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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended January 1, 2000
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-21499
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SPECIALTY CATALOG CORP.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 04-3253301
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
21 BRISTOL DRIVE
SOUTH EASTON, MASSACHUSETTS 02375
(Address of principal executive offices) (Zip Code)
(508) 238-0199
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.01 par value
(title of class)
Indicate by check mark whether the Registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding twelve 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
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the Registrant's knowledge, if definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K [x] No
Aggregate market value of voting stock held by non-affiliates of the
Registrant as of March 28, 2000 (based on the closing sale price of the Common
Stock on the NASDAQ National Market on such date) was $5,246,173.
Number of shares of the Registrant's Common Stock outstanding as of
March 28, 2000: 4,351,386
Documents Incorporated by Reference
Proxy statement to be distributed by management in connection with the
Registrant's Year 2000 Annual Meeting of Shareholders, to be filed not later
than May 1, 2000, incorporated by reference into Part III of this Report.
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NOTE REGARDING FORWARD-LOOKING STATEMENTS
Except for the historical information contained herein, this Annual
Report on Form 10-K for Specialty Catalog Corp. may contain "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934, including, but not limited
to, the Company's expected future revenues, operations and expenditures,
estimates of the potential markets for the Company's products, assessments of
competitors and potential competitors and projected timetables for the market
introduction of the Company's products. Investors are cautioned that forward-
looking statements are inherently uncertain. Actual performance and results of
operations may differ materially from those projected or suggested in the
forward-looking statements due to certain risks and uncertainties, including,
but not limited to, the following risks and uncertainties: (i) the Company's
indebtedness and future capital requirements, (ii) increasing postal rates,
paper prices and media costs, (iii) limited sources of fiber used to make the
Company's products, (iv) the limited number of suppliers of the Company's
products, (v) the Company's dependence upon foreign suppliers, especially in
China, Korea and Indonesia, (vi) the customary risks of doing business abroad,
including fluctuations in the value of currencies, (vii) the potential
development of a cure for hair loss and cancer treatment improvements, (viii)
the effectiveness of the Company's catalogs and advertising programs, (ix) the
Company's competition, and (x) the impact of acquisitions on the Company's
prospects. Additional information concerning certain risks and uncertainties
that could cause actual results to differ materially from those projected or
suggested in the forward-looking statements is contained under the caption "Risk
Factors" under Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations. The forward-looking statements contained
herein represent the Company's judgment as of the date of this Annual Report on
Form 10-K, and the Company cautions readers not to place undue reliance on such
statements.
Unless otherwise indicated,"1999" means the 52 weeks ended January 1,
2000, "1998" means the 52 weeks ended January 2, 1999 and "1997" means the 53
weeks ended January 3, 1998.
PART I
ITEM 1. BUSINESS
General
Specialty Catalog Corp. (the "Company") is the leading direct marketer of
women's wigs and hairpieces in the US. The Company offers its products through
multiple distribution channels consisting of regular mailings of catalogs to its
proprietary customer list, Internet marketing and selling, and catalogs
circulated as part of advertising and mailing-list rental programs. The Company
has operations in the United States and the United Kingdom, and certain other
operations. The Company provides its customers with a broad selection of stylish
and comfortable products at affordable prices.
The growth strategy of the Company's wig and hairpiece business has five
key elements:
. Increasing sales from its core catalog circulation by expanding
its proprietary customer list through advertising and list rental
programs,
. Increasing sales to its existing customers through refinements in
database management, merchandise offerings, customer service, and
creative presentations,
. Increasing sales through Internet retailing and advertising,
. Increasing sales through expanded business to business
opportunities, and
. Pursuing international expansion opportunities.
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Recent Developments
Sale of Common Stock to Golub Associates, Inc.
On December 3, 1999, the Company and Golub Associates, Inc. ("GAI")
jointly announced the execution of a non-binding letter of intent pursuant to
which GAI would lead a transaction to acquire all of the outstanding common
stock of Specialty Catalog Corp. for a cash purchase price of $5.00 per share.
This transaction was subject to various contingencies. On January 19, 2000, a
merger agreement was entered into which provided for a cash merger in which the
holders of common stock of the Company immediately prior to the effective date
of the merger would have received $5.00 per share of the Company's common stock.
The merger agreement was subject to the satisfaction of a number of closing
conditions. On March 9, 2000, the Company announced that the Company and GAI and
its affiliates had mutually terminated the merger agreement because, even though
financing had been arranged, certain other closing conditions could not be
satisfied in a timely manner. In 1999, the Company recorded costs of $65,467
from this transaction.
Resignation of Chief Executive Officer
On August 2, 1999, the Company announced that Steven L. Bock, chairman,
president and CEO of the Company, had decided to resign from those positions
effective at the end of the term of his employment agreement on December 31,
1999. At the time of the resignation, the Company initiated a search for another
CEO. Coincident with the execution of the GAI merger agreement, the Company and
Mr. Bock entered into an amendment to his employment agreement wherein Mr. Bock
agreed to remain with the Company until the earlier of June 30, 2000, or the
closing of the GAI merger agreement. Under the terms of the employment
agreement, as amended, Mr. Bock was paid a severance payment of $325,000 on
January 3, 2000. Under the terms of the agreement and the amendment to the
employment agreement, Mr. Bock is entitled to receive his normal compensation
until June 30, 2000, and a bonus of $175,000, $75,000 of which was paid on
January 3, 2000, $50,000 of which was paid on or about March 14, 2000, and
$50,000 of which is to be paid on or about April 5, 2000. These bonus payments
will be charged to operating expenses in 2000.
Due to the termination of the GAI merger agreement and the resignation of
Mr. Bock, the Company has again initiated a search for a CEO.
Closure of Paula's Hatbox Catalog
From 1996 to 1999, the Company circulated the Paula's Hatbox(R) catalog
that featured ladies hats and then expanded to include selected women's apparel
and accessories. In a move motivated by the desire to exit the competitive
ladies ready-to-wear market segment, and to dedicate its focus and resources on
the growth and development of the Company's core wig businesses, the Company
decided to stop circulating this unprofitable catalog in the fourth quarter of
1999. The Company recorded a pretax charge of $730,000 in the fourth quarter of
1999 to reflect this decision. In addition, Paula's Hatbox(R) had pretax
operating losses of $1,552,444 in 1999 and $1,171,385 in 1998.
American Healthcare Institute(R)
During 1999, the Company acquired the assets and assumed certain
liabilities of American Healthcare Institute ("AHI"), a private Maryland-based
continuing-education seminar and conference provider. Sponsoring over 1,000
seminars and conferences each year, AHI has established itself as a leader in
its industry. AHI develops its products by identifying topics pertinent to
significant audiences of nurses and mental health professionals. AHI then
contracts with qualified instructors to develop course materials and handouts
for its seminars and regional conferences. All courses and handout materials are
subject to peer review by industry experts prior to the seminar and conference
offerings.
Women's Wigs and Hairpieces
The Paula Young(R) catalog, with a circulation of over 11-million
catalogs to its customer file, has the largest circulation and sales of any wig
and hairpiece catalog in the US and Canada. As the Company's flagship catalog,
the Paula Young(R) catalog features a broad assortment of ladies wigs and
hairpieces under the Company's proprietary brand names - the Paula Young(R) and
Christine Jordan(R) lines of fashion wigs and hairpieces - and other popular wig
brands,
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including Raquel Welch(TM) and Eva Gabor(R). In addition, the Paula Young(R)
catalog offers a selection of wig and hairpiece accessories including turbans,
shampoo, combs and styling heads.
The Especially Yours(R) catalog features the Especially Yours(R) brand of
women's wigs and hairpieces specifically designed for African-American women.
The Especially Yours(R) line features women's wigs and hairpieces including
natural hairline crimping and fiber texture that reflects the natural hair of
African-American women. Especially Yours(R) catalogs also offer a selection of
women's apparel, hats and accessories to the African-American women's market.
The catalog also carries the Star Jones(TM) line of wigs and hairpieces. This
line of fashion wigs and hairpieces has been developed under an exclusive
license agreement with Star Jones, co-host of the popular ABC TV show, "The
View". In addition, the Especially Yours(R) catalog features the Diahann
Carroll(TM) line of wigs, under an exclusive license with the Tony-award winning
actress and singer.
The Company views each catalog as an opportunity to communicate with
current and potential customers. In this regard, the Paula Young(R) and the
Especially Yours(R) catalogs present the Company's products in a manner that
focuses on the beauty, versatility and comfort of the products. Furthermore, the
catalogs often feature customer testimonials, wearing instructions and other
presentations designed to make the catalog the authoritative source on women's
wigs and hairpieces.
Internet Marketing (wig.com, paulayoung.com and especiallyyours.com)
During 1999, many major enhancements were introduced to the Company's web
sites, such as the ability to search for wigs and hairpieces by style, length
and color, hot links to other hair related sites, e-mail customer service and
electronic order taking.
International Activities
Through its wholly-owned subsidiary, Daxbourne International Limited, the
Company is a leading retailer and wholesaler of women's wigs, hairpieces and
related products in the United Kingdom. Daxbourne has established a significant
franchise in the UK through catalog, retail and wholesale distribution channels.
Daxbourne's retail operations consist of two stand-alone retail outlets and
twelve retail concessions within department stores.
Western Schools(R)
Under the Company's Western Schools(R) brand, continuing education ("CE")
courses are offered to nurses (approximately 90 per cent of its total revenues
in 1999) and CPAs (approximately 10 per cent of its total revenues in 1999).
Western Schools(R) has developed its franchise by offering high-quality,
value-priced CE courses. Western Schools(R) develops its products by first
identifying topics pertinent to its target audiences. For the nursing market,
Western Schools(R) then contracts with qualified authors to develop course
textbooks and examination materials. Since accounting rules and regulations are
dynamic, Western Schools(R) offers non-proprietary textbooks and contracts with
authors or industry experts to create introductory materials and examinations
that enhance and test the learning of the materials presented in these
textbooks. All courses and exams are subject to peer review by industry experts
before publishing.
Industry and Markets
Wigs
Annual retail sales of women's wig and hairpieces in the US are estimated
to be between $300-million and $400-million. The consumer wig market is
generally comprised of fashion wig wearers and need-based wig wearers.
Fashion-based consumers purchase wigs and hairpieces as a beauty accessory.
Need-based wig wearers purchase wigs as a necessity, due to a physical condition
such as thinning hair or hair loss, or due to medical procedures and conditions
(e.g., alopecia and cancer treatments). Many everyday wig wearers replace their
wigs every three to four months, and would perhaps have a wig "wardrobe,"
consisting of several wigs, either of the same style and color or of different
styles and colors.
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In the 1960s, wigs and hairpieces were broadly viewed as a fashion
accessory. However, as styles and tastes changed, the fashion-driven demand for
wigs decreased. Due to this trend, during the 1970s and 1980s, the number of
specialty wig boutiques declined and department stores reduced their selling
space allocated to inventories of wigs. The Company's catalog business was
started to serve the need-based wig customers who were not being adequately
serviced by other retail alternatives. Because only approximately 5-million
women, or 25 per cent of the estimated 20 million American women with thinning
hair, currently wear wigs, there appears to be substantial opportunities for
growth of the Company's business.
The Caucasian retail wig market -- estimated to be approximately $200-
million of annual retail sales comprising approximately 2.7-million units-- is
serviced by direct mail catalogers, beauty salons, wig shops, boutiques and
department stores. It is estimated that catalog sales represent 43 per cent of
the wig and hairpiece units sold and 23 per cent of the sales dollars annually
in the Caucasian market, demonstrating that price points at retail stores are
generally higher than mail order price points. Catalogs offer the benefits of
privacy, convenience, lower prices and broader product selection. Retail stores
generally provide customers with more personalized service.
Unlike the Caucasian market, the African-American wig market - estimated
to be approximately $140-million of annual retail sales comprising approximately
3.1-million units -- has yet to undergo any significant transition to direct
marketing from retail outlets. Although African-American women comprise
approximately 13 per cent of the US female population, it is estimated that they
purchase more than 50 per cent of the wig and hairpiece units sold each year in
the US. Only about 5 per cent of African-American wigs and hairpieces are sold
through catalogs, with the balance sold primarily in beauty salons and wig
shops. The Company believes that its Especially Yours(R) catalog, which targets
African-American women, already has the highest sales volume of any catalog
offering wigs designed for African-American women.
The Company estimates that the international wig and hairpiece market is
at least as large as the US market. By identifying opportunities through
acquisitions and licensing programs, the Company has the ability to facilitate
international expansion. The Company currently has license agreements to sell
its products in Germany and the UK.
Continuing Education
Nursing, accounting and other industries require their professionals to
meet CE requirements on a periodic basis. Required CE frequency and the number
of required hours vary from profession to profession and from state to state
depending on state laws and association regulations. Approximately 45 per cent
of the states in the US currently require nurses to have some form of CE. The CE
industry has many small providers, including local universities, but few large
providers. In addition, some hospitals and accounting firms educate their own
employees through in-house programs and by subsidizing outside programs. Because
CE is a required product, people may not be enthusiastic buyers. Accordingly,
Western Schools(R) and AHI compete aggressively in their markets on price,
course content, course selection, and customer service.
Products
Wigs and Hairpieces
The Company sells a broad assortment of women's wigs and hairpieces in
the United States, Canada, the UK, and through its international licensing
agreements. The collections include 120 different wig styles and 40 different
hairpieces in more than 30 colors. The current Paula Young(R) and Especially
Yours(R) wig collections provide full head coverage. Hairpieces include wiglets
and add-ons. Wiglets are small wigs generally worn on the top of the head to add
style or cover thinning hair on the top or crown area. Add-ons are generally
used to add styling to the back of the head.
In early 1999, the Company introduced human hair wigs to the Paula
Young(R) and Especially Yours(R) product lines. Human hair wigs and hairpieces
can be cut and styled, so that a customer can personalize the piece to her
individual taste. The Company's success with human hair wigs has been limited by
the higher rate of product returns associated with this new product
introduction.
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Sourcing
The Company purchases approximately 90 per cent of its wigs and
hairpieces directly from seven foreign manufacturers and the balance from two
domestic importers. The five largest foreign manufacturers each represent
between 10 per cent and 22 per cent of wig and hairpiece purchases. As an
industry leader, the Company stays in close contact with these manufacturers, as
well as other prominent wig manufacturers. Through these relationships, the
Company is able to obtain better control over purchasing, styles, quality and
cost.
Most of the synthetic wigs and hairpieces sold by the Company are made
from a special synthetic fiber. Two Japanese firms, Kaneka Corporation and Toyo
Chemical Corporation dominate the production of this fiber. A disruption in the
current supply of this fiber may have a material adverse effect on the Company.
The synthetic fiber is not a proprietary material and other manufacturers have
previously produced it. Nonetheless, the time required to obtain an alternative
source of supply and the attendant delay in new production, as well as possible
increases in the price of the fiber, would have a significant impact on wig and
hairpiece sales and profit margins.
The Company anticipates that most of its wigs and hairpieces, including
its human hair wigs, will continue to be manufactured in the Far East.
