
(Decrease) increase in due
to factors (5,000) 5,000
Increase in accounts
receivable (46,799) -
Decrease (increase) in
inventories 7,925 (257,083)
Decrease in prepaid expenses
and other current assets 12,849 7,721
Increase in other assets (5,957) -
Decrease (increase) in
advances to contractor 30,000 (30,000)
Increase in accounts payable 84,767 44,240
Increase in accrued expenses 34,909 43,600
----------- -----------
Total Adjustments 47,083 26,250
----------- -----------
Net Cash Used by Operating
Activities (2,988,340) (1,800,678)
See accompanying independent auditors' report
and notes to financial statements
21
<PAGE>
Page 2 of 2
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH
Year Ended September 30,
--------------------------
1997 1996
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment (165,385) (199)
Net payment for acquisition of net assets (401,905) -
Decrease (increase) in short-term investments 3,699,551 (3,699,551)
Increase in note receivable, stockholder (10,000) -
Decrease in loans payable, officer (6,899) -
----------- -----------
Net Cash Provided (Used) by
Investing Activities 3,115,362 (3,699,750)
CASH FLOWS FROM FINANCING ACTIVITIES
Decrease in loans receivable,
officer/stockholder $ - $ 14,027
Payments of loans payable,
officer/stockholder - (236)
Proceeds from issuance of common stock:
Public offering - 5,266,338
Other - 670
Proceeds from issuance of preferred stock - 150,000
Principal payments on long-term debt (851) (2,156)
Payment of dividends - (51,645)
Proceeds from long-term debt 325,000 -
Reacquisition of common stock (154,540) -
----------- -----------
Net Cash Provided by Financing
Activities 169,609 5,376,998
----------- -----------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS 296,631 (123,430)
CASH AND CASH EQUIVALENTS, beginning 109,977 233,407
----------- -----------
CASH AND CASH EQUIVALENTS, ending $ 406,608 $ 109,977
----------- -----------
----------- -----------
See accompanying independent auditors' report
and notes to financial statements
22
<PAGE>
Page 1 of 2
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
STATEMENT OF CASH FLOWS - SUPPLEMENTAL INFORMATION
Year Ended September 30,
-------------------------
1997 1996
---------- ----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 28,179 $ 23,528
Income taxes 1,618 2,336
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING
AND FINANCING ACTIVITIES
During the year ended September 30, 1997, the Company reacquired
121,000 shares of common stock for $154,540. The difference between
the original issuance price and the reacquisition price of $306,610
has been reflected on the accompanying financial statements as an increase
in additional paid-in capital.
On August 22, 1997, the Company acquired certain assets and assumed certain
liabilities of Cotton Stuff, Inc. as follows:
Fair value of assets acquired (all current) $ 793,193
Liabilities assumed (all current) 145,627
----------
647,566
Less: negative goodwill resulting from the
net asset acquisition 172,566
----------
Purchase price 475,000
Less: cash acquired 73,095
----------
Net cash paid for acquisition of net assets $ 401,905
----------
----------
During the year ended September 30, 1996, all of the outstanding preferred
stock with a cost of $575,000 was converted to common stock.
During the year ended September 30, 1997, the Company issued 9,000 shares
of common stock with a value of $4,500 for services.
See accompanying independent auditors' report
and notes to financial statements
23
<PAGE>
Page 2 of 2
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
STATEMENT OF CASH FLOWS - SUPPLEMENTAL INFORMATION
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING
AND FINANCING ACTIVITIES (Continued)
During the year ended September 30, 1996, the Company issued 23,000 shares
of common stock with a value of $57,500 for services.
During the year ended September 30, 1996, the Company issued 65,000
warrants with a value of $162,500 in consideration of a $400,000 loan. The
$162,500 is reflected as additional paid-in capital.
During the year ended September 30, 1996, the Company obtained a working
capital loan from an institutional lender in the amount of $100,000 and
loans from officers in the amount of $30,000. These loans were repaid
prior to September 30, 1996.
See accompanying independent auditors' report
and notes to financial statements
24
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA ACA JOE
STATEMENT OF STOCKHOLDERS' EQUITY
YEAR ENDED SEPTEMBER 30, 1997 AND 1996
<TABLE>
<CAPTION>
Additional Total
Common Stock Preferred Stock Paid-in Stockholders'
----------------- --------------- Capital Deficit Equity
Shares Amount Shares Amount (Note 15) (Note 1) (Deficiency)
------ ------ ------ ------ ------- ------ ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, October 1, 1995 1,400,000 $ 20,610 170,000 $425,000 $ - $ (258,235) $ 187,375
Issuance of stock for services 23,000 57,500 - - - - 57,500
Sale of stock 2,000 20 60,000 150,000 - - 150,020
Value of warrants issued in connection
with a loan - - - - 162,500 - 162,500
Exercise of warrants 65,000 650 - - - - 650
Conversion of preferred stock to
common stock 230,000 575,000 (230,000) (575,000) - - -
Issuance of stock in public offering 1,350,000 5,266,338 - - - 5,266,338
Dividends on preferred stock - - - - - (51,645) (51,645)
Net loss for the year ended
September 30, 1996 - - - - - (1,826,928) (1,826,928)
--------- ---------- -------- -------- --------- ---------- ----------
Balance, September 30, 1996 3,070,000 5,920,118 - - 162,500 (2,136,808) 3,945,810
Reacquisition of stock during the
year ended September 30, 1997 (121,000) (471,900) - - 317,360 - (154,540)
Issuance of stock for services 9,000 4,500 - - - - 4,500
Net loss for the year ended
September 30, 1997 - - - - - (3,035,423) (3,035,423)
--------- ---------- -------- -------- --------- ---------- ----------
Balance, September 30, 1997 2,958,000 $5,452,718 - $ - $ 479,860 $(5,172,231) $ 760,347
--------- ---------- -------- -------- --------- ---------- ----------
--------- ---------- -------- -------- --------- ---------- ----------
</TABLE>
See accompanying independent auditors' report
and notes to financial statements.
25
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
The Company was incorporated in the state of California in 1995 and
was in the development stage through September 30, 1995. The Company
manufactures men's and boys' casual apparel for sale to retailers
throughout the United States, as well as sublicenses the utilization
of the "Aca Joe" trademarks (Note 11). The Company has only one
reportable industry segment, apparel manufacturing. The deficit
accumulated during the development stage to September 30, 1995 was
$258,235.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include money market accounts with original
maturities of three months or less.
ACCOUNTS RECEIVABLE
For non-factored sales, the Company assumes the credit risk and grants
credit to customers generally without collateral.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out
method) or market.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is provided
using the straight-line method over the estimated useful lives of the
related assets.
Leasehold improvements are depreciated on the straight-line method
over the term of the lease or estimated useful life, whichever is
shorter.
Expenditures for repairs and maintenance are charged to expense when
incurred. In addition, major renewals and replacements that increase
the property's useful life are capitalized.
REVENUE RECOGNITION
Revenues are recognized when a product is shipped to customers.
Customer returns are allowed only for quality control and other
related matters. Such returns are estimated and provided for in the
period of sale when significant.
26
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
USE OF ESTIMATES
Management uses estimates and assumptions in preparing financial
statements in accordance with generally accepted accounting
principles. Those estimates and assumptions affect the reported
amounts of assets and liabilities, the disclosure of contingent assets
and liabilities and the reported revenues and expenses. Actual
results could vary from the estimates that were used.
CONCENTRATION OF CREDIT RISK
The Company maintains accounts with two banks which include cash and
cash equivalents. Cash balances are insured up to $100,000 by a
government agency. Due to the nature of the cash and cash
equivalents, management does not believe that significant risk of loss
exists.
PUBLIC OFFERING
During August 1996, the Company completed a public offering and sold
1,350,000 units of common stock consisting of one share of common
stock and one redeemable stock purchase warrant to acquire one share
of common stock at $6.00 per unit. Common stock has been reflected
for the proceeds, net of related expenses of the offering. The net
proceeds to the Company were approximately $5,270,000.
INCOME TAXES
Income taxes are provided for the tax effect of transactions included
in the financial statements and consist of state income taxes
currently payable.
Deferred income taxes are recognized for the tax effect of temporary
differences between the bases of assets and liabilities for financial
statement and income tax purposes. Deferred income taxes are also
recognized for the income tax benefit of net operating losses that are
available to offset future taxable income, if any. Valuation
allowances are established when necessary to reduce deferred income
tax benefits to estimated realizable amounts.
27
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
SIGNIFICANT TRANSACTIONS
On August 22, 1997, the Company acquired certain assets and assumed
certain liabilities of Cotton Stuff, Inc. and also took over their
related business and operations. Cotton Stuff, Inc. operated as a
manufacturer of casual sportswear and sold to specialty retailers
throughout the United States. The purchase price of the net assets
acquired is $475,000. This transaction has been accounted for using
the purchase method of accounting and the accompanying financial
statements include the results of these operations from August 22,
1997 to September 30, 1997. A new subsidiary was formed by the
Company and the intent was that the operations acquired would be
included in this new entity. However, as of September 30, 1997,
stock has not yet been issued and the new entity is inactive.
Therefore, for financial statement purposes, the operations acquired
of Cotton Stuff, Inc. are reflected as a division of the Company
and no further reference is being made to a subsidiary.
Negative goodwill of approximately $173,000 as of September 30, 1997,
results from the amount of the fair value of the above net assets
acquired that exceeds the purchase price. The negative goodwill will
be amortized over a period of 15 years using the straight-line method.
2 - ACQUISITION OF COTTON STUFF, INC.'S NET ASSETS
The following table reflects the unaudited pro-forma combined results
of operations of the Company and the Cotton Stuff, Inc. operations
assuming that the acquisition had taken place at the beginning of each
fiscal year presented:
1997 1996
----------- -----------
Net sales $ 4,851,000 $ 6,016,000
Net loss (3,088,000) (2,086,000)
Net loss per common share (1.04) (1.13)
Shares used in computation 2,974,000 1,850,000
The unaudited pro-forma information above has been prepared assuming
Cotton Stuff, Inc. had been acquired as of the beginning of the
periods presented. The pro-forma information is presented for
information purposes only and is not necessarily indicative of what
would have occurred if the acquisition had been made as of those
dates. In addition, the pro-forma information is not intended to be a
projection of future results and does not reflect any reduction (or
increase) of expenses that may result from the integration of Cotton
Stuff, Inc.'s operations with the Company.
28
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
3 - DUE FROM FACTORS
The Company uses factors for credit administration and working capital
purposes. Under the factoring agreements, the factors purchase a
substantial portion of the Company's trade accounts receivable and
assume substantially all credit risks with respect to such accounts.
Receivables sold in excess of maximums established for each account by
the factors are subject to recourse in the event of non-payment by the
customer. At September 30, 1997, items subject to such recourse were
not material. To the extent that the Company draws on funds prior to
the average maturity date of accounts receivable sold to the factors,
the Company pays interest on such funds. The Company is contingently
liable to the factors for merchandise disputes, customer claims, and
the like, on receivables sold to the factors. The Company has granted
to one factor a security interest in any of the Company's accounts
receivable and inventories.
4 - INVENTORIES
Inventories consist of the following:
Raw materials $ 536,914
Work in process 100,606
Finished goods - warehouse 202,806
Finished goods - retail store 25,000
----------
$ 865,326
----------
----------
5 - NOTE RECEIVABLE, STOCKHOLDER
Note receivable, stockholder, is unsecured, bears interest at 10% per
annum and is due on demand.
6 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
Office equipment $ 42,342
Leasehold improvements 24,004
Furniture and fixtures 113,097
----------
179,443
Accumulated depreciation 41,432
----------
$ 138,011
----------
----------
29
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
7 - LONG-TERM DEBT
Long-term debt consists of the following:
Contracts payable, secured by equipment
costing $6,467, due in installments of
approximately $180 per month, including
interest through September 1998 $ 2,049
Note payable, factor, bearing interest
at prime plus 2.5% (prime rate is 8.50%
as of September 30, 1997), payable in 36
installments. Security interests are
the same as those described in Note 3 326,306
----------
328,355
Current maturities 98,000
----------
$ 230,355
----------
----------
Minimum future payments on long-term debt are as follows:
Year Ending
September 30,
-------------
1998 $ 98,000
1999 108,000
2000 122,000
----------
$ 328,000
----------
----------
The fair value of long-term debt approximates its carrying value based
on current interest rates and the insignificant balance of the
contracts payable.
8 - LOSS PER SHARE
Loss per share computation for the years ended September 30, 1997 and
1996 is based upon the weighted average number of shares outstanding
in each period and does not include the assumed conversion of
convertible preferred stock nor the assumed exercise of stock purchase
warrants and stock options because the effect of such inclusion would
be to decrease the net loss per share.
30
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
9 - PREFERRED STOCK
The preferred stock is noncumulative and is convertible into one share
of common stock for each share of preferred stock.
Other characteristics of the preferred stock are as follows:
Voting rights - The preferred stock shall have the same
voting rights per share as the common stock, one vote per
share.
Dividends - The preferred stock shall participate in
dividends on the same basis as common stock.
In the event of a liquidation, a portion of the preferred stock will
have a first claim over and above the common stock on the net assets
of the Company in the amount of $2.50 per share. The Board of
Directors from time to time may designate other preference rights.
During the year ended September 30, 1996, the Company issued 60,000
shares of preferred stock for $150,000. Also, in fiscal 1996, all of
the outstanding shares of preferred stock totaling 230,000 shares were
converted into 230,000 shares of common stock. There is no preferred
stock outstanding as of September 30, 1997.
10 - INCOME TAXES
The Company has available approximately $5,000,000 as of September 30,
1997 in federal net operating loss carryforwards which can be used to
offset future federal taxable income, if any, until its expiration
through the year ending September 30, 2012.
For state income tax purposes, the Company also has available
approximately $5,000,000 in net operating loss carryforwards which can
be used to offset future state taxable income, if any, until its
expiration through the year ending September 30, 2002.
31
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
September 30, 1997
11 - COMMITMENTS AND CONTINGENCIES
LEASES
The Company leases its office and warehouse facilities through March
2000. Additionally, the Company leases two showrooms under
noncancellable leases through October 2000 and a retail store under a
lease that expires in September 2001. Rent expense for the years
ended September 30, 1997 and 1996 approximates $110,000 and $77,000,
respectively.
Minimum future lease payments are as follows:
Year Ending
September 30,
-------------
1998 $ 227,000
1999 227,000
2000 159,000
2001 39,000
----------
$ 652,000
----------
----------
ROYALTY AGREEMENT
The Company has a licensing agreement whereby the Company has the
exclusive right to design, manufacture and sell products utilizing the
"Aca Joe" trademarks. The Company is required to pay the greater of
royalties ranging from 1% to 4% of net sales of the related products
or minimum royalties.
The agreement specifies amounts based on a royalty year ending in May.
Minimum royalties are indicated below based on a May year-end and they
approximate amounts based on the Company's fiscal year-end. Minimum
royalties are as follows:
Royalty
Year Ending
May 31,
-----------
1998 $ 50,000
1999 120,000
2000 180,000
2001 200,000
2002 200,000
2003 - 2005 600,000
2006 - 2010 1,500,000
Each year thereafter 400,000
32
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
11 - COMMITMENTS AND CONTINGENCIES (Continued)
ROYALTY AGREEMENT (Continued)
Royalty expense for the years ended September 30, 1997 and 1996
amounted to $25,000 and $17,917, respectively.
In addition, the agreement allows the Company to sublicense the use of
these trademarks to other business entities (sublicensees). The
Company will be required to pay to the licensor the greater of
one-half of all royalty income received by the Company from the
sublicensee or 2% of the net sales of related product by the
sublicensee.
An officer/stockholder of the Company is also a stockholder of the
entity (licensor) providing this royalty agreement.
STOCK PURCHASE WARRANTS
In conjunction with the public offering (Note 1), the Company has
outstanding warrants to purchase up to 1,350,000 shares of the
Company's common stock at $6.00 per share through 2001 and also has
outstanding warrants to purchase up to 270,000 shares of common stock
through 2001 at an approximate average price of $6.00 per share.
During the year ended September 30, 1997, the Company issued
additional warrants to purchase up to 75,000 shares of common stock at
$1.00 per share through July 31, 2002.
EMPLOYMENT AGREEMENTS
Effective September 16, 1996, the Company entered into an employment
agreement with an officer. The agreement provides for an annual
salary of $150,000 per year, plus 1% of the Company's annual sales up
to $50,000,000, plus participation in the Company's executive bonus
plan. If the Company terminates the agreement or if the officer
terminates due to death or disability, the officer is entitled to a
minimum of two years base salary. The officer has terminated
employment as of September 30, 1997 and this matter is included in the
disputes discussed in this note under "Contingencies".