Accordingly, the Company's operations are subject to the risks of doing business
abroad, including fluctuations in the value of currencies, export duties, work
stoppages, political instability and governmental intervention. Therefore, the
availability of and the cost of wigs and hairpieces may be affected. Although to
date such risks have not had a significant effect on the Company's business
operations, no assurance can be given that such risks will not have a material
adverse effect on the Company's business operations in the future.
Apparel and Hats
Especially Yours(R) catalogs offer a selection of apparel and hats
targeted to African-American women. Hats are generally purchased from domestic
vendors, and apparel is purchased from vendors, who generally contract to
produce the merchandise overseas or domestically.
Marketing
The Company markets its wigs and hairpieces and continuing education
courses through catalogs and over the Internet.
Paula Young(R) and Especially Yours(R) are differentiated from
traditional storefront retailers and other direct marketers due to the broad and
deep selection of the core wig products each offers. These brands also enjoy a
significant price advantage against competing brands due to large order volume
and direct purchasing from manufacturers.
The Company's two-step marketing program is the major method of new
customer generation for Paula Young(R) and Especially Yours(R). The Company's
two-step marketing program entails first obtaining prospective customers by
soliciting customer interest through targeted advertising, and following with a
series of catalogs designed to elicit an initial sale.
For the first step, the Company uses a variety of targeted advertising
media, namely, magazines, newspapers, tabloids, co-op mailers, the Internet and
package insert programs. Advertising placements are selected based on
demographics, cost and historical experience. Historical experience is measured
by cost per inquiry, cost per customer and compared against the lifetime value
of a customer. Based on this information, the Company evaluates the
effectiveness of media placements, and adjusts plans and programs accordingly.
The second step, which commences when a prospective customer responds
favorably to an advertisement, involves sending prospective customers a series
of catalogs. Since the first step pre-qualifies prospective customers, Paula
Young(R) is able to convert approximately 14 per cent of advertising respondents
into customers. Especially Yours(R) is able to convert approximately 11 per cent
of its Especially Yours(R) inquirers into customers. When a sale is made, the
customer is put on an active customer list and additional catalogs designed to
create a repeat buyer are mailed.
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Another method of customer generation involves the one-step process of
periodically circulating to inactive inquirers and former customers targeted
mailings designed to convert or reactivate this group into customers.
During 1999, the Company redesigned its Internet web-sites
www.paulayoung.com and www.especiallyyours.com to provide information on the
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latest selection of wigs and hairpieces, and also added secure, online ordering
capabilities. These sites provide information on products and styling, answers
to frequently asked questions, and also provide links to additional sites of
interest to wig customers. Analysis shows that more than 50 per cent of the
customers buying through the Internet had no previous relationship with the
Company.
In March 1999, the Company purchased the domain name www.wig.com and has
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reserved other generic domain Internet sites in order to increase the amount of
online traffic to its web-sites. Also, the Company is taking advantage of, and
will continue to look for other Internet-related opportunities, such as the use
of search engines, banner ads, key words, and affiliate programs to promote the
Company's businesses.
Beginning in January 2000, the Company expanded its Internet presence by
entering into several relationships for key words and impression-based banner
advertising, the expense of which was significantly offset by reductions in
print advertising placements. This advertising has resulted in a substantial
increase in visits to and purchases from the Company's web-sites.
Western Schools(R) markets its CE courses using a one-step marketing
program targeted at nurses and certified public accountants whose licenses need
to be renewed. Western Schools(R) also provides its latest selection of CE
courses and exam materials online through its web-site www.westernschools.com.
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New Opportunities
New Products
The Company seeks to leverage its customer relationships by adding new
product lines to its catalogs. Human hair wigs were introduced in the Company's
wig catalogs in January 1999. The Star Jones(TM) line of wigs and hairpieces was
introduced in the first mailing of the Especially Yours(R) catalog in January
1999. The Raquel Welch(TM) line of wigs was introduced in the Paula Young(R)
catalog in March 1999. In early 2000, hair integration pieces ("HIPS") were
introduced. These wigs have open wefts that let the consumer blend her own hair
with the HIP.
Business to Business
Through its Salon Silhouettes(SM) catalog the Company has been testing
business to business opportunities in the US. The Salon Silhouettes(SM) catalog
is distributed to wig shops and beauty salons in order to open up the
opportunity for the Company to market to women who prefer shopping in retail
outlets. In 2000, increased circulation of this profitable catalog has been
planned to selected segments of the more than 250,000 salons in the US.
Especially Yours(R) is also piloting a business-to-business catalog in 2000.
Licensing Agreements
Because of the leadership position of Paula Young(R), and building off
the leverage of its unique position in the marketplace, including its unique
products and its sourcing capabilities, Paula Young(R) has been able to expand
into other countries through licensing agreements. Generally the Company's
standard license agreement grants each licensee an exclusive right to use the
Company's trademarks to sell wigs and hairpieces within the licensee's
territory. The Company supplies the licensee the inventory for which the Company
is paid its cost for the inventory plus an administrative fee for shipping and
handling costs. The Company also provides marketing advice and catalog
development assistance. In general, the licensees are required to pay royalties
on their net sales and expend a specified minimum amount of advertising each
year. The Company currently has active license agreements in the UK and Germany.
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E-Commerce
The Company will continue to look for other Internet-related
opportunities, such as the use of search engines, banner ads, key words, and
affiliate programs to promote the Company's businesses. In January 2000, the
Company expanded its Internet presence by entering into several relationships
for key words and impression-based banner advertising, the expense of which was
significantly offset by reductions in print advertising placements. This
advertising has resulted in a substantial increase in visits to and purchases
from the Company's web-sites.
Acquisitions
Through acquisitions, the Company may attempt to build market share
through further consolidation of the wig and hairpiece market and the CE market.
The Company may consider acquisition candidates, such as those offering products
targeted to senior women or those offering complementary products.
Databases
The Company has developed proprietary databases of its wig and hairpiece
customers, African-American women, nurses, other mental health professionals and
certified public accountants. After confirming that security measures are in
place to protect proprietary data, these lists are rented to non-competing
businesses. Limited exchanges of lists of inactive customers with wig
competitors are also done from time to time. Due to the uniqueness and niche
nature of its products, the Company's customers are generally from very specific
demographic categories. These databases are very specific and would be very
difficult to replicate and, as such, protect the business's competitive
advantages.
Operations
Order Entry and Customer Service
The Company's telemarketing operation strives to simplify and encourage
catalog and Internet shopping by providing prompt, courteous and knowledgeable
customer service. Customers can call toll-free telephone numbers 24 hours a day,
seven days a week to place orders or to request a catalog. Approximately 65 per
cent of orders are placed by telephone or over the Internet. A third-party
provider handles over-flow call volume during peak periods, late night and
weekend coverage, and coverage in the event of operational disruptions.
At the time of order entry complete information about the customer and
the order are entered into an integrated information system. This system
provides customer history, product availability and specifications, expected
ship date and other order specifics. The Company attempts to train telemarketing
representatives to use a scripted catalog sales system, in order to be
knowledgeable in key product specifications and features, and to be trained to
cross-sell accessories and related products. The Company also attempts to train
telemarketing representatives to handle a range of products and customer service
calls, allowing the Company to shift representatives among catalog lines as call
volume requires.
During 1999, the Company installed a new integrated catalog management
system. The implementation of this system interfered with the Company's manual
operations during August, September and October 1999. The system is currently
servicing the businesses' primary functions; however, many of the additional
benefits envisioned when the system was planned have not yet been realized.
Fulfillment
The Company's Massachusetts distribution center fulfills all US and
Canadian orders. Orders received for available product are usually shipped by
the next business day, primarily via third class or priority mail. Merchandise
not in stock on the date of order is generally shipped within two days of
receipt.
The Company uses an integrated computer picking, packing and shipping
system, which monitors the in-stock status of each item ordered, processes the
order and generates all related packing and shipping materials, taking into
account the location of items within the distribution center. During fiscal
1999, on average, the Company shipped approximately 4,000 packages per business
day.
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Returns
The Company's return policy allows customers to return products for
exchange or refund. The Company believes that its return levels are normal for
mail order products. Return experience is closely monitored at the individual
product level to identify trends in product offerings, product defects and
quality issues in an attempt to assess future purchases, enhance customer
satisfaction and reduce overall returns. The introduction of new colors and
styles, particularly human hair wigs at higher price points than synthetic wigs,
has caused an increase in the rate of returns experienced by the Company. This
trend has continued into 2000, with return rates running above historic return
rates.
Catalog Production
The Company's graphic arts staff designs all of the catalogs circulated
by the Company's businesses. In-house design of catalogs results in greater
control, continuity, flexibility and creativity, as well as significant cost
savings.
Competition
The mail order catalog business is highly competitive. The Company's
businesses compete on the basis of uniqueness of product offering, breadth of
product offering, quality of product offering, relative value of product
offering, customer service, advertising effectiveness, and catalog design. The
Paula Young(R) and Especially Yours(R) catalogs and web-sites compete with other
mail order catalogs, retail stores, including hair salons and wig shops,
department, specialty and discount stores and Internet web-sites. The Company
enjoys advantages of economies of scale, the size of its customer list, and its
extensive advertising programs.
The Company's CE businesses compete with other mail order catalogs,
in-house CE programs, professional associations, and other seminar providers.
The CE industry has many small providers, including local universities, but few
large providers. Potential competition may emerge from new distribution channels
such as the Internet and interactive television. Accordingly, the businesses
compete aggressively on price, course content and selection, and customer
service.
Employees
As of January 1, 2000, the Company employed a total of 290 employees,
consisting of 81 salaried full-time employees, 146 full-time hourly employees,
and 63 part-time employees in the United States. Daxbourne International Limited
employed 51 employees, consisting of 27 salaried full-time employees and 24
part-time hourly employees in the United Kingdom. The Company's employees are
not covered by any collective bargaining agreement. The Company believes that
its relations with its employees are good.
Trademarks, Trade Names and Patents
The Company has 14 registered trademarks in the United States, two
registered trademarks in the United Kingdom, one trademark application and one
patent pending with the US Patent and Trademark Office. The Company has four
registered trademarks under California State law. The Company also has three
registered URLs. In the ordinary course of business, the Company often utilizes
new trade names. When appropriate, the Company seeks to register these names.
Government Regulations
In 1994, the United States Supreme Court reaffirmed an earlier decision
that allowed direct marketers to make sales into states where they do not have a
physical presence without collecting sales taxes, but noted that Congress has
the power to change this law. The imposition of an obligation to collect sales
taxes may have a negative effect on the Company's response rates and would
require the Company to incur administrative costs in collecting and remitting
sales taxes. Massachusetts and Maryland are the only two jurisdictions where the
Company is currently required to collect sales taxes.
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ITEM 2. PROPERTIES
The Company occupies, under lease contracts, approximately 43,000 square
foot office building in South Easton, Massachusetts, approximately 50,000 square
foot warehouse facility in Brockton, Massachusetts and approximately 5,000
square feet of office space in Wheaton, Maryland.
The Company owns a building of approximately 6,000 square feet in London,
England, which is used by Daxbourne for office and warehouse operations.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders of the Company
during the fourth quarter of the fiscal year covered by this report.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
The common stock of the Company trades on the Nasdaq National Market
under the symbol "CTLG". The following table sets forth the high and low
quotations from Nasdaq.
High Low
---- ---
1999
First Quarter.................. $4.375 $3.000
Second Quarter................. $4.000 $3.188
Third Quarter.................. $4.500 $3.125
Fourth Quarter................. $6.000 $3.375
1998
First Quarter.................. $6.625 $5.625
Second Quarter................. $6.500 $5.000
Third Quarter.................. $5.625 $3.875
Fourth Quarter................. $5.000 $2.500
The closing price of the Company's common stock at March 28, 2000 was
$2.88 per share.
The number of holders of record of the Company's common stock as of March
28, 2000 was approximately 50.
The Company has not paid a dividend with respect to its common stock and
does not anticipate paying dividends in the foreseeable future. Under the terms
of the Company's existing debt agreements, the Company is not permitted to pay
dividends.
10
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
Fiscal Year Ended
------------------------------------------------------------------------
Jan. 1, Jan. 2, Jan. 3, Dec. 28, Dec. 30,
2000 (1) 1999 1998(2) 1996 1995
-------- ---- ------- ---- ----
(In thousands, except per-share amounts
Statement of Operations Data: and weighted average shares)
<S> <C> <C> <C> <C> <C>
Net sales......................................... $ 47,609 $ 48,884 $ 43,492 $ 36,272 $ 42,568
Cost of sales..................................... 17,641 17,918 14,968 12,811 16,423
--------- --------- --------- --------- ---------
Gross profit...................................... 29,968 30,966 28,524 23,461 26,145
Operating expenses................................ 27,729 27,438 23,431 20,186 23,348
--------- --------- --------- --------- ---------
Income from operations............................ 2,239 3,528 5,093 3,275 2,797
Interest expense, net............................. 787 861 821 1,658 1,918
--------- --------- --------- --------- ---------
Income before income taxes and extraordinary
items......................................... 1,452 2,667 4,272 1,617 879
Income taxes...................................... 653 1,096 1,793 644 357
--------- --------- --------- --------- ---------
Income before extraordinary items................. 799 1,571 2,479 973 522
--------- --------- --------- --------- ---------
Net income (3).................................... 799 1,571 2,260 973 522
--------- --------- --------- --------- ---------
Preferred stock dividends......................... -- -- -- -- 292
--------- --------- --------- --------- ---------
Net income available to common shareholders....... $ 799 $ 1,571 $ 2,260 $ 973 $ 230
========= ========= ========= ========= =========
Earnings per Share - Basic EPS:
Income before extraordinary items.............. $ 0.18 $ 0.31 $ 0.51 $ 0.31 $ 0.08
Net income available to common shareholders.... $ 0.18 $ 0.31 $ 0.46 $ 0.31 $ 0.08
Weighted average shares outstanding............ 4,400,944 5,033,800 4,905,667 3,180,091 2,826,666
Earnings per Share - Diluted EPS:
Income before extraordinary items.............. $ 0.17 $ 0.29 $ 0.45 $ 0.25 $ 0.08
Net income available to common shareholders.... $ 0.17 $ 0.29 $ 0.41 $ 0.25 $ 0.08
Weighted average shares outstanding............ 4,684,874 5,495,014 5,527,701 3,946,211 3,015,078
<CAPTION>
As Of
------------------------------------------------------------------------
Jan. 1, Jan. 2, Jan. 3, Dec. 28, Dec. 30,
2000 1999 (4) 1998 (4) 1996 1995
---- -------- -------- ----- ----
Balance Sheet Data: (In thousands)
<S> <C> <C> <C> <C> <C>
Working capital................................... $( 2,424) $( 268) $ 1,083 $ 5,619 $ 649
Total assets...................................... 25,423 23,044 23,293 18,405 18,170
Long-term debt ................................... 2,900 3,671 5,012 8,147 12,876
Preferred stock................................... -- -- -- -- 2,249
Shareholders' equity (deficit) (5)................ 7,739 7,436 7,866 4,801 (4,416)
</TABLE>
(1) The fiscal year ended January 1, 2000 includes four months of activity of
AHI, which was acquired by the Company on September 10, 1999. For the four
months ended January 1, 2000, AHI had net sales of $886,690, gross profit
of $256,905 and a net loss of $14,870.