33
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
11 - COMMITMENTS AND CONTINGENCIES (Continued)
CONTINGENCIES
The Company is involved in various legal disputes with a potential
total liability to the Company of approximately $300,000. Outside
counsel for the Company has advised that at this stage in the
proceedings, an opinion as to the probable outcome can not be made.
However, management of the Company believes that the ultimate outcome
of these matters will not have a material adverse effect upon the
Company's financial position.
12 - STOCK OPTION PLAN
The Company has a stock option plan which provides for the granting of
up to 300,000 shares of common stock. The option price per share will
be fixed on the date the option is granted and the maximum term of an
option may not exceed ten years. The option price will be not less
than the fair value of the stock at the date of grant.
Stock option activity during the year ended September 30, 1997 is as
follows:
Option
Shares Price
---------- -------------
Outstanding as of October 1, 1996 - $ -
Granted during the year ended
September 30, 1997 215,000 1.00 to 4.50
Canceled during the year ended
September 30, 1997 100,000 4.50
---------
Outstanding as of September 30, 1997 115,000 1.00 to 4.50
---------
---------
There were no options granted or outstanding prior to October 1, 1996.
Subsequent to September 30, 1997, options were granted to purchase up
to 75,000 shares at $.75 per share.
34
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
13 - DEFERRED INCOME TAXES
Components of the Company's gross deferred tax balance and deferred
tax asset valuation allowance are as follows:
Deferred tax assets
Net operating loss carryforwards $ 2,000,000
Tax basis of inventory greater than
book basis 28,000
Less valuation allowance (2,028,000)
-----------
Net deferred taxes $ -
-----------
-----------
100% valuation allowance is necessary due to the uncertainty of future
earnings and the resultant realization of future tax benefits.
14 - MAJOR CUSTOMERS
For the year ended September 30, 1997, approximately 10% of the
Company's sales were to one customer. For the year ended September
30, 1996, approximately 52% of the Company's sales were to two
customers, of which one customer accounted for 40% of sales. All
receivables were sold to the Company's factor.
15 - ADDITIONAL PAID-IN CAPITAL
Prior to the public offering in August 1996 (Note 1), the Company
entered into a $400,000 unsecured loan transaction with a group of
institutional and individual investors. The loan carried an interest
rate of 10% and matured on the date of the public offering. In
connection with this loan, the Company issued warrants to purchase a
total of 65,000 shares of common stock at an exercise price of $.01
per share. All of the warrants have been exercised. The fair value
of the warrants granted on the 65,000 shares is $162,500 and has been
accounted for as additional paid-in capital and a discount on the
above loan. The fair value is based upon an estimate of the relative
fair value of the warrants compared to the debt. The amount of the
discount of $162,500 is included in interest expense for the year
ended September 30, 1996.
35
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. dba ACA JOE
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
16 - REACQUISITION OF COMPANY STOCK
During the year ended September 30, 1997, the Company reacquired
121,000 shares of its common stock for $154,540.
17 - GOING CONCERN
The accompanying financial statements have been prepared in conformity
with generally accepted accounting principles, which contemplate the
continuation of the Company as a going concern. However, the Company
sustained a loss of approximately $3,000,000 for the year ended
September 30, 1997 and as of September 30, 1997, the Company's
accumulated deficit is approximately $5,200,000.
In order to generate profitable operations, the Company needs to
increase its sales volume and reduce operating overhead. In addition,
to continue as a going concern, the Company may need an infusion of
additional capital.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On June 28, 1996, the Company dismissed Chaskes & Company, Certified Public
Accountants, as the Company's principal accountants. On the same date, the
Company engaged Fineman West & Co. LLP as its new principal accountants to
audit its financial statements for the fiscal period and year ended
September 30, 1995 and 1996, respectively. These decisions were made with the
approval of the Company's Board of Directors.
The Company believes, and has been advised by Chaskes & Company that it
concurs in such belief, that (a) Chaskes & Company's report on the Company's
financial statements for the period from inception through September 30, 1995
did not contain any adverse opinion or disclaimer of opinion, nor was it
modified as to uncertainty, audit scope or accounting principles, and (b)
there was no disagreement between the Company and Chaskes & Company on any
matter of accounting principles or practices, financial statement disclosure,
or accounting scope or procedure which, if not resolved to the former
accountant's satisfaction, would have caused it to make reference to the
subject matter of the disagreement in such report.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.
MANAGEMENT
36
<PAGE>
The following table sets forth the names and year of birth of the Company's
directors, executive officers, and key employees.
NAME YEAR OF BIRTH POSITION
- ---- ------------- --------
Terrence L. McGovern 1949 Chief Executive Officer,
Chairman of the Board of
Directors and Secretary
James A. McDermott 1936 Director
Stuart Bryer 1927 General Manager
Michael Mote 1955 Controller
Alan I. Annex (1),(2) 1961 Director
Lawrence N. Hurwitz (1),(2) 1939 Director
(1) Compensation Committee member
(2) Audit Committee member
Mr. McGovern is the founder of the Company, and he has served in the above
positions since the Company's formation in April 1995. From 1992 to 1995,
Mr. McGovern was chief executive officer of YBM Development Company, which
franchises food concepts and performs management consulting functions. From
1990 to 1992, Mr. McGovern was chief executive officer of Integrated Consortium,
Inc., which provided consulting services in the areas of finance, marketing and
operations to consumer products companies. From 1988 to 1990, Mr. McGovern was
chief operating officer of William & Clarissa, a manufacturer and marketer of
upscale children's toiletries. From 1978 until 1988, Mr. McGovern served as
chief executive officer of The McGovern Company, Inc., owner of food franchises,
restaurants and men's retail apparel outlets.
Mr. McDermott has served as President and Chief Operating Officer of the
Company from April 1995 to December 1997, but has been terminated in order to
conserve costs. From 1991 to 1994, he was president of Choose, a private label
apparel manufacturer. From 1990 to 1991, Mr. McDermott served as president of
Catalina Swimwear and Sportswear. From 1988 to 1990, Mr. McDermott acted as a
consultant with the public accounting firm of Stonefield Josephson, where he
developed an apparel software accounting package. From 1984 to 1987,
Mr. McDermott served as president of Fashion Portfolio, a former subsidiary of
Levi Strauss & Co., which designed, manufactured and marketed men's sportswear.
From 1963 to 1984, Mr. McDermott served in various management positions with
Levi Strauss & Co., including sr. vice president of marketing, president, Levi
Strauss USA Group 11, and president of Levi Strauss & Co. Womenswear Division.
37
<PAGE>
Mr. Bryer was hired as General Manager in August 1997. He was the managing
owner of Cotton Stuff, Inc., since its inception in 1993. Previously, Mr. Bryer
owned and operated Grand Final..
Mr. Mote was hired in Controller in 1997. He was the controller for Cotton
Stuff, Inc. since its inception in January 1993. Previously, Mr. Mote managed a
small chain of retail clothing stores.
Mr. Annex was elected a Director in November 1995. He serves as a
designee of National Securities Corp. pursuant to provisions of the Company's
underwriting agreement in connection with its initial public offering. He has
been a partner at Camhy Karlinsky & Stein LLP since July 1995. From July
1994 to June 1995, Mr. Annex was of counsel to the firm. From January 1993
to June 1994, Mr. Annex was associated with Proskauer Rose Goetz & Mendelsohn
and prior thereto he was associated with Shea & Gould. Mr. Annex is a
director of Marketing Services Group, Inc.
Mr. Hurwitz was elected a Director in January 1996. Since 1988,
Mr. Hurwitz has served as the chief executive officer of Lawrence Financial
Partners, a firm specializing in merchant and investment banking transactions.
From 1973 to 1988, Mr. Hurwitz served as president and chief executive officer
of Western Junction, an 80 store men's apparel retailer.
ITEM 10. EXECUTIVE COMPENSATION.
SUMMARY COMPENSATION TABLE
The following table sets forth the compensation paid by the Company to the
chief executive officer and the next most highly compensated officer (the "Named
Executive Officers") for services rendered during the fiscal years ended
September 30, 1997 and 1996 and the period from July 1 to September 30, 1995.
The Company did not start paying salaries until July 1, 1995.
NAME AND
PRINCIPAL POSITION FISCAL YEAR SALARY
- ------------------ ----------- ------
Terrence L. McGovern 1997 $108,000
Chairman of the Board and 1996 100,670
Chief Executive Officer 1995 21,000
James A. McDermott 1997 $108,000
President and Chief 1996 104,700
Operating Officer 1995 24,000
EMPLOYMENT AGREEMENTS
Mr. McGovern entered into an employment agreement with the Company in May
1996 pursuant to which Mr. McGovern serves as the Company's chief executive
officer. The term of the agreement is for a period of two years at a base
salary of $109,000, with a bonus at the discretion of the Board of Directors.
38
<PAGE>
Mr. McDermott entered into an employment agreement with the Company in May
1996 to serve as the Company's president and chief operating officer. The term
of the agreement is for a period of two years, at a base salary of $109,000,
with a bonus at the discretion of the Board of directors.
In conjunction with the purchase of the Cotton Stuff assets, the Company
entered into an employment agreement with Stuart Bryer, a former Cotton Stuff
officer. The agreement calls for Mr. Bryer to serve as the Company's General
Manager for a period of six months. Mr. Bryer receives a base compensation of
$156,000 per annum. As additional compensation, the Company has granted
Mr. Bryer a five-year employee stock option agreement under the Company's stock
option plan to purchase 100,000 shares of its common stock at $1.00 per share.
In October 1997, the Company entered into a one-year employment agreement
with Mr. Dorian Bolick. Mr. Bolick serves as the Designer/Merchandiser of the
ACA JOE brand. Mr. Bolick receives annual compensation of $80,000.
The Company entered into an employment agreement dated September 16, 1996
with Jill Grossman pursuant to which Ms. Grossman served as the Company's
executive vice-president and national sales manager at a base salary of $150,000
plus a commission of one percent of annual sales up to $50,000,000 (a maximum
commission of $500,000) plus participation in any executive bonus plan. Ms.
Grossman left the Company in July 1997, due to pregnancy complications which she
has asserted entitle her to approximately $200,000 severance pay. The Company
has taken the position that Ms. Grossman is free to return at the conclusion of
her pregnancy/maternity leave, and that no severance compensation is due.
STOCK OPTION PLAN AND OTHER STOCK OPTIONS
The Company adopted a Stock Option Plan on November 15, 1996. The Plan
authorizes the grant of options to officers and other employees, non-employee
directors, and consultants for a maximum of 300,000 shares of the Company's
common stock. The maximum number of shares for which options may be granted
under the Plan to any one person in any calendar year is 50,000 shares. The
Plan was adopted by the Board of Directors and is not subject to shareholder
approval, and may be amended by the Board without shareholder approval. Options
granted under the plan to officers and directors are intended to be exempt from
Section 16(b) of the Securities Exchange Act of 1934 pursuant to Rule 16b-3
thereunder.
The Board has granted the following stock options which remain outstanding.
There were no grants in fiscal 1997 to the Named Executive Officers.
a. Five-year options granted under the Plan on November 15, 1996 to
Messrs. Annex and Hurwitz each for 5,000 shares at $4.50 per share, fully
vested. The Company also has a policy of granting non-employee directors an
option for 2,500 shares annually as part of their compensation for serving as a
director, pursuant to which on March 26, 1997, Messrs. Annex and Hurwitz each
received five-year options under the Plan for an additional 2,500 shares at
$4.50 per share.
39
<PAGE>
b. On August 1, 1997, two principals of the Company's public relations
firm received non-Plan, five-year options totalling 75,000 at $1.00 per share.
c. On August 22, 1997, Stuart Bryer received a non-Plan five-year option
to purchase 100,000 shares at $1.00 per share, which option was granted to him
in connection with the Company's acquisition of the assets of Cotton Stuff,
Inc., which company was principally owned by Mr. Bryer.
d. On December 18, 1997, Michael Mote received a ten-year option under
the Plan for 50,000 shares at $.75 per share and another employee received a
ten-year option Plan for 25,000 shares at $.75 per share.
On September 30, 1997, the closing sale price for the Company's common
stock on the Nasdaq SmallCap Market was $.75 per share.
COMPENSATION OF DIRECTORS
The Company pays $300 per Board meeting attended to each director who is
not an officer or employee of the Company. All directors are entitled to
reimbursement of expenses incurred in traveling to and from Board meetings.
Directors also receive a five-year stock option for 5,000 shares upon becoming
director, and annually receive an additional option for 2,500.
INDEMNIFICATION OF DIRECTORS AND OFFICERS AND LIMITATION OF DIRECTORS' LIABILITY
The Company has adopted provisions in its Articles of Incorporation that
eliminate, to the fullest extent permissible under California law, the liability
of its directors to the Company for monetary damages. Such limitation of
liability does not affect the availability of equitable remedies such as
injunctive relief, rescission or damages. The Company's Bylaws provide that the
Company shall indemnify its directors and officers to the fullest extent
permitted by California law, including in circumstances in which indemnification
is otherwise discretionary under California law.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors and officers of the Company pursuant to the
foregoing provisions, or otherwise, the Company has been advised that in the
opinion of the Securities and Exchange Commission, such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
unenforceable. At the present time, there is no pending litigation involving a
director, officer, employee or other agent of the Company in which
indemnification would be required or permitted. The Company is not aware of any
threatened litigation or proceeding that may result in a claim for such
indemnification.
ITEM 11. SECURITY OWNERSHIP OF BENEFICIAL OWNERS AND MANAGEMENT.
40
<PAGE>
The following table sets forth certain information with respect to
beneficial ownership of the Company's common stock as of January 2, 1997 by
(i) each executive officer of the Company, (ii) each director of the Company,
(iii) all directors and executive officers of the Company as a group, and
(iv) each person known by the Company to be the beneficial owner of more than
five percent of the common stock.
NAMES AND ADDRESSES OF BENEFICIAL OWNER
NO. OF SHARES
PERCENT OF CLASS NO. OF SHARES PERCENT OF CLASS
- ---------------- ------------- ----------------
Terrence L. McGovern 990,000 33.5%
50 Ridgecrest Road
Kentfield, CA 97904
James A. McDermott 370,500 12.5%
22522 Malden Street
West Hills, CA 91304
Complete Management, Inc. 154,500 5.2
254 West 31st St.
New York, NY 10001
Alan I. Annex 7,500 *
Lawrence N. Hurwitz 7,500 *
All Directors and Executive 1,375,500 46.2%
Officers as a group
(4 persons)
* Less than 1% of outstanding shares of Common Stock.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In May 1995, the Company entered into the License Agreement with Action
Down Under, Ltd., an entity that owns the exclusive right to source and use the
"ACA JOE" name in the United States. The License Agreement gives the Company an
exclusive United States license to source, under the name and style "ACA JOE."
Mr. McGovern, the chairman of the board and chief executive officer of the
Company, holds a 17% equity interest in the licensor. Mr. McGovern's ownership
interest in Action Down Under, Ltd. represents a conflict of interest vis-a-vis
his fiduciary obligations to the Company.
41
<PAGE>
In March 1996, the Company borrowed $30,000 in total from Messrs.
McGovern, McDermott and Ankeny (a former officer). Each loaned the Company
$10,000 pursuant to certain promissory notes bearing interest at the rate of 18%
per annum and maturing at the earlier of the close of the Company's initial
public offering or March 31, 1997. The loans were repaid in September 1996.
The proceeds from these loans were used for working capital and general
corporate purposes.
On September 17, 1996, Mr. McDermott borrowed $10,000 from the Company,
which is payable with interest at 10%. Interest has been paid through
September 30, 1997; the loan balance will offset any amount owed by the Company
to Mr. McDermott in connection with the recent termination of Mr. McDermott's
employment.
In October 1996, the Company purchased 5,000 shares of its common stock
for a total of $8,750 from a former officer, Mitchell Porigow, in connection
with a dispute over his severance from the Company.
In August 1997, Mr. Hurwitz received a finder's fee of $7,500 from
Capital Factors in connection with that company's becoming the Company's
factor incident to the Cotton Stuff acquisition.