(2) The fiscal year ended January 3, 1998 includes three months of activity of
the Company's subsidiary, Daxbourne International Limited, which was
acquired by the Company on October 3, 1997. For the three months ended
January 3, 1998, Daxbourne had net sales of $1,172,376, gross profit of
$844,171 and net income of $80,375.
(3) In 1997, net income reflects a $218,699 extraordinary loss on the early
retirement of debt (net of an income tax benefit of $149,083).
(4) Certain amounts in the 1997 and 1998 financial statements have been
reclassified to conform to the 1999 presentation.
(5) In 1999, the Company repurchased 130,600 shares of its common stock which
are now held in the Company's treasury. In December 1998, the Company
repurchased 700,000 shares of its common stock from certain affiliates of
Dickstein Partners Inc., a large shareholder of the Company, in a private
transaction at a price of $3.125 per share.
11
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The discussion and analysis below should be read in conjunction with the
Consolidated Financial Statements of the Company and the notes thereto. In
addition to historical information, the following Management's Discussion and
Analysis of Financial Condition and Results of Operations contains
forward-looking statements that involve risks and uncertainties. The Company's
actual results could differ significantly from those anticipated in these
forward-looking statements. See "Note Regarding Forward-Looking Statements".
Introduction
The Company targets niche consumer product categories, primarily via
direct marketing. SC Direct, its principal operating subsidiary in the United
States ("SC Direct"), is the US leading retailer of women's wigs and hairpieces.
Daxbourne International Limited ("Daxbourne"), a subsidiary of SC Direct, which
was acquired in October 1997 and accounted for under the purchase method of
accounting, is a leading United Kingdom retailer and wholesaler of women's wigs
and hairpieces. SC Publishing, another subsidiary of SC Direct ("SC
Publishing"), sells continuing education courses to nurses and certified public
accountants. American Healthcare Institute ("AHI"), an operating division of SC
Publishing, which was acquired by the Company on September 10, 1999, and
accounted for under the purchase method of accounting, provides continuing-
education seminars and conferences for the healthcare industry.
Results of Operations
1999 Compared to 1998
Net sales decreased to $47.6 million in 1999 from $48.9 million in 1998,
a decrease of $1.3 million, or 2.7 per cent. SC Direct's net sales were $3.0
million lower than the prior year's net sales, primarily due to (i) a decrease
of $3.2 million in net sales from its Paula Young(R) catalog, resulting from
lower sales to potential new customers due to a planned reduction in advertising
expenditures in the first half of 1999, (ii) a decrease of $1.1 million in net
sales from the Christine Jordan(R) catalog as a result of the Company's decision
to no longer circulate the Christine Jordan(R) catalog, but continue to sell
Christine Jordan(R) branded products through its Paula Young(R) catalog, and
(iii) a decrease of approximately $604,000 in net sales from its Paula's
Hatbox(R) catalog. These net sales decreases in SC Direct were offset by an
increase of $1.9 million in net sales from SC Direct's Especially Yours(R)
catalog, primarily due to increased orders attributable to an increase in the
customer base as a result of customer generation efforts in previous years, and
an increase in average order size, attributable to changes in the product mix in
the Especially Yours(R) catalog. SC Publishing's and Daxbourne's net sales were
approximately $616,000 and $261,000 higher, respectively, than the prior year's
net sales, primarily due to improved customer response rates as a result of
changes in circulation strategies. On September 10, 1999, the Company acquired
AHI. AHI had net sales of approximately $887,000 for the period September 10,
1999 through January 1, 2000.
Gross margin as a percentage of net sales decreased to 63.0 per cent for
1999 from 63.4 per cent for 1998, due primarily to the sale of merchandise at
reduced prices as part of the termination of the Paula's Hatbox(R) catalog.
Gross margin decreased to $30.0 million in from $31.0 million in 1998, a
decrease of approximately $998,000, or 3.2 per cent, as a result of the
reduction in net sales discussed above, as well as the reduction in the gross
margin rate mentioned above.
Operating expenses increased to $27.7 million in 1999 from $27.4 million
in 1998, an increase of approximately $291,000, or 1.1 per cent. This increase
was attributable primarily to severance and severance related benefits, and the
write-off of remaining non-amortized deferred catalog costs from the
discontinuance of the Paula's Hatbox(R) catalog. Included in operating expenses
for 1999 are charges of: (i) $500,000 consisting of severance, severance related
benefits and recruiting fees, recorded as a result of costs incurred in
connection with the resignation of the Company's chief executive officer and for
fees already incurred in connection with the Company's search for a replacement
and (ii) approximately $353,000 related to costs incurred in connection with
certain acquisitions that the Company decided not to
12
<PAGE>
pursue. These increases to operating expenses are offset by lower advertising
expenses of $1.1 million due to the Company's strategic decision to eliminate
certain marginal advertising programs.
Excluding the pretax special charges mentioned above as well as the
pretax operating losses and shut down costs of the discontinued Paula's
Hatbox(R) catalog of $2.3 million, net income for 1999 would have been $2.7
million, or $0.57 per diluted share. On this basis, EBITDA (net income before
interest, income taxes, depreciation and amortization) for 1999 was $6.4
million. On an unadjusted basis, EBITDA was $3.3 million for 1999.
Interest expense, net of interest income, decreased to approximately
$787,000 in 1999 from approximately $861,000 in 1998, a decrease of
approximately $73,000, or 8.5 per cent. The decrease was attributable to lower
average principal amounts outstanding on the Company's bank facility due to debt
repayments.
1998 Compared to 1997
Net sales increased to $48.9 million in 1998 from $43.5 million in 1997,
an increase of $5.4 million, or 12.4 per cent. This increase was due to (i) the
addition of $3.9 million in net sales from Daxbourne, which increased from $1.2
million in 1997 to $5.1 million in 1998 and (ii) the increased sales of the
Especially Yours(R) and Paula's Hatbox(R) catalogs, which together increased net
sales by $2.9 million in 1998 compared to 1997. The increase in net sales was
offset by a decrease in net sales from the Company's Paula Young(R) catalog of
$1.4 million due to lower response rates and smaller average order sizes. Also,
the Company's 1998 fiscal year consisted of 52 weeks compared to the 53-week
fiscal year in 1997.
Gross margin increased to $31.0 million in 1998 from $28.5 million in 1997,
an increase of $2.5 million, or 8.8 per cent. Gross margin as a percentage of
net sales decreased to 63.4 per cent in 1998 from 65.6 per cent in 1997. The
decrease in gross margin percentage related primarily to (i) expanded
promotional pricing on several of the Company's wig and hairpiece products,
which resulted in a decrease in the average order size in 1998 compared to 1997,
(ii) increased sales of apparel, hats and accessories which have lower margins
than wigs and hairpieces, (iii) increased sales of wigs in the Especially
Yours(R) catalog which tend to have lower price points than in Paula Young(R),
(iv) an increase in freight charges as a result of an increase in the amount of
merchandise air freighted from suppliers in 1998 compared to 1997 and (v) an
increase in inventory reserves for excess Paula's Hatbox(R) inventory.
Operating expenses increased to $27.4 million in 1998 from $23.4 million
in 1997, an increase of $4.0 million, or 17.1 per cent. The increase in
operating expenses related primarily to: (i) the addition of $1.9 million of
expenses from Daxbourne from approximately $543,000 in 1997 to $2.4 million in
1998, (ii) additional catalog production and mailing expenses of $2.1 million in
1998 compared to 1997, due primarily to an increase in the number of catalogs
mailed as well as increased page counts in the Company's Paula's Hatbox(R) and
Especially Yours(R) catalogs, (iii) expenses of approximately $188,000 for legal
and investment banker services in connection with the Company's efforts to
explore various strategic alternatives to maximize shareholder value, (iv)
increased depreciation and amortization expense of approximately $366,000 and
(v) additional photography expense due to the write-off of approximately
$119,000 of photographs that will not be used in 1999 catalogs. The increase in
operating expenses in 1998 compared to 1997 was offset by (i) a decrease in
advertising expense of approximately $579,000 primarily related to the
elimination of unprofitable media testing, (ii) an increase in shipping and
handling income of approximately $385,000 and (iii) fewer expenses related to
the Company's 52-week fiscal year ended 1998 compared to 1997's 53-week fiscal
year.
In August 1998, the Company announced a reorganization of certain
management positions. In connection with this reorganization, the Company
recorded in the third quarter of 1998 a pretax charge of $469,558, consisting of
severance and other severance related benefits for five former employees of the
Company. The Company paid out the severance and severance related benefits
through July 1999. Included in accrued expenses at January 2, 1999 are accrued
restructuring charges of $99,301.
Excluding the pretax special charges mentioned above as well as the
pretax operating losses and shut down costs of the discontinued Paula's
Hatbox(R) catalog of $1.2 million, net income for 1998 would have been $2.7
million, or $0.48 per diluted share. On this basis, EBITDA (net income before
interest, income taxes, depreciation and amortization) for 1998 was $6.1
million. On an unadjusted basis, EBITDA was $4.3 million for 1998.
13
<PAGE>
Interest expense, net of interest income, increased to approximately
$861,000 in 1998 from approximately $821,000 in 1997, an increase of
approximately $40,000, or 4.9 per cent. The increase reflects higher principal
amounts outstanding on the Company's bank facility, due to additional borrowing
to acquire Daxbourne during the fourth quarter of 1997, which were offset by
lower interest rates in 1998 compared to 1997.
Liquidity and Capital Resources
Net cash flows generated by the Company for 1999 were approximately
$39,000, of which $3.0 million and approximately $251,000 was provided by
operating activities and financing activities, respectively, offset by $3.2
million used in investing activities. The major factors that caused the
difference between net income and net cash flows provided by operations in 1999
were: increases in (i) cash working capital items of approximately $852,000,
(ii) depreciation and amortization of $1.1 million and (iii) deferred income
taxes of approximately $206,000. The $3.2 million in net cash used in investing
activities was mainly due to (i) the Company's installation of its new catalog
information system of approximately $1.2 million, (ii) the acquisition of
American Healthcare Institute for approximately $1.3 million, and (iii)
equipment purchases of approximately $683,000. The $251,000 in net cash provided
in financing activities was primarily due to: (i) the repayment of approximately
$564,000 of long-term debt, net and (ii) the Company's repurchase of
approximately $478,000 of the Company's common stock, offset by $1.4 million in
net advances from short-term borrowings.
The Company completed the implementation of its new catalog information
system for SC Direct in August 1999 and SC Publishing in December 1999. The
entire cost of the new system incurred through January 1, 2000, including new
hardware, software and internal payroll and payroll related costs, was $2.3
million, of which approximately $814,000 were payroll and payroll related costs.
The Company capitalized these costs and began depreciating them in August 1999
over 5 years.
In March 1997, the Company entered into an $11 million credit facility
(the "BKB Agreement") with Fleet National Bank (the "Bank") (f/k/a BankBoston
N.A.) for the purpose of refinancing its existing senior and subordinated debt
and to provide for the capital expenditures and working capital needs of the
Company. The BKB Agreement provided for a $5 million term loan (the "Term Loan")
and a $6 million revolving line of credit (the "Line of Credit"). The Term Loan
and the Line of Credit bear interest rates based on either a base rate, as
defined in the BKB agreement, or a LIBOR contract rate. As of January 1, 2000,
the Term Loan was under a LIBOR contract rate of 7.84 per cent for $2.5 million,
7.7663 per cent for $1.0 million and 8.75 per cent for $500,000. As of January
1, 2000, $3.5 million of the Line of Credit was under LIBOR contract rates
ranging from 7.7838 per cent to 8.2313 per cent and the remainder of the Line of
Credit was at the base rate of 8.75 per cent. The Company is required to pay a
commitment fee varying from 0.375 per cent to 0.50 per cent per annum on the
unused portion of the commitment. At January 1, 2000, $1,496,578 was available
under this Line of Credit.
On October 3, 1997, the Company amended the existing BKB Agreement (the
"Amended BKB Agreement") and entered into an additional $4.0 million credit
agreement with the Bank, acting through its London Branch (the "BKB UK
Agreement"), in connection with the Company's acquisition of The Daxbourne
Group. The Amended BKB Agreement extended the maturity date of borrowings from
March 2001 to October 2001.
The BKB UK Agreement provides for an approximate $1.8 million term loan
(the "UK Term Loan") and for an approximate $2.2 million revolving line of
credit (the "UK Line of Credit"). The UK Term Loan and the UK Line of Credit
bear interest rates based on either a Sterling base rate, as defined by the BKB
UK Agreement, or a LIBOR contract rate. The BKB UK Agreement matures in October
2001, with the UK Term Loan having a four year repayment schedule with remaining
payments of $375,000 due in 2000, and $650,000 due in 2001. As of January 1,
2000, the Term Loan was under a LIBOR contract rate of 8.072 per cent and the
Line of Credit was under a LIBOR contract rate of 7.1982 per cent. The Company
is required to pay a commitment fee varying from 0.375 per cent to 0.50 per cent
per annum on the unused portion of the commitment. At January 1, 2000, $302,184
was available under the UK Line of Credit.
14
<PAGE>
On September 30, 1998, the Amended BKB Agreement was amended by the Company
and the Bank to exclude from debt covenant computations certain capital
expenditures associated with the Company's purchase and installation of its new
comprehensive catalog information system. Then, on December 21, 1998, the
Amended BKB Agreement was further amended to allow the Company to defer its
January 1, 1999 payment on the Term Loan in connection with the Company's
repurchase of $2.4 million of its common stock in December 1998.
On August 10, 1999, the Amended BKB Agreement was amended by the Company
and the Bank to allow the Company to purchase all the assets of American
Healthcare Institute, a Maryland-based corporation ("AHI") (see footnote 9).
Then, on November 10, 1999, the Amended BKB Agreement was further amended to
allow the Company (i) to borrow an additional $1 million on its Term Loan, (ii)
to exclude from debt covenant computations certain capital expenditures
associated with the Company's installation of its new comprehensive catalog
information system and (iii) to modify the definition of consolidated EBITDA to
include pro forma EBITDA from AHI.
At January 1, 2000, the Company was in default on certain debt covenants
under its loan agreement with the Bank. The Bank waived these defaults and on
March 3, 2000 amended the Amended BKB Agreement. The amended agreement modifies
the definition of consolidated EBITDA to exclude $1.8 million in losses incurred
by the Company associated with the termination of the Paula's Hatbox(R) line of
business during the quarter ended January 1, 2000. In addition, certain debt
covenants were amended and/or added. The Amended BKB Agreement matures in
October 2001 and has repayments of $1,750,000 in 2000 and $2,250,000 in 2001.
The Amended BKB Agreement and the BKB UK Agreement (collectively the
"Consolidated Credit Facility") are cross-collateralized by a first perfected
security interest in all tangible and intangible assets of the Company. The
Consolidated Credit Facility is subject to certain consolidated covenants,
including but not limited to leverage and debt service coverage ratios, minimum
earnings requirements, and a restriction on the payment of cash dividends on the
Company's common stock.
The Company's cash flow from operations and available credit facilities
are considered adequate to fund planned business operations and both the
short-term and long-term capital needs of the Company. However, certain events,
such as an acquisition, could require new external financing.
Recently Issued Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities". This statement is effective for all fiscal
quarters of all fiscal years beginning after June 15, 2000. The Company has not
yet determined the effect, if any, of SFAS No. 133 on the consolidated financial
statements.
Risk Factors
Postal Rates, Paper Prices and Media Costs. Postage, shipping and paper
costs are significant expenses in the operation of the Company's business. The
Company mails its catalogs and generally ships its products to customers through
the US Postal Service and, at the customer's request and expense, ships its
products by overnight and second day delivery services. The Company passes on
the costs of mailing its products directly to customers as separate shipping and
handling charges, but does not directly pass on paper costs and the costs of
mailing its catalogs. Any future increases in postal or shipping rates or paper
costs could have material adverse effect on the Company's operating results if
the Company is unable to pass on these increases to its customers. In addition,
a rise in media costs could have a material adverse effect on the Company's
ability to generate new customers.
Limited Sources of Fiber. The majority of the Company's revenue is derived
from the sale of wigs. The Company's synthetic wigs are made from special
synthetic fiber manufactured by only two Japanese companies, Kaneka Corporation
and Toyo Chemical Corporation. The wig manufacturers from whom the Company
purchases its inventory purchase the fiber from these two fiber manufacturers.
Should there be a permanent or long-term disruption in the supply of fiber,
15
<PAGE>
the time required to obtain an alternate source and the attendant delay in new
production, as well as a possible significant increase in the price of fiber,
may have a material adverse effect on the Company's wig and hairpiece sales and
profit margins.
Limited Number of Wig Manufacturers. The wigs sold by the Company are
produced by a limited number of manufacturers. Each of the Company's five
largest manufacturers supplied between 10 per cent and 22 per cent of the
Company's overall wig purchases in 1999. The loss of one or more of these
manufacturers could materially disrupt the Company's wig operations. Although
the Company believes that in such an event it could purchase its wig
requirements from the remaining manufacturers and from additional manufacturers,
there can be no assurance that such sources of supply could meet the Company's
wig requirements without considerable disruption to the Company's purchasing
cycles, inventory levels and profit margins. The Company does not currently
have, and does not anticipate entering into in the foreseeable future, long-term
supply contracts with manufacturers.
Dependence Upon Foreign Suppliers; Exchange Rates; and Currency
Fluctuations. The Company expects that most of its wigs and hairpieces will
continue to be manufactured in the Far East in the future. Accordingly, the
Company's operations are subject to the customary risks of doing business
abroad, including fluctuations in the value of currencies, export duties, work
stoppages and, in certain parts of the world, political instability and possible
governmental intervention. As such, the availability and cost of wigs may be
favorably or adversely affected by any of these items. Although to date such
risks have not had a significant effect on the Company's business operations, no
assurance can be given that such risks will not have a material adverse effect
on the Company's business operations in the future.
Risk of a Cure for Hair Loss; Cancer Treatment Improvement. Millions of
American women suffer varying degrees of hair loss, including those suffering
hair loss as a side effect of cancer treatments. Women suffering from hair loss
comprise a substantial percentage of the Company's customer base for its wigs
and hairpieces. Ongoing research is conducted by numerous groups, both public
and private, seeking remedies for hair loss. One drug, Minoxidil (marketed under
the name Rogaine(R) as well as other names), is available over-the-counter and
is sold to men and women as a measure against hair loss. There can be no
assurance that another new drug will not be developed that could prevent hair
loss among women. Such an event may have a material adverse effect on the
Company's core wig business. In addition, the development of any therapies, such
as new cancer treatments, that would eliminate hair loss as a side effect, may
have a material adverse effect on the Company's business.
Registered Trademarks and Trade Names. The Company currently has several
registered trademarks and may seek additional legal protection for its products
and trade names. The Company has invested substantial resources in developing
several distinctive catalog trademarks as well as branded products and product
lines. There can be no assurance that the steps taken by the Company to protect
its rights will be sufficient to deter misappropriation. Failure to protect
these intellectual property assets could have a material adverse effect on the
Company's business operations. Moreover, although the Company does not currently
know of any lawsuit alleging the Company's infringement of intellectual property
rights that could have a material adverse effect on the Company's business,
there can be no assurance that any such lawsuit will not be filed against the
Company in the future or, if such a lawsuit is filed, that the Company would
ultimately prevail.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's primary exposures to market risks include fluctuations in
interest rates on its short-term and long-term borrowings of approximately $11.4
million as of January 1, 2000 under its credit facility and in foreign currency
exchange rates. The Company does not use derivative financial instruments.
Historically, the Company has not experienced material gains or losses due to
interest rate changes. Management does not believe that the risk inherent in the
variable-rate nature of these instruments will have a material adverse effect on
the Company's consolidated financial statements. However, no assurance can be
given that such a risk will not have a material adverse effect on the Company's
financial statements in the future.
The Company's Term Loan and Line of Credit bear interest rates based on
either a base rate or a LIBOR contract rate. The Company's UK Term Loan and the
UK Line of Credit bear interest rates based on either a Sterling base rate or
16
<PAGE>
a LIBOR contract rate. See "Item 7, Management's Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital
Resources".
As of January 1, 2000, the outstanding balance on all of the Company's
credit facilities was $11,426,238. Based on this balance, an immediate change of
one per cent in the interest rate would cause a change in interest expense of
approximately $114,000 on an annual basis. The Company's objective in
maintaining these variable rate borrowings is the flexibility obtained regarding
early repayment without penalties and lower overall cost as compared with
fixed-rate borrowings.
The foreign currencies to which the Company has the most significant
exchange rate exposure are the British Pound, Chinese Yuan, Indonesian Rupiah
and Korean Won. The Company expects that most of its wigs and hairpieces will
continue to be manufactured in China, Indonesia and Korea in the future.
Although a substantial portion of the Company's transactions with these
countries occurs in US dollars, the Company's operations are subject to
fluctuations in the value of these countries' currencies. Although to date such
exchange rate exposures have not had a significant effect on the Company's
business operations, no assurance can be given that such exchange rate exposures
will not have a material adverse effect on the Company's business operations in
the future.
17
<PAGE>
ITEM 8. FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
Independent Auditors' Report......................................................... 19
Financial Statements as of January 1, 2000 and January 2, 1999 and
for the Three Fiscal Years Ended January 1, 2000, January 2,
1999 and January 3, 1998
Consolidated Balance Sheets.................................................... 20
Consolidated Statements of Operations.......................................... 21
Consolidated Statements of Shareholders' Equity and Comprehensive Income....... 22
Consolidated Statements of Cash Flows.......................................... 23-24
Notes to Consolidated Financial Statements..................................... 25-38
</TABLE>
18
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors of
Specialty Catalog Corp.
We have audited the accompanying consolidated balance sheets of Specialty
Catalog Corp. and subsidiaries (the "Company") as of January 1, 2000 and January
2, 1999 and the related consolidated statements of operations and consolidated
statements of shareholders' equity and comprehensive income and cash flows for
the three years ended January 1, 2000, January 2, 1999 and January 3, 1998. Our
audits also included the consolidated financial statement schedule listed in the
Index at Item 14(a)(2). These financial statements and the financial statement
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and financial statement
schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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, such consolidated financial statements present fairly, in
all material respects, the financial position of the Company as of January 1,
2000 and January 2, 1999 and the results of its operations and its cash flows
for the three years ended January 1, 2000, January 2, 1999 and January 3, 1998,
in conformity with accounting principles generally accepted in the United States
of America. Also, in our opinion, such consolidated financial statement schedule
when considered in relation to the basic consolidated financial statements taken
as a whole, presents fairly, in all material respects, the information set forth
therein.
/s/ Deloitte & Touche LLP
Boston, Massachusetts
March 3, 2000
19
<PAGE>
SPECIALTY CATALOG CORP.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
January 1, January 2,
2000 1999
---- ----
Assets
<S> <C> <C>
Current assets:
Cash and cash equivalents....................................................... $ 1,136,847 $ 1,097,871
Accounts receivable, less allowance for doubtful accounts of $116,198
and $65,621 at January 1, 2000 and January 2, 1999, respectively.............. 1,206,490 1,220,741
Inventories..................................................................... 5,626,304 5,388,395
Prepaid expenses................................................................ 4,012,538 3,810,727
------------ ------------
Total current assets.................................................. 11,982,179 11,517,734
------------ ------------
Property, plant and equipment:
Property, plant and equipment................................................... 8,296,156 6,935,399
Less accumulated depreciation and amortization.................................. (3,969,446) (3,989,287)
------------ ------------
Total property, plant and equipment, net.............................. 4,326,710 2,946,112
------------ ------------
Intangible assets, net................................................................ 4,563,627 3,678,158
Deferred income taxes................................................................. 4,338,843 4,719,274
Other assets.......................................................................... 211,918 183,193
------------ ------------
Total assets.......................................................... $ 25,423,277 $ 23,044,471
============ ============
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable and accrued expenses............................................. $ 4,261,400 $ 3,779,336
Liabilities to customers.......................................................... 1,169,256 676,447
Short-term borrowings............................................................. 6,401,238 5,097,067
Income taxes...................................................................... 449,577 269,167
Current portion of long-term debt................................................. 2,125,000 1,963,319
------------ ------------
Total current liabilities............................................... 14,406,471 11,785,336
------------ ------------
Long-term debt.......................................................................... 2,900,000 3,671,167
Other long-term liabilities............................................................. 377,875 151,619
Commitments and contingencies
Shareholders' equity:
Preferred stock, $1.00 par value: 1,000,000 shares authorized;
no shares issued and outstanding............................................. -- --
Common stock, $.01 par value: 10,000,000 shares authorized; 5,239,774 shares
issued at January 1, 2000 and January 2, 1999; 4,351,386 and 4,481,986 shares
outstanding at January 1, 2000 and January 2, 1999, respectively............. 52,397 52,397
Additional paid-in capital...................................................... 16,159,570 16,159,570
Deferred compensation........................................................... -- (48,363)
Accumulated other comprehensive income (loss)................................... (51,250) 15,926
Accumulated deficit............................................................. (5,590,054) (6,389,540)
------------ ------------
10,570,663 9,789,990
Less treasury stock, at cost, 888,388 and 757,788 shares at January 1, 2000 and
January 2, 1999, respectively................................................... (2,831,732) (2,353,641)
------------ ------------
Total shareholders' equity............................................. 7,738,931 7,436,349
------------ ------------
Total liabilities and shareholders' equity.................... $ 25,423,277 $ 23,044,471
============ ============
</TABLE>
See notes to consolidated financial statements.
20
<PAGE>
SPECIALTY CATALOG CORP.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Fiscal Year Ended
--------------------------------------------------
January 1, January 2, January 3,
2000 1999 1998
---- ---- ----
<S> <C> <C> <C>
Net sales................................................................. $ 47,609,248 $ 48,883,552 $ 43,492,459
Cost of sales (including buying, occupancy and order fulfillment costs) 17,640,825 17,917,572 14,967,880
------------ ------------ ------------
Gross profit.............................................................. 29,968,423 30,965,980 28,524,579
Operating expenses........................................................ 27,728,825 27,437,966 23,431,242
------------ ------------ ------------
Income from operations.................................................... 2,239,598 3,528,014 5,093,337
Interest expense, net..................................................... 787,145 860,639 821,105
------------ ------------ ------------
Income before income taxes and extraordinary items........................ 1,452,453 2,667,375 4,272,232
Income taxes.............................................................. 652,967 1,095,994 1,792,865
------------ ------------ ------------
Income before extraordinary items......................................... 799,486 1,571,381 2,479,367
Extraordinary items--loss on early extinguishment of debt (net of an
income tax benefit of $149,083 for the year ended January 3, 1998)..... -- -- 218,699
------------ ------------ ------------
Net income................................................................ $ 799,486 $ 1,571,381 $ 2,260,668
============ =========== ============
Earnings per share - Basic EPS:
Income before extraordinary items..................................... $ 0.18 $ 0.31 $ 0.51
Loss on extraordinary items........................................... -- -- (0.05)
------------ ------------ ------------
Net income per share.................................................. $ 0.18 $ 0.31 $ 0.46
============ ============ ============
Weighted average shares outstanding................................... 4,400,944 5,033,800 4,905,667
============ ============ ============
Earnings per share - Diluted EPS:
Income before extraordinary items..................................... $ 0.17 $ 0.29 $ 0.45
Loss on extraordinary items........................................... -- -- (0.04)
------------ ------------ ------------
Net income per share.................................................. $ 0.17 $ 0.29 $ 0.41
Weighted average shares outstanding................................... 4,684,874 5,495,014 5,527,701
============ ============ ============
</TABLE>
See notes to consolidated financial statements.
21
<PAGE>
SPECIALTY CATALOG CORP.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY & COMPREHENSIVE INCOME
<TABLE>
<CAPTION>
Accumulated
Common Stock Other Additional
------------ Treasury Deferred Comprehensive Paid-in
Shares Amount Stock Compensation Income (Loss) Capital
------ ------- ----- ------------ -------------- -------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 28, 1996 ..... 4,701,666 $ 47,017 -- $ (83,363) -- $15,199,050
Other comprehensive income:
Net income .................. -- -- -- -- -- --
Foreign currency translation
adjustment ............. -- -- -- -- $ 3,495 --
Total comprehensive income .....
Exercise of stock options ... 55,000 550 -- -- -- 142,429
Exercise of warrants ........ 265,335 2,653 -- -- -- 497,347
Amortization of deferred
compensation................ -- -- -- 17,501 -- --
------------ ------------ ----------- ---------- ------------ -----------
Balance, January 3, 1998 5,022,001 50,220 -- (65,862) 3,495 15,838,826
------------ ------------ ----------- ---------- ------------ -----------
Other comprehensive income:
Net income .................. -- -- -- -- -- --
Foreign currency translation
adjustment.............. -- -- -- -- 12,431 --
Total comprehensive income .....
Exercise of stock options ... 217,773 2,177 -- -- -- 320,744
Treasury stock repurchase ... (757,788) -- $(2,353,641) -- -- --
Amortization of deferred
compensation................ -- -- -- 17,499 -- --
------------ ------------ ----------- ---------- ------------ -----------
Balance, January 2, 1999........ 4,481,986 52,397 (2,353,641) (48,363) 15,926 16,159,570
------------ ------------ ----------- ---------- ------------ -----------
Other comprehensive income:
Net income .................. -- -- -- -- -- --
Foreign currency translation
adjustment.............. -- -- -- -- (67,176) --
Total comprehensive income .....
Treasury stock repurchase ... (130,600) -- (478,091) -- -- --
Amortization and write-off of
deferred compensation....... -- -- -- 48,363 -- --
----------- ------------ ----------- ----------- ----------- -----------
Balance, January 1, 2000 ....... $4 ,351,386 52,397 $(2,831,732) $ -- $ (51,250) $16,159,570
=========== ============ =========== =========== =========== ===========
<CAPTION>
Total
Accumulated Shareholders'
Deficit Equity
------- ------
<S> <C> <C>
Balance, December 28, 1996 ..... $(10,221,589) $ 4,941,115
------------ ------------
Other comprehensive income:
Net income .................. 2,260,668 2,260,668
Foreign currency translation
adjustment .............