All future transactions, including loans, between the Company and its
officers, directors, principal shareholders and affiliates will be approved by a
majority of the Board of Directors, including a majority of the independent and
disinterested outside directors on the Board of Directors, and will be on terms
no less favorable to the Company than could be obtained from unaffiliated third
parties.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
3.1 Registrant hereby incorporates by reference Registrant's Articles of
Incorporation, filed as Exhibit 3.1 to Registrant's Form SB-2 (File
No. 333-5292LA) (the "Form SB-2")
3.2.1 Registrant hereby incorporates by reference Registrant's By-Laws,
filed as Exhibit 3.2 to Registrant's Form SB-2
3.2.2 Registrant hereby incorporates by reference Registrant's Amended
Bylaws filed as Exhibit 3.2.2 to Registrant's Form 10-KSB for the year
ended September 30, 1996
4.1 Registrant hereby incorporates by reference the Representative's
Warrant Agreement, filed as Exhibit 4.1 to Registrant's Form SB-2
4.2 Registrant hereby incorporates by reference the Warrant Agreement
(Warrants), filed as Exhibit 4.2 to Registrant's Form SB-2
42
<PAGE>
10.1.1 Registrant hereby incorporates by reference the License Agreement with
Action Down Under, Ltd., filed as Exhibit 10.1 to Registrant's Form
SB-2
10.1.2 Registrant hereby incorporates by reference the Amendment to License
Agreement with Action Down Under, Ltd., filed as Exhibit 10.10 to
Registrant's Form SB-2
10.2 Registrant hereby incorporates by reference the Employment Agreement
with Terrence L. McGovern, filed as Exhibit 10.3 to Registrant's Form
SB-2
10.3 Registrant hereby incorporates by reference the Employment Agreement
with James A. McDermott, filed as Exhibit 10.4 to Registrant's Form
SB-2
10.4 Registrant hereby incorporates by reference the Employment Agreement
dated September 16, 1996 with Jill Grossman, filed as Exhibit 10.7 to
Registrant's Form 10-KSB for the year ended September 30, 1996
10.5 Registrant hereby incorporates by reference the Consulting Agreement
dated June 27, 1996 with Angela M. Acosta, filed as Exhibit 10.8 to
Registrant's Form 10-KSB for the year ended September 30, 1996
10.6 Registrant hereby incorporates by reference the form of Officer
Promissory Notes, filed as Exhibit 10.8 to Registrant's Form SB-2
10.7.1 Registrant hereby incorporates by reference the Financial Consulting
Agreement with IRA Capital Corporation, filed as Exhibit 10.9 to
Registrant's Form SB-2
10.7.2 Registrant hereby incorporates by reference the Rescission of
Financial Consulting Agreement with IRA Capital Corporation, filed as
Exhibit 10.12 to Registrant's Form SB-2
10.8 Registrant hereby incorporates by reference the Subordinated
Promissory Note, filed as Exhibit 10.11 to Registrant's Form SB-2
10.9 Registrant hereby incorporates by reference the Service Agreement
dated November 25, 1996 with Odiorne Wilde Narraway Groome
Advertising, Inc., filed as Exhibit 10.13 to Registrant's Form 10-KSB
for the year ended September 30, 1996
43
<PAGE>
10.10 Registrant hereby incorporates by reference its Stock Option Plan
dated November 15, 1996, filed as Exhibit 10.15 to Registrant's Form
10-KSB for the year ended September 30, 1996
10.11 Specimen Form of Stock Option Agreement for Directors
10.12 Agreement dated August 1, 1997 with Booke and Company, Inc.
10.13 Registrant hereby incorporates by reference the Agreement and Bill of
Sale for Purchase of Assets of Cotton Stuff, Inc. and the form of
Employment Agreement with Stuart Bryer, filed as Exhibit 2.1 to
Registrant's Form 8-K dated September 29, 1997
10.14 Warrant dated July 23, 1997 issued to John R. Ankeny
10.15 Sharing Agreement dated August 22, 1997 with CMG Corporation
10.16 Sublease dated August 22, 1997 for premises at 1620 South Los Angeles
Street, Los Angeles, California.
16 Registrant hereby incorporates by reference the Letter of Chaskes &
Company, filed as Exhibit 99.1 to Registrant's Form SB-2
27 Financial Data Schedule
(b) During the quarter ended September 30, 1997, the Company filed (i)
Form 8-K dated September 29, 1997, reporting under Item 2 the acquisition of the
assets of Cotton Stuff, Inc.; and (ii) Form 8-K/A dated December 1, 1997 filing
financial statements relating to Cotton Stuff, Inc.
44
<PAGE>
SIGNATURES
In accordance with 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.
DATE: January 12, 1998 PACIFIC COAST APPAREL COMPANY, INC.
By: s/
-------------------------------
Terrence L. McGovern
CHIEF EXECUTIVE OFFICER
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
s/
- -------------------- Chairman of the Board, Chief Executive January 12, 1998
Terrence L. McGovern Officer and Chief Financial Officer
(Principal Executive Officer, Principal
Financial Officer and Principal
Accounting Officer)
s/
- --------------------
James A. McDermott Director January 12, 1998
s/
- --------------------
Alan I. Annex Director January 12, 1998
- --------------------
Lawrence N. Hurwitz Director January 12, 1998
45
<PAGE>
STOCK OPTION AGREEMENT
PURSUANT TO PACIFIC COAST APPAREL COMPANY, INC.
STOCK OPTION PLAN
(for Directors)
THIS AGREEMENT is entered into as of the 15th day of November, 1996, by and
between Pacific Coast Apparel Company, Inc., a California corporation (the
"Company") with its principal office at 11828 Teale Street, Culver City, CA
90230, and Alan I. Annex ("Optionee").
RECITALS
The Company has adopted the Pacific Coast Apparel Company, Inc. Stock
Option Plan (the "Plan"), which Plan is available for review by the Optionee at
the Company's principal office. The Committee established pursuant to the Plan
regards Optionee as a key employee of, or consultant to, the Company and has
determined that it would be in the best interests of the Company and its
shareholders to grant the option provided for herein to Optionee as an
inducement to become a director, or to remain in the service as a director of,
the Company and as an incentive for productive efforts during such service.
NOW, THEREFORE, the parties agree:
1. DEFINITIONS.
Capitalized terms not defined herein shall have the meaning set forth in
the Plan.
2. GRANT OF OPTION.
The Company hereby grants to Optionee, pursuant to the Plan, the right and
option to purchase under the terms of this Agreement all or any part of an
aggregate of 5,000 Shares. This option is not intended to be an "incentive
stock option" within the meaning of Section 422A of the Internal Revenue Code.
Optionee is advised to consult his or her personal advisor concerning the
federal and state income tax consequences of this option.
3. OPTION PRICE.
The option price for the Shares covered by this Agreement shall be $4.50
per Share ("Option Price").
<PAGE>
4. EXERCISE OF OPTION.
Optionee may exercise this option with respect to all or any part of the
Shares then subject to purchase under this option by (i) giving the Company
irrevocable written notice of such exercise specifying the number of Shares as
to which such option is so exercised, and (ii) delivering to the Company (a)
cash equal to the Option Price for such Shares, (b) other shares of Company
common stock owned by the Optionee in a form acceptable to the Committee, (c) a
combination of such stock or cash, or (d) a loan from the Company in accordance
with Section 2.7 of the Plan; except that the Committee in its sole discretion
may require that payment be made solely by delivering cash equal to the option
price for the Shares as to which the option is exercised.
5. CONDITIONS OF EXERCISE.
The Optionee's right to exercise this option shall be subject to and
limited by the following conditions:
(a) This option shall be exercisable immediately upon grant.
(b) The option shall not be exercisable if and to the extent the Committee
determines that such exercise would be in violation of applicable state or
federal securities laws or the rules and regulations of any securities exchange
on which the Shares are traded. If the Committee makes such a determination, it
shall endeavor to obtain compliance with such laws, rules or regulations. In
making any determination hereunder, the Committee may rely on an opinion of
counsel for the Company. If deemed appropriate by the Company's counsel, the
stock certificates issued hereunder will bear a legend restricting transfer in
conformity with the Securities Act of 1933 and any applicable state securities
laws.
(c) In the event the Company determines that it is required to withhold or
collect, as a result of any exercise of this option or as a result of the
disposition of the Shares acquired upon such exercise, any state or federal
income or other tax, Optionee agrees to make arrangements satisfactory to the
Company to meet such withholding or collection requirements. Withholding taxes
also may be paid by withholding of Shares, or by delivery of shares of Company
common stock owned by the Optionee, in form acceptable to the Committee.
(d) As soon as practicable after receipt of payment and notice of
exercise, without transfer or issue tax or other incidental expense to Optionee
(except incident to a transfer permitted by Section 7), the Company shall
deliver to Optionee at the Company's principal office, or such other place as
may be mutually acceptable to the Company and Optionee, a certificate or
certificates for the Shares with respect to which exercise is made hereunder.