-- 2,264,163
Total comprehensive income .....
Exercise of stock options ... -- 142,979
Exercise of warrants ........ -- 500,000
Amortization of deferred
compensation................ -- 17,501
------------ ------------
Balance, January 3, 1998 (7,960,921) 7,865,758
------------ ------------
Other comprehensive income:
Net income .................. 1,571,381 1,571,381
Foreign currency translation
adjustment.............. -- 12,431
Total comprehensive income ..... 1,583,812
Exercise of stock options ... -- 322,921
Treasury stock repurchase ... -- (2,353,641)
Amortization of deferred
compensation................ -- 17,499
------------ ------------
Balance, January 2, 1999........ (6,389,540) 7,436,349
------------ ------------
Other comprehensive income:
Net income .................. 799,486 799,486
Foreign currency translation
adjustment.............. -- (67,176)
Total comprehensive income ..... 732,310
Treasury stock repurchase ... -- (478,091)
Amortization and write-off of
deferred compensation....... -- 48,363
----------- ------------
Balance, January 1, 2000 ....... $(5,590,054) $ 7,738,931
=========== ============
</TABLE>
See notes to consolidated financial statements.
22
<PAGE>
SPECIALTY CATALOG CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Fiscal Year Ended
------------------------------------------------------
January 1, January 2, January 3,
2000 1999 1998
---- ---- ----
<S> <C> <C> <C>
Cash flows from operating activities:
Net income............................................................. $ 799,486 $ 1,571,381 $ 2,260,668
Adjustments to reconcile net income to net cash provided by
operating activities:
Extraordinary loss due to early extinguishment of debt........... -- -- 98,504
Depreciation and amortization.................................... 1,070,719 745,931 392,950
Deferred income taxes............................................ 206,259 1,038,062 610,052
Amortization of deferred compensation............................ 48,363 17,499 17,501
Changes in operating assets and liabilities, net of impact of
acquisitions:
Accounts receivable............................................ 1,194 (96,676) 4,696
Inventories.................................................... (248,884) 878,092 (754,929)
Prepaid expenses............................................... (695) (662,806) 532,858
Other assets................................................... (47,263) 94,472 85,614
Accounts payable and accrued expenses.......................... 500,008 706,647 (98,832)
Liabilities to customers....................................... 492,809 (320,496) 305,566
Income taxes payable........................................... 154,836 241,352 301,997
Other long-term liabilities.................................... -- 4,167 8,334
----------- ----------- -----------
Net cash provided by operating activities.............................. 2,976,832 4,217,625 3,764,979
----------- ----------- -----------
Cash flows from investing activities:
Purchases of property, plant and equipment...................... (1,854,967) (1,188,905) (1,051,755)
Acquisitions, net of cash acquired and liabilities assumed...... (1,323,381) (505,140) (4,187,325)
----------- ----------- -----------
Net cash used in investing activities.................................. (3,178,348) (1,694,045) (5,239,080)
----------- ----------- -----------
Cash flows from financing activities:
Issuance of common stock........................................ -- 10,752 16,896
Advances on short-term borrowings, net.......................... 1,357,390 1,289,559 3,752,364
Issuance of long-term debt...................................... 1,000,000 -- 6,797,771
Repayments of subordinated debt................................. -- -- (4,224,683)
Purchases of treasury stock..................................... (478,091) (2,353,641) --
Repayments of long-term debt.................................... (1,564,142) (969,011) (5,650,000)
Repayments of capital lease obligations......................... (64,533) (20,303) --
----------- ----------- -----------
Net cash provided by (used in) financing activities.................... 250,624 (2,042,644) 692,348
----------- ----------- -----------
Effect of exchange rate changes on cash and cash equivalents........... (10,132) 13,095 (6,751)
----------- ----------- -----------
Increase (decrease) in cash and cash equivalents....................... 38,976 494,031 (788,504)
----------- ----------- -----------
Cash and cash equivalents, beginning of year........................... 1,097,871 603,840 1,392,344
----------- ----------- -----------
Cash and cash equivalents, end of year................................. $ 1,136,847 $ 1,097,871 $ 603,840
=========== =========== ===========
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest...................................................... $ 426,370 $ 812,845 $ 1,076,949
=========== =========== ============
Income taxes.................................................. $ 794,668 $ 725,000 $ 734,958
=========== =========== ============
</TABLE>
See notes to consolidated financial statements.
23
<PAGE>
SPECIALTY CATALOG CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS - (continued)
Summary of Non-cash Transactions:
During 1999, the Company recorded capital lease obligations of $290,789
related to the purchase of data processing and telecommunications equipment.
During 1999, the Company disposed of fully depreciated fixed assets no
longer in use totaling $753,244.
During 1998, 217,773 stock options were exercised for which the Company
recorded a reduction in its income taxes payable and an increase in additional
paid-in capital of $256,021. Unpaid severance amounting to $56,148 that was
recorded in accrued restructuring charges to a former employee was used as
payment against a portion of these stock options exercised.
During 1997, the Company offset $131,146 of note receivable from a
shareholder against the portion of the subordinated notes owed to that
shareholder.
During 1997, the Company converted $495,000 of junior subordinated debt and
$5,000 of accrued interest into $2,653 of common stock and $497,347 of
additional paid-in capital as a result of several shareholders' elections to
apply amounts owed to them under the junior subordinated note as consideration
in the exercise of warrants held by them.
During 1997, the Company recorded capital lease obligations of $159,421
related to the purchase of data processing equipment.
During 1997, the Company recorded a note payable for $492,510 in connection
with the acquisition of The Daxbourne Group.
During 1997, 55,000 stock options were exercised for which the Company
recorded a reduction in its income tax payable and an increase in additional
paid-in capital of $126,087.
See notes to consolidated financial statements.
24
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED JANUARY 1, 2000, JANUARY 2, 1999, AND JANUARY 3, 1998
1. Summary of Significant Accounting Policies
Nature of Business -- Specialty Catalog Corp. (the "Company") targets niche
consumer product categories, primarily via direct marketing. SC Corporation, the
Company's principal operating subsidiary doing business under the name SC Direct
("SC Direct"), is the leading US retailer of women's wigs and hairpieces.
Daxbourne International Limited ("Daxbourne"), a subsidiary of SC Direct, is a
leading UK retailer and wholesaler of women's wigs and hairpieces. SC Publishing
("SC Publishing"), another subsidiary of SC Direct, sells continuing education
courses to nurses and certified public accountants. American Healthcare
Institute ("AHI"), an operating division of SC Publishing, which was acquired by
the Company on September 10, 1999, provides continuing-education seminars and
conferences for the healthcare industry.
Principles of Consolidation -- The accompanying consolidated financial
statements include the accounts of the Company and its wholly owned
subsidiaries. All significant intercompany balances and transactions have been
eliminated in consolidation.
Translation of Foreign Currencies -- The financial statements of the
Company's foreign subsidiary are translated from local currency into US dollars
using the current exchange rate at the balance sheet date for assets and
liabilities and the average exchange rate prevailing during the period for
revenues and expenses. The local currency of its foreign subsidiary is
considered to be the functional currency. Exchange gains and losses on
intercompany balances of a long-term investment nature are recorded as a
component of other comprehensive income in shareholders' equity, while other
transaction gains and losses are recorded directly to the consolidated
statements of operations. Comprehensive income (loss) consisted solely of
accumulated foreign currency translation adjustments in connection with the
Company's UK subsidiary in 1999 and 1998.
Cash and Cash Equivalents -- Cash and cash equivalents consist of cash and
temporary investments with maturities of three months or less when purchased.
Inventories -- Inventories are stated at the lower of cost or market. Cost
is determined using the weighted average cost method. A reserve for obsolete
inventory is recorded based on the expected realizable value of merchandise. The
cost of inventory includes the cost of merchandise, freight, duty, brokerage
fees and marine insurance.
Prepaid Expenses -- The costs incurred to develop, print and place direct
response advertisements to obtain names of potential customers are recorded as
prepaid expenses until the time the advertisement is published, mailed or
otherwise made available to potential customers. Direct response advertising,
including catalog printing and mailing costs, for selling purposes is
capitalized and amortized over the expected period of future benefit, generally
two to four months. For the years ended January 1, 2000, January 2, 1999 and
January 3, 1998, advertising expense was $13.6 million, $15.0 million and $13.7
million, respectively.
Property, Plant and Equipment -- Property, plant and equipment are stated
at cost, less accumulated depreciation and amortization. Depreciation is
computed using the straight-line method over the estimated useful lives of the
respective assets. Amortization is computed on the straight-line method over the
lesser of the estimated useful lives of the related assets or the lease terms.
In March 1998, the American Institute of Certified Public Accountants
("AICPA") issued Statement of Position ("SOP") 98-1, "Accounting for the Costs
of Computer Software Developed or Obtained for Internal Use". SOP 98-1 requires
that costs incurred in the development of internal use software be capitalized
and amortized over a period of time. The Company adopted SOP 98-1 in the first
quarter of 1998. During 1999 and 1998, the Company capitalized approximately
$1,185,536 and $465,000, respectively, of costs associated with a new
comprehensive catalog information system, of which approximately $583,659 and
$230,000, respectively, were internal payroll and payroll related costs. No
internal payroll and payroll related costs were capitalized in 1997.
25
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
1. Summary of Significant Accounting Policies (continued)
Intangibles -- Intangible assets, consisting of goodwill, covenants not to
compete, customer lists, trademarks, and trade names, are amortized using the
straight-line method over useful lives of three to thirty years. Management's
policy regarding intangible assets is to evaluate the recoverability of its
intangible assets when the facts and circumstances suggest that these assets may
be impaired. This policy is consistent with those policies set forth in
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed".
Evaluations consider factors including operating results, business and strategic
plans, economic projections, and market emphasis. Evaluations compare expected
cumulative, non-discounted operating cash flows with net book values of related
intangible assets. Unrealizable intangible asset values are charged to
operations. There were no impairment charges during the fiscal years presented.
Other Assets -- Other assets consist primarily of deferred financing costs.
Deferred financing costs which were incurred by the Company in connection with
Fleet National Bank (the "Bank") (f/k/a BankBoston, N.A.) agreements in the US
and the UK (see footnote 7) are amortized over the life of the underlying
indebtedness using the straight-line method. At January 1, 2000 and January 2,
1999, deferred financing costs were $81,987 and $128,193, respectively.
Income Taxes -- The Company uses the asset and liability method of
accounting for deferred income taxes. The provision for income taxes includes
income taxes currently payable and those deferred because of temporary
differences between the financial statement and tax bases of assets and
liabilities.
Revenue -- The Company recognizes sales and the related costs of sales at
the time merchandise is shipped to customers. The Company allows for merchandise
returns at the customer's discretion within the period stated in the Company's
sales policy. An allowance is provided for returns based on historical return
rates applied to recent shipments.
Fair Value of Financial Instruments -- SFAS No. 107, "Disclosures About
Fair Value of Financial Instruments," requires disclosure of the fair value of
financial instruments, relating to both those assets and liabilities recognized
and those not recognized in the consolidated balance sheets of the Company, for
which it is practicable to estimate fair value. The estimated fair value of
financial instruments which are presented herein have been determined by the
Company using available market information and appropriate valuation
methodologies. However, considerable judgment is required in interpreting market
data to develop estimates of fair value. Accordingly, the estimates presented
herein are not necessarily indicative of amounts the Company could realize in a
current market exchange.
The fair value of the Company's cash and cash equivalents, accounts
receivable, accounts payable, and short-term borrowings approximate their
carrying values at January 1, 2000 and January 2, 1999, due to the short-term
maturities of these investments. The carrying values and fair values of the
Company's long-term debt at January 1, 2000 and January 2, 1999 were $5,025,000
and $5,634,486.
Stock-Based Compensation -- Compensation cost of stock-based compensation
arrangements with employees is measured based on Accounting Principles Board
("APB") Opinion No. 25. The Company applies APB Opinion No. 25 to its
stock-based compensation awards to employees and the disclosure provisions of
SFAS No. 123, "Accounting for Stock-based Compensation", are addressed in
footnote 13.
Newly Issued Accounting Pronouncements--In June 1998, the Financial
Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". This statement is effective for all fiscal
quarters of all fiscal years beginning after June 15, 2000. The Company has not
yet determined the effect, if any, of SFAS No. 133 on the consolidated financial
statements.
26
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
1. Summary of Significant Accounting Policies (continued)
Fiscal Year -- The Company is on a 52/53-week fiscal year, ending on the
Saturday closest to December 31. Unless otherwise indicated, "1999" means the 52
weeks ended January 1, 2000, "1998" means the 52 weeks ended January 2, 1999 and
"1997" means the 53 weeks ended January 3, 1998.
Accounting Estimates -- The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Management bases its estimates on historical experiences and on various
assumptions which are believed to be reasonable under the circumstances. The
primary estimates underlying the Company's financial statements include
allowances for doubtful accounts, allowances for returns, and inventory
valuation.
Reclassifications -- Certain amounts in the 1997 and 1998 financial
statements have been reclassified to conform to the 1999 presentation.
2. Prepaid Expenses
Prepaid expenses at January 1, 2000 and January 2, 1999 consist of the
following:
1999 1998
---- ----
Deferred catalog costs.................. $2,704,258 $2,130,662
Prepaid advertising..................... 181,113 395,202
Prepaid income taxes.................... 720,000 715,000
Other................................... 407,167 569,863
---------- ----------
$4,012,538 $3,810,727
========== ==========
3. Property, Plant and Equipment
Property, plant and equipment at January 1, 2000 and January 2, 1999
consist of the following:
<TABLE>
<CAPTION>
Useful
Life 1999 1998
----- ----- ----
<S> <C> <C> <C>
Furniture and equipment.......................... 5-7 years $ 1,764,086 $ 1,725,385
Building......................................... 40 years 323,000 332,560
Data processing equipment........................ 3-5 years 5,662,965 4,387,015
Automobiles...................................... 3 years 112,025 95,484
Leasehold improvements........................... (i) 434,080 394,955
----------- -----------
8,296,156 6,935,399
Less accumulated depreciation and amortization... (3,969,446) (3,989,287)
----------- -----------
$ 4,326,710 $ 2,946,112
=========== ===========
</TABLE>
- ----------
(i) Lesser of the estimated useful lives of the related assets or
the lease term.
Depreciation and amortization expense related to property, plant and
equipment was $735,449, $412,279 and $308,326 for 1999, 1998 and 1997,
respectively. In 1999, the Company disposed of fully depreciated fixed assets no
longer in use totaling $753,244. There were no gains or losses recognized on the
statement of operations from these disposals.