Such Shares, which shall be fully paid and non-assessable, shall be issued in
the name of Optionee, or, in the event the options granted hereby are properly
exercised by some person other than Optionee, such person. With the consent of
the Committee,
2
<PAGE>
such Shares may be issued jointly in the name of Optionee and one or more other
persons specified by Optionee.
6. TERM OF OPTION.
This Agreement and all rights of Optionee hereunder shall terminate on the
day preceding the fifth anniversary of this Agreement, at 5:00 p.m. Pacific
Time. Further, the option granted hereunder may be exercised only while
Optionee is in the employ or service of the Company, or thereafter, to the
extent the option was exercisable at the date of termination as follows:
(i) within six months following termination of service on account
of death or disability; or
(ii) within three months following termination of service by the
Company or by Optionee.
7. TRANSFERABILITY.
This Agreement may be transferred by Optionee to members of Optionee's
immediate family, or to a trust or entity for the benefit of Optionee's
immediate family. Upon death, this Agreement shall be transferable by will or
the laws of descent and distribution.
8. MISCELLANEOUS.
(a) SHAREHOLDER RIGHTS. Optionee shall not have any of the rights of a
shareholder with respect to the Shares subject to the option granted hereby,
except to the extent the certificates for such Shares shall have been issued
upon the exercise of such option as provided for herein.
(b) SERVICE. Nothing in this Agreement shall confer upon Optionee any
right to continue in the service of the Company or interfere in any way with the
right of the Company to terminate his or her service at any time with or without
cause.
(c) NOTICES. Any notices or communications by either party to the other
hereunder shall be given by personal delivery (including facsimile transmission)
or by first class mail, return receipt requested, addressed, if to the Company,
at its principal office, and if to Optionee, at:
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
3
<PAGE>
Notices or communications shall be deemed given on the date of mailing. Either
party may change its address for the receipt of notices or communications
hereunder, provided notice of such change is given in advance to the other party
in the manner provided in this paragraph.
(d) INTERPRETATION AND ENFORCEMENT. The interpretation, construction,
performance and enforcement of this Agreement and the Plan shall be within the
sole discretion of the Committee, and its determination shall be conclusive and
binding upon all interested persons.
(e) EXECUTORS, SUCCESSOR AND ASSIGNS. Subject to terms and provisions of
this Agreement limiting the right of assignment, this Agreement shall be binding
upon and inure to the benefit of the parties, their heirs, executors, successors
and assigns.
(f) GOVERNING LAW. This Agreement, and all rights and obligations
hereunder, shall be governed by the laws of the State of California.
IN WITNESS WHEREOF, this Agreement has been executed the year and date
first hereinabove written.
-----------------------------------------------
Alan I. Annex
PACIFIC COAST APPAREL COMPANY, INC.
By
---------------------------------------------
Terrence L. McGovern, Chief Executive Officer
4
<PAGE>
BOOKE BOOOKE AND COMPANY INC. 355 Lexington Avenue
Investor Relations Counsel New York, NY 10017
LETTER OF AGREEMENT 212-490-9095
212-867-0529 (Fax)
Date: August 1, 1997
This will confirm the agreement between Pacific Coast Apparel Company
Inc. ("Company"), and Booke and Company Inc., ("Booke"), pursuant to which Book
will furnish to the Company investor relations services, as follows:
1. Booke will perform services for the Company in all areas generally
considered to be investor relations, including but not limited to the
preparation and dissemination of financial publicity, annual and interim reports
for stockholders and the financial community, preparation and dissemination of
information concerning the Company's operations and consultation with respect to
the timing and content of financial communications. Booke will arrange meetings
with key money managers, analysts and brokers for the management of the company.
2. Information to be, released by Booke will be disseminated to general,
financial and trade media, the investment banking community, banks statistical
organizations, all as deemed necessary or appropriate by Booke and the Company.
3. All information to be disseminated through Booke will be based upon
material furnished by the Company and will be released only after receipt by
Booke of final approval from the Company. The Company recognizes that Booke may
have, either at the present time or in the future, obligations imposed upon it
by the federal securities laws to verify independently certain of the
information contained in releases being made through it. Accordingly, the
Company agrees that Booke shall have the right, as necessary, to make -such
reasonable inquiries as it shall deem necessary or appropriate of officers and
employees of the Company and its counsel and auditors with respect to
information being released by Booke. The Company recognizes that the accuracy
and completeness of all information contained in releases ultimately rests with
the Company and agrees to indemnify and hold harmless Booke from and against any
loss and expense arising out of a claim that any information released by it is
inaccurate or incomplete.
4. The Company acknowledges and understands that Booke, in order to perform
its services effectively under this agreement and to satisfy such obligations
as may be imposed upon it by federal securities laws, requires prompt receipt
of all material information with respect to the Company, its operations and its
prospects. Accordingly, you agree to furnish promptly to Booke copies of all
reports and other filings with the Securities and Exchange Commission, all
communications with stockholders and all reports received from your auditors.
Furthermore, you recognize the necessity of
<PAGE>
promptly notifying Booke of all material developments concerning the Company,
its business and prospects and to supply Booke with sufficient information
necessary for Booke to make a determination as to its compliance with its own
procedures as well as any legal requirements.
5. The term of this agreement shall be for a period one year. As
compensation for the services to be rendered hereunder, the Company will pay to
Booke a monthly retainer of $3,000 in advance. In addition, out-of-pocket
expenses will be payable by the Company upon submission by Booke of monthly
invoices delineating such expenses. Production items such as printing, artwork
and photography will be billed directly to the company from the vendor upon
written approval by the company. If any out-of-pocket expense item billed by
Booke to the Company is not paid within 30 days after billing, the amount.
billed shall thereafter bear interest at the rate of 2 percent per month until
paid. This agreement shall continue in effect for the full period set forth in
this paragraph 5 and thereafter unless terminated by the Company or Booke upon
not less than 90 days written notice, which notice may be given only after the
expiration date.
6. It is understood that in its representation of the Company, Booke may
come into confidential information about the Company and its products. Other
than in the course of creating publicity on behalf of the Company and the normal
dissemination of corporate financial information. to the public with the
approval of the Company, Booke agrees to maintain strict confidentiality both
during and after any representation of the Company other than as may be required
by State and/or Federal entities in any legally binding proceedings relating to
such entities.
7. The Company recognizes that client service officers, account executives
and other employees (such officer, executive or other employee herein called an
"Employee") of Booke are necessary for the continued servicing by Booke of its
several clients and that it would be a substantial detriment to Booke if the
Company were directly or indirectly to employ any such Employee while still
employed by Booke or after any Employee left the employment of Booke (a "former
Employee"), or any person or entity, other than Booke and its affiliates, on
whose behalf any such Employee or former Employer is then acting, in connection
with any of the kinds of services which Booke has performed, performs or is
capable of performing for the Company. Accordingly, the Company agrees that it
will not, during the term of this agreement and for a period of two years after
its termination, employ, directly or indirectly, any Employee or former
Employee, (or any person or other entity, other than Booke and its affiliates on
whose behalf any such Employee or former Employee is then acting) in any
capacity with respect to services of the kind which Booke has performed, then
performs or is capable of performing for the Company. In the event of any
violation of this agreement by the Company, in addition to injunctive relief,
Booke shall be entitled to liquidated damages which the Company and Booke agree
shall mean an amount equal to 40% of the gross compensation, fees or other
payments made by the Company to any such Employee or former Employee (or any
person or other entity, other than Booke and its affiliates, on whose behalf any
such Employee or former Employee is then acting) during the period of violation
of this agreement by the Company.
<PAGE>
8. Booke recognizes the personal nature of the services to be performed by
it and agrees that it shall not transfer or assign to any other person, firm or
corporation its responsibilities and obligations under this agreement. In the
event that a merger, sale of assets or change of control of the Company or Booke
shall occur, this agreement shall be binding upon the successor and assigns of
such party.
Please confirm that the foregoing correctly sets forth our agreement by signing
the copy of this agreement provided for that purpose.
BOOKE AND COMPANY, INC.
By
---------------------------
Gerald A. Amato
President
AGREED AND ACCEPTED
- ------------------------------
Terry McGovern
Chairman and Chief Executive Officer
Pacific Coast Apparel Co., Inc.