27
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
4. Intangible Assets
Intangible assets at January 1, 2000 and January 2, 1999 consist of the
following:
Useful
Life 1999 1998
----- ---- ----
Goodwill.......................... 20-30 years $ 2,937,185 $ 1,816,008
Trade names....................... 30 years 1,147,307 1,179,772
Covenant-not-to-compete........... 5 years 807,500 831,400
Customer lists.................... 3-5 years 400,310 257,719
----------- -----------
5,292,302 4,084,899
Less accumulated amortization..... (728,675) (406,741)
----------- -----------
$ 4,563,627 $ 3,678,158
=========== ===========
Amortization expense related to intangible assets was $333,721, $316,620
and $80,266 for 1999, 1998 and 1997, respectively.
5. Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses at January 1, 2000 and January 2,
1999 consist of the following:
1999 1998
---- ----
Accounts payable.......................... $3,076,493 $2,873,715
Accrued compensation...................... 579,721 288,167
Other accrued expenses.................... 605,186 617,454
----------- -----------
$4,261,400 $3,779,336
=========== ===========
6. Liabilities to Customers
Liabilities to customers at January 1, 2000 and January 2, 1999 consist
of the following:
1999 1998
----- ----
Deferred revenue............................... $ 450,279 $ 187,761
Refunds due customers.......................... 17,592 36,051
Reserve for returns............................ 701,385 452,635
--------- ---------
$1,169,256 $ 676,447
========== =========
Deferred revenue reflects cash received from customers for ordered items
that have not yet been shipped. Refunds due customers represents merchandise
returned by customers for a cash or credit refund. The reserve for returns
represents estimated merchandise to be returned for refunds in the future based
on historical return rates applied to recent shipments.
28
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. Long-Term Debt
Long-term debt consists of the following at January 1, 2000 and January 2,
1999:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Fleet National Bank (Term Loan), due October 2001...... $ 4,000,000 $ 4,000,000
Fleet National Bank (UK Term Loan), due October 2001... 1,025,000 1,634,486
----------- -----------
5,025,000 5,634,486
Less current portion................................... 2,125,000 1,963,319
----------- -----------
$ 2,900,000 $ 3,671,167
=========== ===========
</TABLE>
In March 1997, the Company entered into an $11 million credit facility (the
"BKB Agreement") with the Bank for the purpose of refinancing its existing
senior and subordinated debt and to provide for capital expenditures and the
working capital needs of the Company. The BKB Agreement provided for a $5
million term loan (the "Term Loan") and a $6 million revolving line of credit
(the "Line of Credit"). The Term Loan and the Line of Credit bear interest rates
based on either a base rate, as defined in the BKB agreement, or a LIBOR
contract rate. As of January 1, 2000, the Term Loan was under a LIBOR contract
rate of 7.84 per cent for $2.5 million, 7.7663 per cent for $1.0 million and
8.75 per cent for $500,000. As of January 1, 2000, $3.5 million of the Line of
Credit was under LIBOR contract rates ranging from 7.7838 per cent to 8.2313 per
cent and the remainder of the Line of Credit was at the base rate of 8.75 per
cent. The Company is required to pay a commitment fee varying from 0.375 per
cent to 0.50 per cent per annum on the unused portion of the commitment. At
January 1, 2000, $1,496,578 was available under this Line of Credit.
On October 3, 1997, the Company amended the existing BKB Agreement (the
"Amended BKB Agreement") and entered into an additional $4.0 million credit
agreement with the Bank, acting through its London Branch (the "BKB UK
Agreement") in connection with the Company's acquisition of The Daxbourne Group.
The Amended BKB Agreement extended the maturity date of borrowings from March
2001 to October 2001.
The BKB UK Agreement provides for an approximate $1.8 million term loan
(the "UK Term Loan") and for an approximate $2.2 million revolving line of
credit (the "UK Line of Credit"). The UK Term Loan and the UK Line of Credit
bear interest rates based on either a Sterling base rate, as defined by the BKB
UK Agreement, or a LIBOR contract rate. The BKB UK Agreement matures in October
2001, with remaining payments of $375,000 due in 2000, and $650,000 due in 2001.
As of January 1, 2000, the Term Loan was under a LIBOR contract rate of 8.072
per cent and the Line of Credit was under a LIBOR contract rate of 7.1982 per
cent. The Company is required to pay a commitment fee varying from 0.375 per
cent to 0.50 per cent per annum on the unused portion of the commitment. At
January 1, 2000, $302,184 was available under the UK Line of Credit.
On September 30, 1998, the Amended BKB Agreement was amended by the Company
and the Bank to exclude from debt covenant computations certain capital
expenditures associated with the Company's purchase and installation of a new
comprehensive catalog information system. Then, on December 21, 1998, the
Amended BKB Agreement was further amended to allow the Company to defer its
January 1, 1999 payment on the Term Loan in connection with the Company's
repurchase of $2.4 million of its common stock in December 1998.
On August 10, 1999, the Amended BKB Agreement was amended by the Company
and the Bank to allow the Company to purchase all the assets of American
Healthcare Institute, a Maryland-based corporation ("AHI") (see footnote 9).
Then, on November 10, 1999, the Amended BKB Agreement was further amended to
allow the Company (i) to borrow an additional $1.0 million on its Term Loan,
(ii) to exclude from debt covenant computations certain capital expenditures
associated with the Company's installation of its new comprehensive catalog
information system and (iii) to modify the definition of consolidated EBITDA to
include pro forma EBITDA from AHI.
29
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
At January 1, 2000, the Company was in default on certain debt covenants
under its loan agreement with the Bank. The Bank waived these debt covenant
defaults and on March 3, 2000 amended the Amended BKB Agreement. The amended
agreement modifies the definition of consolidated EBITDA to exclude $1.8 million
in losses incurred by the Company associated with the termination of the Paula's
Hatbox(R) line of business during the quarter ended January 1, 2000. In
addition, certain debt covenants were amended and/or added. The Amended BKB
Agreement matures in October 2001 and has repayments of $1,750,000 in 2000 and
$2,250,000 in 2001.
The Amended BKB Agreement and the BKB UK Agreement (collectively the
"Consolidated Credit Facility") are cross-collateralized by a first perfected
security interest in all tangible and intangible assets of the Company. The
Consolidated Credit Facility is subject to certain consolidated covenants,
including but not limited to leverage and debt service coverage ratios, minimum
earnings requirements, and a restriction on the payment of cash dividends on the
Company's common stock. The aggregate maturities of long-term debt after January
1, 2000 are as follows:
Fiscal
Year Amount
---- ------
2000.................................................... $ 2,125,000
2001.................................................... 2,900,000
-----------
$ 5,025,000
===========
8. Operating Expenses
In August 1999, the Company announced the resignation of its chief
executive officer. In connection with the resignation and its search for a new
chief executive officer, in the third quarter of 1999, the Company recorded a
pretax charge of $500,000, consisting of severance and other severance related
benefits and recruiting fees. Accrued compensation expenses at January 1, 2000
include expenses accrued in connection with these charges of $397,344. Also, in
September 1999, the Company recorded a pretax charge of $352,714 related to
costs incurred in connection with certain acquisitions that the Company decided
not to pursue.
In August 1998, the Company announced the reorganization of certain
management positions. In connection with this reorganization, the Company
recorded in the third quarter of 1998 a pretax charge of $469,558, consisting of
severance and other severance related benefits through July 1999. Accrued
expenses at January 2, 1999 include expenses accrued in connection with these
charges of $99,301.
9. Acquisitions
American Healthcare Institute
On September 10, 1999, the Company acquired the assets and assumed certain
liabilities of AHI, a private Maryland-based continuing-education seminar and
conference provider for $1,323,381. This transaction was accounted for as a
purchase. The results of operations of AHI for the period from September 10,
1999 through January 1, 2000 are included in the accompanying consolidated
financial statements. The $1,150,634 excess of costs over net assets acquired
was allocated to customer lists and goodwill which are being amortized over 3
and 20 years, respectively.
Daxbourne International Limited
In October 1997, the Company, through its new subsidiary, Daxbourne
International Limited, acquired substantially all of the assets of Daxbourne
Limited and its wholly owned subsidiaries, which consisted of Postinstant
Limited and MC Hairways Limited (collectively, the "Sellers" or "The Daxbourne
Group").
30
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
As part of this transaction, the Company acquired substantially all of the
assets of The Daxbourne Group including inventory, real property, physical plant
and equipment, intangible assets and other assets used in connection with the
Sellers' business. As aggregate consideration for this acquisition, the Company
paid $3,629,000 at the closing of the transaction (the "Closing"), incurred
acquisition costs of approximately $762,000, agreed to assume certain trade
liabilities of the Sellers totaling $387,000, and agreed to pay approximately
$493,000, without interest, to the Sellers on the one year anniversary of the
Closing. The excess of consideration paid, including deferred consideration over
the fair value of net assets acquired, recorded as goodwill in the accompanying
balance sheet, totaled $1,792,964, before amortization. The Company financed
this acquisition primarily through its BKB UK Agreement with $1.8 million of
proceeds from the UK Term Loan and $1.8 million of proceeds from the UK Line of
Credit.
10. Discontinuation of Paula's Hatbox(R)
From 1996 to 1999, the Company circulated the Paula's Hatbox(R) catalog
that featured ladies hats and then expanded to include selected women's apparel
and accessories. In a move motivated by the desire to exit the competitive
ladies ready-to-wear market segment, and to dedicate its focus and resources on
the growth and development of the Company's core wig businesses, the Company
decided to stop circulating this catalog in the fourth quarter of 1999. The
Company recorded a pre-tax charge of $730,000 in October 1999 related to
severance and severance related benefits, the write-off of remaining unamortized
deferred catalog costs and inventory write-offs. Accrued restructuring charges
at January 1, 2000 include expenses accrued in connection with this closure of
$27,091.
11. Sale of Assets
On June 27, 1997, the Company's subsidiary, SC Publishing, sold its
business of continuing education for California real estate professionals. The
sales price of $212,250 included a license to use the trade name Western
Schools(R) for real estate courses, all related inventory for existing courses,
and title and rights to its real estate courses, both existing and under
development. The Company recognized a pretax gain, included in selling, general,
and administrative expenses, on the sale of these assets of $121,980.
12. Shareholders' Equity
Treasury Stock -- In December 1998, the Company entered into a private
transaction to repurchase 700,000 shares of its common stock at $3.125 per share
from certain affiliates of Dickstein Partners, Inc., a large shareholder of the
Company. The shares that were repurchased represented approximately 14 per cent
of the Company's outstanding shares, and are now held in the Company's treasury.
The repurchase was financed through existing bank lines with the Bank. The
Company also received 57,788 shares of stock from a former employee of the
Company in lieu of cash to cover withholding taxes on gains related to stock
options exercised in December 1998. In addition, the Board of Directors
authorized the Company to repurchase up to an additional $1 million of common
stock during 1999. During 1999, the Company repurchased 130,600 shares at an
average price of $3.66 per share.
Stock Compensation Plan -- On October 17, 1996, the Company adopted the
1996 Stock Incentive Plan (the "Plan") which authorized the issuance of up to
500,000 shares of Common Stock through the grant of stock options and awards of
restricted stock. Each option has a maximum term of ten years from the date of
grant, subject to early termination. The per share exercise price for options
granted under the Plan will not be less than (i) the fair market value of a
share of the Company's common stock on the date of the grant and (ii) the
initial public offering price of $6.50 per share. The Plan was amended in May
1998 to increase the number of shares of Common Stock authorized for issuance
under the Plan from 500,000 to 750,000. It was amended in May 1999 to increase
the number of shares of Common Stock authorized for issuance under the Plan from
750,000 to 1,000,000.
31
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Stock option activity is summarized below:
<TABLE>
<CAPTION>
Weighted
Exercise Average
Price Per Exercise
Shares Share Price
------ ----- -----
<S> <C> <C> <C>
Outstanding December 28, 1996......... 1,057,149 $0.31-$7.15 $3.09
Granted............................... 174,735 $6.50-$6.88 $6.55
Exercised............................. (55,000) $0.31 $0.31
Forfeited or expired.................. (20,150) $6.50 $6.50
--------- ----------- -----
Outstanding January 3, 1998........... 1,156,734 $0.31-$7.15 $3.69
Granted............................... 25,000 $6.50 $6.50
Exercised............................. (217,773) $0.31 $0.31
Forfeited or expired.................. (59,050) $6.50 $6.50
--------- ----------- -----
Outstanding January 2, 1999........... 904,911 $0.31-$7.15 $4.40
Granted............................... 181,500 $6.50 $6.50
Exercised............................. -- -- --
Forfeited or expired.................. (112,284) $6.50-$6.88 $6.51
--------- ----------- -----
Outstanding January 1, 2000........... 974,127 $0.31-$7.15 $4.54
========= =========== =====
</TABLE>
The 974,127 stock options outstanding as of January 1, 2000 consisted of
310,226 of $0.31 options issued in November 1994 to an employee of the Company,
75,000 of $5.33 options issued in October 1996 to an employee of the Company,
150,000 of $7.15 options issued in October 1996 to the Company's underwriters in
connection with the Company's initial public offering, and 438,901 of options
ranging in exercise prices from $6.50 to $6.625 issued under the Plan to
employees and directors of the Company.
Options exercisable at January 1, 2000, January 2, 1999 and January 3, 1998
were 650,326, 524,583 and 635,299, respectively. The options outstanding as of
January 1, 2000 have weighted average remaining contractual lives of 4.9 years
for the $0.31 options issued in 1994, 6.8 years for the $5.33-$7.15 options
granted in 1996, 7.8 years for the $6.50-$6.625 options granted in 1997, 8.4
years for $6.50 options granted in 1998 and 9.5 years for the $6.50 options
granted in 1999. The weighted average fair value of stock options granted in
1999, 1998 and 1997 were $0.54, $1.75 and $1.87, respectively.
32
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
The Company applies APB Opinion No. 25 and related interpretations in
accounting for the Plan and therefore no compensation cost has been recognized
for options granted under the Plan provisions. Had compensation cost been
determined based on the fair value at the grant dates for options granted with
the method prescribed by SFAS No. 123 "Accounting for Stock-based Compensation",
the Company's net income and basic and diluted earnings per share would have
been changed to the pro forma amounts indicated below:
1999 1998 1997
----- ----- ----
Net income:
As reported................ $799,486 $1,571,381 $2,260,668
======== ========== ==========
Pro-forma.................. $633,002 $1,385,609 $2,105,590
======== ========== ==========
Basic earnings per share:
As reported................ $0.18 $0.31 $0.46
===== ===== =====
Pro-forma.................. $0.14 $0.28 $0.43
===== ===== =====
Diluted earnings per share:
As reported................ $0.17 $0.29 $0.41
===== ===== =====
Pro-forma.................. $0.14 $0.25 $0.38
===== ===== =====
The fair value of each option grant used to compute pro-forma net income
and basic and diluted earnings per share disclosures is the estimated present
value on the date of grant using the Black-Scholes option-pricing model with the
following weighted average assumptions for 1999, 1998 and 1997 respectively:
expected volatility of 29.00 per cent, 27.59 per cent and 8.23 per cent, a risk
free interest rate of 5.30 per cent, 5.63 per cent and 5.65 per cent and an
expected holding period of 6 years.
13. Reconciliation of Basic and Diluted Earnings per Share
The following table shows the amounts used in computing basic and diluted
earnings per share for net income and the effects of potentially dilutive
options on the weighted average number of shares outstanding.