Date
--------------------------
<PAGE>
WARRANT NO.------------------------ RIGHT TO PURCHASE
9,000 SHARES
PACIFIC COAST APPAREL COMPANY, INC.,
A CALIFORNIA CORPORATION
WARRANT TO PURCHASE COMMON STOCK
Registered Owner: John Ankeny
---------------
Date: July 23, 1997
---------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
FOR VALUE RECEIVED, Pacific Coast Apparel Company, Inc., a California
corporation (the "Corporation") grants the following rights to the registered
owner of this WARRANT:
(a) ISSUE. Upon tender to the Corporation (as defined in paragraph (e)
hereof), the Corporation shall issue to the registered owner hereof the number
of shares specified in paragraph (b) hereof fully paid and nonassesable shares
of Common Stock of the Corporation that the registered owner is otherwise
entitled to purchase.
(b) NUMBER OF SHARES. The number of shares of Common Stock of the
corporation that the registered owner of this Warrant is entitled to receive
upon exercise of this Warrant is 9,000 shares. The Corporation shall at all
times reserve and hold available sufficient shares of common Stock to satisfy
all conversion and purchase rights represented by outstanding convertible
securities, option and warrants, including this Warrant. The corporation
covenants and agrees that all shares of Common Stock that may be issued upon the
exercise of this Warrant shall, upon issuance, be duly and validly issued, fully
paid and nonassessable, and free from all taxes, lines and charges with respect
to the purchase and the issuance of the shares.
(c) EXERCISE PRICE. The exercise price of this Warrant, the price at
which the shares of stock purchasable upon exercise of this Warrant may be
purchased, is $1.00 for all 9,000 shares.
(d) EXERCISE PERIOD. Provided, that this Warrant may only be exercised
on or before July 22, 2000 ("Exercise Period"). If not exercised during this
period, this Warrant and all rights granted under this Warrant shall expire and
lapse.
(e) TENDER. The exercise of this Warrant must be accomplished by actual
delivery of the Exercise Price in cash, certified check or official bank draft
in lawful money of the United States of America, and by actual delivery of a
duly exercised form, a copy of which is attached to this Warrant as Exhibit "A,"
properly executed by the Registered owner of this Warrant, and by
<PAGE>
surrender of this Warrant. The payment and exercise form must be delivered,
personally or by mail, to the principal offices of the Corporation, currently at
11828 Teale Street, Culver City, California 90230. Documents sent by mail shall
be deemed delivered when they are received by the Corporation.
(f) LEGEND. The shares of Common Stock of the Corporation (or the
shares into which the Common Stock has been changed or converted) purchased upon
the exercise of this Warrant ("Restricted Stock") or purchasable upon exercise
of this Warrant ("Underlying Stock") shall not be transferable except upon
conditions stated below, which are intended to insure compliance with federal
and state securities laws. The certificates representing these shares of stock,
unless the same are registered prior to exercise of this Warrant, shall be
stamped or otherwise imprinted with a legend in substantially the following
form:
"The securities represented by this Certificate have not been registered
under the Securities Act of 1933, as amended, or the securities laws of any
state. The securities have been acquired for investment and may not be
sold, offered for sale, transferred, hypothecated in the absence of an
effective registration under the Securities Act of 1933, a amended, and any
applicable state securities laws or an opinion of counsel satisfactory in
form and substance to counsel for the Corporation that the transaction
shall not result in a violation of state or federal securities laws."
(g) REGISTRATION. The shares of Common Stock that are to be received by
the Registered Owner upon exercise of this Warrant will not be registered by the
Corporation under the Securities Act of 1933 (the "Act"). John Ankeny
represents and warrants that he is acquiring this Warrant for his own account
for investment, and not with a view to distribution within the meaning of the
Act. He further acknowledges that the shares may not be sold publicly for one
year after purchase and then only in accordance with SEC Rule 144; and that he
has consulted legal counsel in this regard.
<PAGE>
EXHIBIT A
(To be completed by the holder of the Warrant to which this exhibit is attached
to exercise the Warrant and to purchase the stock purchasable upon exercise of
the Warrant.)
PACIFIC COAST APPAREL COMPANY, INC.
11828 TEALE STREET
CULVER CITY, CALIFORNIA 90230
The undersigned hereby: (1) irrevocably subscribes for and offers to purchase
9,000 shares of Common Stock of PACIFIC COAST APPAREL COMPANY, INC. pursuant to
the Warrant to which this exhibit is attached; (2) encloses payment of $1.00 for
these shares; and (3) requests that a certificate for the shares be issued in
the name of the undersigned and delivered to the undersigned at the address
specified below.
Date:
--------------- ---------------------------------------------------------
(PLEASE SIGN EXACTLY AS YOUR NAME APPEARS ON THE WARRANT)
---------------------------------------------------------
---------------------------------------------------------
(ADDRESS OF WARRANT HOLDER)
<PAGE>
SHARING AGREEMENT
This Sharing Agreement (the "Agreement") is made and entered into as of
August 22, 1997 by and between Cotton Stuff, Inc. ("CSI") and CMG Corporation
("CMG") with reference to the following facts and circumstances:
A. CSI and CMG are the Sublessee under a Sublease dated October 3,
1994, (the "Master Sublease") with SCKS, a general partnership (the "Master
Sublessor") of certain office and warehouse space and associated parking
located at 1620 South Los Angeles Street, Los Angeles, California (the
"Property").
B. CSI and CMG are jointly and severally liable to the Master
Sublessor for all obligations of the Sublessee under the Master Sublease.
C. CSI and CMG are entering into this Sharing Agreement to formalize
the existing agreement between them as to their respective rights and
responsibilities under the Master Sublease.
D. Effective August 22, 1997, CSI is subleasing its portion of the
Property to Pacific Coast Apparel Company, Inc., a subsidiary of which is
acquiring CSI's assets and business as a going concern.
NOW, THEREFORE, THE PARTIES AGREE AS FOLLOWS:
1. ALLOCATION OF SPACE: CSI shall have the right to use and occupy 7,850
square feet of office space and 21, 500 square feet of warehouse space ("CSI's
Premises") and CMG shall have the right to use and occupy 3,400 square feet of
office space and
1
<PAGE>
41,500 square feet of warehouse space ("CMG's Premises"), all as described on
Exhibit "A" hereto.
2. RENT OBLIGATIONS: For the balance of the term of the Master Sublease,
CSI shall pay monthly rent of $11,006.25 and CMG shall pay monthly rent of
$16,837.50.
3. COSTS AND EXPENSES: CSI shall pay the following costs and expenses
relating to the Property as the same become due and payable: (1) all charges
for water, power, fire sprinkler line and HVAC maintenance, (2) all charges for
garbage collection and pest control, (3) all building maintenance obligations of
Sublessee under the Master Sublease and (4) all salary, benefits and payroll-
related costs and expenses, including without limitation payroll taxes, for a
parking lot attendant. CMG shall reimburse CSI for the following share of such
expenses, within thirty days of receipt of billing therefor:
a. 65% of all charges for water, power and fire sprinkler line for
the warehouse portion of the Property;
b. 50% of all charges for HVAC maintenance for the warehouse portion
of the Property;
c. 35% of all charges for water, power, fire sprinkler line and HVAC
maintenance for the office portion of the Property;
d. 50% of all charges for garbage collection and pest control for
the Property;
e. 50% of all salary, benefits and payroll-related costs and
expenses, including without limitation payroll taxes, for a parking lot
attendant; and
2
<PAGE>
f. an "Allocable Share" (as defined below) of all building
maintenance obligations of Sublessee under the Master Sublease. As used
herein, Allocable Share means that share of the expense at issue which is
properly allocable to CMG's Premises as determined by CSI in good faith.
If the nature of a maintenance obligation is such that it is not
practicable of allocation in such manner, then CMG shall pay 35% of such
maintenance obligations relating to the office portion of the Property and
65% of such maintenance obligations relating to the warehouse portion of
the Property.
4. PARKING LOT REVENUES: CSI and CMG shall each receive fifty percent
(50%) of all revenues from operation of the parking lot on the Property.
5. INDEMNITIES: Each of CSI and CMG shall indemnify and hold the other
party and the other party's shareholders, officers and directors harmless from
and against any and all claims, demands, causes of action, proceedings, losses,
liabilities, damages, interest, penalties, judgments, costs and expenses
(including without limitation attorneys fees and costs of collection and
investigation) arising out of or resulting from any breach, by the indemnifying
party, of any provisions of this Agreement or the Master Sublease.
6. CONSENT TO SUBLEASES: CMG hereby consents to CSI's sublease of CSI's
Premises to Pacific Coast Apparel Company, Inc.