<TABLE>
<CAPTION>
For the fiscal year ended
-----------------------------------------------------------------------------------------------
January 1, 2000 January 2, 1999 January 3, 1998
--------------- --------------- ---------------
Net Income Shares Net Income Shares Net Income Shares
---------- ------ ---------- ------ ---------- ------
<S> <C> <C> <C> <C> <C> <C>
Basic earnings per share $ 799,486 4,400,944 $ 1,571,381 5,033,800 $2,479,367 4,905,667
Effect of dilutive options -- 283,930 -- 461,214 -- 568,455
Effect of dilutive warrants -- -- -- -- -- 53,579
--------- --------- ----------- --------- ---------- ---------
Diluted earnings per share $ 799,486 4,684,874 $ 1,571,381 5,495,014 $2,479,367 5,527,701
========= ========= =========== ========= ========== =========
</TABLE>
Options to purchase 670,351 shares of common stock ranging from $5.33 to
$7.15 per share were not included in computing diluted EPS for the year ended
January 1, 2000 because their effects were antidilutive. Options to purchase
599,935 shares of common stock ranging from $5.33 to $7.15 per share were not
included in computing diluted EPS for the year ended January 2, 1999 because
their effects were antidilutive. Options to purchase 152,500 shares of common
stock ranging from $6.88 to $7.15 per share were not included in computing
diluted EPS for the year ended January 3, 1998 because their effects were
antidilutive.
33
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
14. Income Taxes
The provision for income taxes at January 1, 2000, January 2, 1999 and
January 3, 1998 consists of the following:
1999 1998 1997
---- ---- ----
Current:
Federal.................... $ -- $ -- $ 788,683
State...................... 175,591 -- 340,441
Foreign.................... 271,117 57,932 53,689
--------- ---------- ----------
446,708 57,932 1,182,813
========= ========== ==========
Deferred:
Federal.................... 262,573 606,533 593,128
State...................... 24,466 209,800 21,602
Foreign.................... (80,780) 221,729 (4,678)
--------- ---------- ----------
206,259 1,038,062 610,052
--------- ---------- ----------
Total...................... $ 652,967 $1,095,994 $1,792,865
========= ========== ==========
Deferred income tax assets and liabilities at January 1, 2000 and January
2, 1999 consist of the following:
1999 1998
---- ----
Deferred income tax assets:
Net operating loss carryforwards and credits.. $ 4,021,799 $ 4,611,584
Operating reserves............................ 418,620 219,042
Inventory..................................... 462,145 424,230
Property, plant and intangibles............... 528,306 280,804
----------- -----------
5,430,870 5,535,660
Deferred income tax liabilities:
Deferred catalog costs........................ 1,045,754 816,386
Other......................................... 46,273 --
----------- -----------
1,092,027 816,386
----------- -----------
Net deferred income tax asset...................... $ 4,338,843 $ 4,719,274
=========== ===========
Reconciliation of the statutory Federal income tax rate and the effective
rate of the provision for income taxes for the years ended January 1, 2000,
January 2, 1999 and January 3, 1998 is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Statutory Federal income tax rate............... 34.0% 34.0% 34.0%
State taxes, net of Federal income tax benefits. 6.3 6.1 6.1
Other........................................... 4.7 1.0 1.9
----- ----- -----
45.0% 41.1% 42.0%
===== ===== =====
</TABLE>
The Company has recorded a deferred tax asset of $4,338,843 primarily
reflecting the benefit of $11,071,449 of net operating loss carryforwards which
expire in varying amounts between 2000 and 2010. Realization is dependent on
generating sufficient taxable income prior to expiration of the loss
carryforwards. The use of the net operating losses is subject to an annual
limitation of $1,555,125 due to a change in control of the Company pursuant to
Section 382 of the Internal Revenue Code of 1986, as amended ("IRC"). Over the
past three years, the Company has used substantially all of the net operating
loss carryforwards available to it. Although realization is not assured,
management believes it is more likely than not that all of the deferred tax
asset will be realized.
34
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
15. Commitments and Contingencies
Lease Commitments -- Certain non-cancelable leases are classified as
capital leases, and the leased assets are included as part of "Property, Plant
and Equipment". The obligations of the Company under such leases are
collateralized by leased equipment. Other leases are classified as operating
leases and are not capitalized. Future minimum lease payments under capital
leases are included in "Other Long-term Liabilities" and are as follows:
Year Amount
---- ------
2000 ....................................................... $ 138,283
2001 ....................................................... 86,390
2002 ....................................................... 51,704
2003 ....................................................... 50,713
2004 ....................................................... 25,357
---------
Total minimum lease payments................................ 352,447
Less - amounts representing interest................... 24,576
---------
Present value of minimum lease payments..................... $ 327,871
=========
Operating Leases -- The Company leases certain administrative, warehousing
and other facilities and equipment under operating leases. The following is a
schedule of future minimum rental payments under non-cancelable operating leases
as of January 1, 2000:
Year Amount
---- ------
2000................................................... $ 616,847
2001................................................... 323,136
2002................................................... 156,733
-----------
$ 1,096,716
===========
Management expects that, in the normal course of business, expiring leases will
be renewed or replaced by other leases. Rent expense under operating leases was
$580,137, $594,752 and $490,292 for 1999, 1998 and 1997, respectively.
Employment and Bonus Agreements -- On August 2, 1999, the Company
announced that Steven L. Bock, chairman, president and CEO of the Company, had
decided to resign from those positions effective at the end of the term of his
employment agreement on December 31, 1999. At the time of the resignation, the
Company initiated a search for another CEO. Coincident with the execution of the
GAI merger agreement (see footnote 17), the Company and Mr. Bock entered into
an amendment to his employment agreement wherein Mr. Bock agreed to remain with
the Company until the earlier of June 30, 2000, or the closing of the GAI merger
agreement. Under the terms of the employment agreement, as amended, Mr. Bock was
paid a severance payment of $325,000 on January 3, 2000. Under the terms of the
agreement and the amendment to the employment agreement, Mr. Bock is entitled to
receive his normal compensation until June 30, 2000, and a bonus of $175,000,
$75,000 of which was paid on January 3, 2000, $50,000 of which was paid on or
about March 14, 2000, and $50,000 of which is to be paid on or about April 5,
2000. These bonus payments will be charged to operating expenses in 2000.
Due to the termination of the GAI merger agreement and the resignation of
Mr. Bock, the Company has again initiated a search for a CEO.
In addition, Mr. Bock, along with all other salaried employees, may earn
certain other bonuses based on the Company's achievement of certain operating
targets.
35
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
16. Employee Benefit Plan
The Company maintains a qualified defined contribution plan, under the
provisions of Section 401(k) of the IRC, covering substantially all United
States employees. Under the terms of the plan, eligible employees may make
contributions of up to 15 per cent of pay, subject to statutory limitations.
Contributions not exceeding 5 per cent of an employee's pay are matched 40 per
cent by the Company. The Company may, at its discretion, make an additional
year-end contribution. Employee contributions are always fully vested. Company
contributions vest 20 per cent for each completed year of service, becoming
fully vested after five years of service. Matching contributions by the Company
under the plan were $87,697, $86,535 and $85,678 in 1999, 1998 and 1997,
respectively. No other discretionary contributions have been made to the plan.
17. Subsequent Events - Sale of Common Stock to Golub Associates, Inc.
On December 3, 1999, the Company and Golub Associates, Inc. ("GAI") jointly
announced the execution of a non-binding letter of intent pursuant to which GAI
would lead a transaction to acquire all of the outstanding common stock of
Specialty Catalog Corp. for a cash purchase price of $5.00 per share. This
transaction was subject to various contingencies. On January 19, 2000, a merger
agreement was entered into which provided for a cash merger in which the holders
of common stock of the Company immediately prior to the effective date of the
merger would have received $5.00 per share of the Company's common stock. The
merger agreement was subject to the satisfaction of a number of closing
conditions. On March 9, 2000, the Company announced that the Company and GAI and
its affiliates had mutually terminated the merger agreement because, even though
financing had been arranged, certain other closing conditions could not be
satisfied in a timely manner. In 1999, the Company recorded costs of $65,467
from this transaction.
18. Business Segments and Financial Information by Geographic Location
Specialty Catalog Corp. has four reportable segments: SC Direct, SC
Publishing, American Healthcare Institute and Daxbourne International Limited.
The SC Direct segment sells women's wigs and hairpieces using two distinct
catalogs: Paula Young(R) and Especially Yours(R). In addition, prior to the end
of 1999, SC Direct sold apparel, hats and other fashion accessories through its
Paula's Hatbox(R) catalog (see footnote 10). SC Publishing distributes catalogs
under its Western Schools(R) brand and specializes in providing continuing
education courses to nurses and certified public accountants. American
Healthcare Institute, which was acquired by the Company on September 10, 1999,
distributes catalogs under its own name and specializes in providing continuing
education seminars and conferences to nurses and other mental health
professionals. Daxbourne International Limited is a retailer and wholesaler of
women's wigs, hairpieces and related products in the United Kingdom.
The accounting policies of the reportable segments are the same as those
described in Note 1. The Company's reportable segments are strategic business
units that offer either different products or operate in different geographic
locations. The Company markets its products in two major geographic areas, the
United States and the United Kingdom. SC Direct, SC Publishing and American
Healthcare Institute market their products and maintain their assets in the
United States. Daxbourne International Limited markets its products and
maintains its assets in the United Kingdom.
36
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
A summary of information about the Company's operations by segment for the
years ended January 1, 2000, January 2, 1999 and January 3, 1998 follows
(intersegment eliminations are intercompany receivables and payables and
investments in subsidiaries):
<TABLE>
<CAPTION>
American
--------
SC SC Healthcare
-- -- ---------- Intersegment
Direct Publishing Institute Daxbourne Eliminations Total
------ ---------- --------- --------- ------------ -----
<S> <C> <C> <C> <C> <C> <C>
1999
Net sales.................. $37,014,370 $4,326,888 $886,690 $5,381,300 -- $47,609,248
Gross profit............... 22,743,153 3,216,698 256,905 3,751,667 -- 29,968,423
Operating expenses......... 21,395,338 2,379,757 253,768 2,630,799 -- 26,659,662
Depreciation and
amortization............. 625,601 44,461 28,341 370,760 -- 1,069,163
Operating profit (loss).... 722,214 792,480 (25,204) 750,108 -- 2,239,598
Interest expense........... 535,375 -- -- 251,770 -- 787,145
Income taxes (benefit)..... 140,605 324,916 (10,334) 197,780 -- 652,967
Segment assets............. 20,457,840 4,316,860 1,950,988 5,160,486 (6,462,897) 25,423,277
Capital expenditures....... 1,697,039 8,661 80,107 69,160 -- 1,854,967
<CAPTION>
SC
-- Intersegment
SC Direct Publishing Daxbourne Eliminations Total
--------- ---------- --------- ------------ -----
<S> <C> <C> <C> <C> <C>
1998
Net sales................................. $40,052,521 $3,711,181 $5,119,850 -- $48,883,552
Gross profit.............................. 24,730,142 2,612,521 3,623,317 -- 30,965,980
Operating expenses........................ 21,992,904 2,279,902 2,419,029 -- 26,691,835
Depreciation and amortization............. 323,749 27,704 394,678 -- 746,131
Operating profit.......................... 2,413,489 304,915 809,610 -- 3,528,014
Interest expense.......................... 530,001 -- 330,638 -- 860,639
Income taxes.............................. 772,528 125,013 198,453 -- 1,095,994
Segment assets............................ 17,645,927 3,633,813 5,345,005 (3,580,274) 23,044,471
Capital expenditures...................... 1,119,713 21,122 48,070 -- 1,188,905
1997
Net sales................................. $38,341,868 $3,978,215 $1,172,376 -- $43,492,459
Gross profit.............................. 24,993,024 2,687,384 844,171 -- 28,524,579
Operating expenses........................ 19,894,882 2,613,309 542,682 -- 23,050,873
Depreciation and amortization............. 281,142 15,948 83,279 -- 380,369
Operating profit.......................... 4,817,000 58,127 218,210 -- 5,093,337
Interest expense.......................... 736,959 -- 84,146 -- 821,105
Extraordinary item - loss on early
extinguishment of debt, net of tax..... 218,699 -- -- -- 218,699
Income taxes.............................. 1,714,219 24,957 53,689 -- 1,792,865
Segment assets............................ 17,318,797 3,532,774 5,510,414 (3,068,880) 23,293,105
Capital expenditures...................... 936,209 15,747 99,799 -- 1,051,755
</TABLE>
37
<PAGE>
SPECIALTY CATALOG CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
19. Selected Quarterly Financial Data (unaudited):
<TABLE>
<CAPTION>
1999 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
---- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net sales (1).......................................... $13,266,668 $12,264,398 $10,189,321 $11,888,861
Gross profit (1)....................................... 8,706,240 8,104,347 6,539,527 6,618,309
Net income (loss) (1).................................. 497,168 864,398 (74,525) (487,555)
Earnings (loss) per share - Basic EPS
Net income (loss)................................. $0.11 $0.20 $(0.02) $(0.11)
Weighted average shares outstanding............... 4,440,264 4,417,718 4,399,955 4,351,386
Earnings (loss) per share - Diluted EPS
Net income (loss)................................. $0.11 $0.18 $(0.02) $(0.11)
Weighted average shares outstanding............... 4,723,636 4,698,616 4,399,955 4,351,386
<CAPTION>
1998 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
---- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net sales ............................................. $13,308,564 $13,263,194 $11,011,492 $11,300,302
Gross profit........................................... 8,475,311 8,517,431 7,058,565 6,914,673
Net income (loss)...................................... (375,053) 1,134,911 319,544 491,979
Earnings (loss) per share - Basic EPS
Net income (loss)................................. ($0.07) $0.22 $0.06 $0.10
Weighted average shares outstanding............... 5,042,386 5,057,001 5,057,001 4,979,282
Earnings (loss) per share - Diluted EPS
Net income (loss)................................. ($0.07) $0.21 $0.06 $0.09
Weighted average shares outstanding............... 5,042,386 5,529,354 5,517,927 5,409,539
<CAPTION>
1997 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
---- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net sales (2).......................................... $10,973,253 $11,273,442 $9,285,242 $11,960,522
Gross profit (2)....................................... 7,186,806 7,615,786 6,028,257 7,693,730
Income (loss) before extraordinary items............... (555,937) 1,088,094 842,162 1,105,048
Net income (loss) (2).................................. (717,504) 1,030,962 842,162 1,105,048
Earnings (loss) per share - Basic EPS
Income (loss) before extraordinary items (3)...... ($0.12) $0.22 $0.17 $0.22
Net income (loss)................................. ($0.15) $0.21 $0.17 $0.22
Weighted average shares outstanding............... 4,701,666 4,929,096 4,967,001 5,016,389
Earnings (loss) per share - Diluted EPS
Income (loss) before extraordinary items (3)...... ($0.12) $0.20 $0.15 $0.20
Net income (loss)................................. ($0.15) $0.19 $0.15 $0.20
Weighted average shares outstanding............... 4,701,666 5,534,395 5,543,028 5,540,784
</TABLE>
(1) The fiscal year ended January 1, 2000 includes four months of activity of
AHI, which was acquired by the Company on September 10, 1999. For the four
months ended January 1, 2000, AHI had net sales of $886,690, gross profit
of $256,905 and a net loss of $14,870.