Executed as of August 22, 1997.
COTTON STUFF, INC. CMG CORPORATION
By By
--------------------------------- --------------------------------
Its Chief Executive Officer Its President
3
<PAGE>
SUBLEASE
This Sublease is made and entered into to be effective as of August 22,
1997 by and between COTTON STUFF, INC., a California corporation ("Sublessor")
and PACIFIC COAST APPAREL COMPANY, INC. ("Sublessee"), with reference to the
following facts:
A. MASTER LEASE: Sublessor and CMG Corporation ("CMG") are the
subtenants under a Sublease dated October 3, 1994, (the "Master Sublease") with
SCKS, a general partnership (the "Master Sublessor") of certain office and
warehouse space and associated parking located at 1620 South Los Angeles Street,
Los Angeles, California (the "Property"). The Master Sublease is attached as
Exhibit "A" and incorporated herein by this reference.
B. SHARING AGREEMENT: Sublessor and CMG are also parties to a written
Sharing Agreement dated August 22, 1997 whereby Sublessor and CMG have agreed to
an allocation of the space in the Property, rent for the Property, and
allocation of expenses relating to the Property. Under the Sharing Agreement,
Sublessor has the right to use 7,850 square feet of office space and 21,500
square feet of warehouse space as reflected on Exhibit "A" to the Sharing
Agreement (collectively, the "Premises"). Sublessor pays rent of $11,006.25 per
month for the Premises. The Sharing Agreement is attached as Exhibit "B" and
incorporated herein by this reference.
C. ASSET AGREEMENT: Sublessee has today entered into an Agreement and
Bill of Sale For Purchase of Assets of Cotton Stuff, Inc., whereby Sublessee's
subsidiary will become the owner of substantially all of the assets of
Sublessor.
1
<PAGE>
D. ASSIGNMENTS: By this Sublease, Sublessor is assigning to Sublessee
certain of its rights under the Master Sublease and its rights to the Premises,
all on the terms and conditions. Sublessee may assign this Sublease to its
wholly owned subsidiary, Pacific Coast Apparel Sub, Inc., provided, however,
that Sublessee shall remain jointly responsible for the obligations of Sublessee
hereunder.
NOW, THEREFORE, THE PARTIES AGREE AS FOLLOWS:
I. SUBLEASE OF PREMISES:
A. SUBLEASE: Sublessor hereby subleases the Premises to Sublessee and
Sublessee hereby leases the Premises from Sublessor on the terms and conditions
of this Sublease. The effectiveness of this Sublease is conditioned upon
Sublessor's receipt of the Master Sublessor and, if necessary, the landlord
under the ground lease wherein Master Sublessor is the tenant.
B. EXISTING SUBLEASES: This Sublease is subject to (1) the oral month-
to-month sublease of approximately 3,600 square feet of warehouse space in the
Premises by Sublessor to Schferes Fashions at a rate of $2,000 per month and
(2) the oral month-to-month sublease of approximately 1,200 square feet of
office space in the Premises by Sublessor to R.L.M. Industries, Inc. at a rate
of $1,200 per month. Sublessor hereby assigns to Sublessee all of Sublessor's
rights under such oral leases effective as of the date hereof. Sublessee shall
have the right to terminate such subleases in accordance with their terms.
2
<PAGE>
II. TERM AND POSSESSION:
The term of this Sublease shall be from August 22, 1997 until March 30,
2000. Sublessor shall deliver possession of the Premises on August 22, 1997.
Sublessee shall vacate the Premises upon expiration or earlier termination of
this Sublease. Sublessee shall reimburse Sublessor for and indemnify Sublessor
against all damages which Sublessor incurs from Sublessee's delay in vacating
the Premises. If Sublessee does not vacate the Premises upon the expiration or
earlier termination of this Sublease and Sublessor does not consent to such
continued occupancy, and Sublessor thereafter accepts rent from Sublessee,
Sublessee's continued occupancy of the Premises shall be deemed to be a "month-
to-month" tenancy, except that the rent then in effect for the Premises shall
increase by twenty five percent (25%).
III. RENT AND SECURITY DEPOSIT:
A. RENT: Sublessee shall pay Sublessor, as rent for the Premises, an
amount equal to Eleven Thousand Six and 25/100 Dollars ($11,006.25) per month,
payable on the first day of each month beginning on September 1, 1997. At the
request of Sublessor, Sublessee agrees to pay such rent directly to Master
Sublessor.
B. COSTS AND EXPENSES: Sublessee shall pay the following costs and
expenses relating to the Property as the same become due and payable: (1) all
charges for water, power, fire sprinkler line and HVAC maintenance, (2) all
charges for garbage collection and pest control, (3) all building maintenance
obligations of Sublessor under the Master Sublease and (4) all salary, benefits
and payroll-related costs and expenses, including without limitation payroll
3
<PAGE>
taxes, for a parking lot attendant. Sublessor shall obtain reimbursement from
CMG for Sublessee of CMG's share of the foregoing expenses on the terms set
forth in the Sharing Agreement. Sublessee shall be entitled to receive 50% of
all revenues from the operation of the parking lot.
C. SECURITY DEPOSIT: Concurrently with its execution of this Sublease,
Sublessor is assigning to Sublessee all of Sublessor's right to Sublessor's
portion of the $11,850 of the security deposit presently held by the Master
Sublessor. it is agreed that if Sublessee defaults in respect of any of the
terms, provisions and conditions of this Sublease, including but not limited to
the payment of rent, Sublessor may use, apply or retain the whole or any part of
the security so refunded to Sublessor by Master Sublessor to the extent required
for the payment of any rent or any other sum as to which Sublessee is in default
or for any sum which Sublessor is required to expend by reason of Sublessor's
default in respect of any of the terms, covenants or conditions of this
Sublease, including terms of the Master Lease incorporated herein. In the event
Sublessee complies fully with all of the terms, provisions and conditions of
this Sublease, the full amount of such security shall be returned to Sublessee
after the end of the Sublease and after Sublessee has delivered possession of
the Premises to Sublessor.
D. Except as provided in this Article III, Sublessee shall not be
responsible for any rent, claims or other charges made by CMG or the Master
Sublessor under the Master Sublease, except for charges assessed as a result of
any violation(s) of this Sublease by Sublessee.
IV. USE AND OCCUPANCY:
4
<PAGE>
The Premises shall only be used by Sublessee for the warehousing, finishing
and wholesaling of apparel. Sublessee shall at all times comply fully with all
rules and regulations of the Master Sublessor applicable to the Premises.
V. COMPLIANCE WITH MASTER SUBLEASE:
Sublessee shall at all times comply fully with all obligations of Sublessor
under the Master Sublease, except for the obligations under Paragraphs 4 and 5
thereof, subject to the allocations under the Sharing Agreement. As between
Sublessor and Sublessee, Sublessor shall have all rights and remedies of the
Master Sublessor under the Master Sublease. All of Sublessee's rights are
subject, at all times, to the rights of the Master Sublessor under the Master
Sublease. Sublessor shall, however, timely provide Sublessee with copies of all
notices sent or received under the Master Sublease.
Executed this _____ day of _______________, 1998.
SUBLESSOR: SUBLESSEE:
COTTON STUFF, INC. PACIFIC COAST APPAREL COMPANY, INC.
By: By:
-------------------------------- --------------------------------
Its: Its:
5
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> SEP-30-1997
<PERIOD-START> OCT-01-1996
<PERIOD-END> SEP-30-1997
<CASH> 406,608
<SECURITIES> 0
<RECEIVABLES> 226,242
<ALLOWANCES> 0
<INVENTORY> 865,326
<CURRENT-ASSETS> 1,525,813
<PP&E> 179,443
<DEPRECIATION> (41,432)
<TOTAL-ASSETS> 1,683,563
<CURRENT-LIABILITIES> 520,295
<BONDS> 230,355
0
0
<COMMON> 5,452,718
<OTHER-SE> (4,692,371)
<TOTAL-LIABILITY-AND-EQUITY> 1,683,563
<SALES> 1,270,482
<TOTAL-REVENUES> 1,270,482
<CGS> 1,943,187
<TOTAL-COSTS> 1,943,187
<OTHER-EXPENSES> 2,360,050
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (3,032,755)
<INCOME-TAX> 2,668
<INCOME-CONTINUING> (3,035,423)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (3,035,423)
<EPS-PRIMARY> (1.02)
<EPS-DILUTED> (1.02)
</TABLE>