(2) The fiscal year ended January 3, 1998 includes three months of activity of
the Company's subsidiary, Daxbourne International Limited, which was
acquired by the Company on October 3, 1997. For the three months ended
January 3, 1998, Daxbourne had net sales of $1,172,376, gross profit of
$844,171 and net income of $80,375.
(3) In 1997, the Company recorded a $218,699 extraordinary loss on the early
retirement of debt (net of an income tax benefit of $149,083).
38
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The response to this item is incorporated by reference from the discussion
responsive thereto under the following captions in the Company's Proxy Statement
relating to the 2000 Annual Meeting of Shareholders:
"Election of Directors" and "Executive Compensation"
ITEM 11. EXECUTIVE COMPENSATION
The response to this item is incorporated by reference from the discussion
responsive thereto under the following captions in the Company's Proxy Statement
relating to the 2000 Annual Meeting of Shareholders:
"Election of Directors" and "Executive Compensation"
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The response to this item is incorporated by reference from the discussion
responsive thereto under the caption "Principal Shareholders" in the Company's
Proxy Statement relating to the 2000 Annual Meeting of Shareholders.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The response to this item is incorporated by reference from the discussion
responsive thereto under the caption "Certain Transactions" in the Company's
Proxy Statement relating to the 2000 Annual Meeting of Shareholders.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) 1. FINANCIAL STATEMENTS
The financial statements are listed under Part II, Item 8 of this
Report
2. FINANCIAL STATEMENT SCHEDULE
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E
-------- -------- -------- -------- --------
Additions
---------
Balance at Charged to Charged Balance
Beginning Costs and to other at end
Description of period Expenses accounts Deductions of period
----------- --------- -------- -------- ---------- ---------
<S> <C> <C> <C> <C> <C>
Year ended January 1, 2000:
Allowance for doubtful accounts.... $65,621 $67,005 $-- $16,428 $116,198
Accrued restructuring charge....... $99,301 $730,000 $-- $802,210 $27,091
Reserve for returns................ $452,635 $-- $9,782,865 $9,534,115 $701,385
Year ended January 2, 1999:
Allowance for doubtful accounts.... $79,500 $17,000 $-- $30,879 $65,621
Accrued restructuring charge....... -- $469,558 $-- $370,257 $99,301
Reserve for returns................ $730,958 $-- $7,625,322 $7,903,645 $452,635
Year ended January 3, 1998:
Allowance for doubtful accounts.... $72,197 $45,360 $-- $38,057 $79,500
Reserve for returns................ $515,597 $-- $8,311,507 $8,096,146 $730,958
</TABLE>
39
<PAGE>
All other schedules for which provision is made in the applicable
regulations of the Securities and Exchange Commission have been omitted because
the information is disclosed in the Consolidated Financial Statements or because
such schedules are not required or are not applicable.
3. EXHIBITS
The exhibits are listed under Part IV, Item 14(C) of this Report.
(b) REPORTS ON FORM 8-K
No reports on Form 8-K have been filed during the last quarter of the
period covered by this report. Two reports on Form 8-K were filed subsequent to
January 1, 2000: one on January 18, 2000 and the other on March 14, 2000 (see
footnote 17 in the footnotes to the consolidated financial statements under Part
II, Item 8 of this Report).
(c) EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
--- -----------
<S> <C>
3.1 Certificate of Incorporation of the Registrant, as amended. Filed as Exhibit 3.01 to Specialty Catalog Corp.'s
Form S-1, File No. 333-10793.
3.2 By Laws of the Registrant, as amended. Filed as Exhibit 3.02 to Specialty Catalog Corp.'s Form S-1, File No.
333-10793.
4.1 Specimen Certificate representing the Common Stock, par value $0.01 per share. Filed as Exhibit 4.01 to
Specialty Catalog Corp.'s Form S-1, File No. 333-10793.
10.1 1996 Stock Option Plan. Filed as Exhibit 10.01 to Specialty Catalog Corp.'s Form S-1, File No. 333-10793.
10.2 Employment Agreement dated as of October 4, 1996 between the Registrant and Steven L. Bock. Filed as Exhibit
10.02 to Specialty Catalog Corp.'s Form S-1, File No. 333-10793.
10.3 Lease dated July 10, 1985 between Simon D. Young, Trustee of the Sandpy Realty Trust, ("Trustee"), and SC
Corporation (f/k/a Wigs by Paula) for premises located at 21 Bristol Drive, South Easton, MA. Filed as Exhibit
10.18 to Specialty Catalog Corp.'s Form S-1, File No. 333-10793.
10.4 First Amendment of Lease, dated March 15, 1986, between the Trustee and SC Corporation. Filed as Exhibit 10.19
to Specialty Catalog Corp.'s Form S-1, File No. 333-10793.
10.5 Second Amendment to Lease, dated March 1, 1989, between the Trustee and SC Corporation. Filed as Exhibit 10.20
to Specialty Catalog Corp.'s Form S-1, File No. 333-10793.
10.6 Third Amendment to Lease, dated October 22, 1993 between the Trustee and SC Corporation. Filed as Exhibit
10.21 to Specialty Catalog Corp.'s Form S-1, File No. 333-10793.
10.7 Supplemental Defined Contribution Plan. Filed as Exhibit 10.31 to Specialty Catalog Corp.'s Form S-1, File No.
333-10793.
10.8 Net Building Lease dated March 7, 1997 between Campanelli Investment Properties and the Registrant for premises
located at 128 Campanelli Industrial Drive, Brockton, MA. Filed as Exhibit 10.36 to Specialty Catalog Corp.'s Form
10-K, dated March 27, 1997, File No. 0-21499.
10.9 Credit Agreement dated March 12, 1997 between Fleet National Bank (the "Bank") (f/k/a BankBoston, N.A.) and the
Registrant. Filed as Exhibit 10.37 to Specialty Catalog Corp.'s Form 10-K, dated March 27, 1997, File No.
0-21499.
10.10 First Amendment to Credit Agreement dated as of October 3, 1997 between the Bank and the Registrant, Filed as
Exhibit 10.4 to Specialty Catalog Corp.'s Form 10-Q, dated November 6, 1997, File No. 0-21499.
10.11 Credit Agreement dated as of October 3, 1997 between the Bank (acting through its London Branch) and Daxbourne
International Limited, a subsidiary of the Registrant, Filed as Exhibit 10.5 to Specialty Catalog Corp.'s Form 10-
Q, dated November 6, 1997, File No. 0-21499.
10.12 Fourth Amendment to Lease, dated November 26, 1997 between the Trustee and SC Corporation, Filed as Exhibit 10.41
to Specialty Catalog Corp.'s Form 10-K, dated March 26, 1998, File No. 0-21499.
</TABLE>
40
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
--- -----------
<S> <C>
10.13 Third Amendment to the Credit and Guaranty Agreement and Second Amendment to the Credit Agreement, Dated as of
September 30, 1998 between the Bank and the Registrant, Filed as Exhibit 10.02 to Specialty Catalog Corp.'s Form
10-Q, dated November 16, 1998, File No. 0-21499.
10.14 Fourth Amendment to the Credit and Guaranty Agreement and Third Amendment to the Credit Agreement, Dated as of
December 21, 1998 between the Bank and the Registrant, Filed as Exhibit 10.21 to Specialty Catalog Corp.'s Form
10-K, dated March 29, 1999, File No. 0-21499.
10.15 Fifth Amendment to Credit and Guaranty Agreement and Fourth Amendment to Credit Agreement Dated as of August 10,
1999 between the Bank and the Registrant, Filed as Exhibit 10.2 to Specialty Catalog Corp.'s Form 10-Q, dated
November 15, 1999, File No. 0-21499.
10.16 Sixth Amendment to Credit and Guaranty Agreement and Fifth Amendment to Credit Agreement Dated as of November 10,
1999 between the Bank and the Registrant, Filed as Exhibit 10.1 to Specialty Catalog Corp.'s Form 10-Q, dated
November 15, 1999, File No. 0-21499.
10.17 First Amendment to Employment Agreement dated as of June 24, 1999 between the Registrant and Steven L. Bock,
Filed herewith.
10.18 Second Amendment to Employment Agreement dated as of December 2, 1999 between the Registrant and Steven L.
Bock, Filed herewith.
10.19 Seventh Amendment to Credit and Guaranty Agreement and Sixth Amendment to Credit Agreement Dated as of March 3,
2000 between the Bank and the Registrant, Filed herewith.
21.1 Subsidiaries of the Registrant, Filed herewith.
23.1 Consent of Deloitte & Touche LLP, Filed herewith.
27.1 Financial Data Schedule (for EDGAR filing purposes only), Filed herewith.
</TABLE>
41
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Act
of 1934, the Registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
SPECIALTY CATALOG CORP.
By: /s/ Steven L. Bock
------------------
Steven L. Bock
Chairman, President and
Chief Executive Officer
By: /s/ Thomas McCain
-----------------
Thomas McCain
Senior Vice President and
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons in the capacities and on
the date indicated. By so signing, each of the undersigned, in his or her
capacity as a director or officer, or both, as the case may be, of the
Registrant, does hereby appoint Steven L. Bock and Thomas K. McCain, and each of
them severally and jointly, his or her true and lawful attorneys or attorney to
execute in his or her name, place and stead, in his or her capacity as a
director or officer or both, as the case may be, of the Registrant, this report
on Form 10-K and any and all amendments to said report and all instruments
necessary or incidental in connection therewith, and to file the same with
Securities and Exchange Commission. Each of said attorneys shall have full power
and authority to do and perform in the name and on behalf of each of the
undersigned, in any and all capacities, every act whatsoever requisite or
necessary to be done in the premises as fully and to all intents and purposes as
each of the undersigned might or could do in person, hereby ratifying and
approving the acts of said attorneys and each of them.
<TABLE>
<CAPTION>
Signatures Title Date
---------- ----- ----
<S> <C> <C>
/s/ Steven L. Bock Chairman of the Board, President and Chief March 30, 2000
------------------- Executive Officer (Principal Executive Officer)
Steven L. Bock
/s/ Thomas McCain Senior Vice President and Chief Financial March 30, 2000
------------------ Officer (Principal Financial and Accounting
Thomas McCain Officer)
/s/ David Cicurel Director March 30, 2000
------------------
David Cicurel
/s/ Martin E. Franklin Director March 30, 2000
-----------------------
Martin E. Franklin
/s/ Samuel L. Katz Director March 30, 2000
-------------------
Samuel L. Katz
/s/ Guy Naggar Director March 30, 2000
---------------
Guy Naggar
</TABLE>
42
<PAGE>
Exhibit 10.17
FIRST AMENDMENT TO
EMPLOYMENT AGREEMENT
First Amendment dated as of June 24, 1999 (the "First Amendment") to the
Amended and Restated Employment Agreement by and between Specialty Catalog
Corp., a Delaware corporation ("Specialty"), SC Corporation, a Delaware
Corporation ("SC"; together with Specialty, sometimes referred to as the
"Corporation"), each having its offices at 21 Bristol Drive, South Easton,
Massachusetts, and Steven L. Bock, an individual having an address at 10
Graystone Lane, Weston, Massachusetts (the "Executive"), dated as of October 15,
1996 (as further amended and in effect from time to time, the "Employment
Agreement"). Terms not otherwise defined herein which are defined in the
Employment Agreement shall have the same respective meanings herein as therein.
WHEREAS, the Corporation and Executive have agreed to modify certain terms
and conditions of the Employment Agreement as specifically set forth in this
First Amendment;
NOW, THEREFORE, in consideration of the premises and the mutual agreements
contained herein and for other good and valuable consideration, the receipt and
sufficiency of which are hereby acknowledged, the parties hereto hereby agree as
follows:
1. Amendments to Section 1(c) of the Employment Agreement, Section 1(c) of
------------------------------------------------------
the Employment Agreement is hereby amended and restated in its entirety by
inserting the following new Section 1(c):
(c) Subject to earlier termination as hereinafter provided, the term
of this Agreement shall commence on the Effective Date and shall end
(unless notice of expiration shall not have been timely given by the
Corporation or Executive, as hereinafter provided in this Section 1(c)) at
the close of business on December 31, 1999 (as such term may be extended or
earlier terminated, the "Term"). The Corporation may cause the Term to
expire at December 31, 1999 by giving notice of expiration in writing to
Executive on or before June 30, 1999. Executive may cause the Term to
expire at December 31, 1999 by giving notice of expiration in writing to
the Corporation on or before July 31, 1999. Either the Corporation or
Executive may cause the Term to expire at the end of any calendar year
ending on or after December 31, 2000 by giving not less than six months'
notice of expiration in writing to the other party. For purposes of the
Employment Agreement, a "Term Year" shall be a period during the Employment
Term commencing on January 1, 1997 (or any anniversary thereof) and ending
on the date immediately preceding the next anniversary of such date, it
being understood that, for purposes of this Agreement, the portion of any
calendar year following the last full calendar year of the Term shall be
deemed a Term Year, except that vacation pursuant to Section 2.(d) for any
Term Year of less than a full calendar year in duration shall be prorated.
2. Ratification, Etc. Except as expressly amended hereby, the Employment
-----------------
Agreement and all documents, instruments and agreements related thereto, are
hereby ratified and confirmed in all respects and shall continue in full force
and effect. The Employment Agreement and this First Amendment shall be read and
construed as a single agreement. All references in the Employment Agreement or
any related agreement or instrument to the Employment Agreement shall hereafter
refer to the Employment Agreement as amended hereby.
IN WITNESS WHEREOF, the parties hereto have executed the First Amendment as
a document under seal as of the date first above written.
SPECIALTY CATALOG CORP.
By: /s/ D.E. Cicurel
----------------------------
Name: D.E. Cicurel
Title: Director
SC CORPORATION
By: /s/ D.E. Cicurel
----------------------------
Name: D.E. Cicurel
Title: Director
/s/ Steven L. Bock
----------------------------
Steven L. Bock
<PAGE>
Exhibit 10.18
December 2, 1999
Mr. Steven L. Bock
10 Graystone Lane
Weston, Massachusetts 02493
Re: Amendment to Employment Agreement
---------------------------------
Dear Steven:
Reference is made to that certain Amended and Restated Employment Agreement
between SPECIALTY CATALOG CORP., a Delaware corporation ("Specialty"), SC
CORPORATION, a Delaware corporation ("SC"; together with Specialty, sometimes
referred to as the "Corporation"), and you ("Executive"), dated as of October
15, 1996, as amended by that certain First Amendment thereto dated June 24, 1999
(as heretofore amended, and as amended hereby, the "Employment Agreement"). We
acknowledge that Executive has previously resigned, effective as of December 31,
1999, from employment with the Corporation pursuant to the terms of the
Employment Agreement (the "Resignation").
As you know, the Corporation is contemplating entering into a transaction
in which Golub Associates Incorporated ("Golub") or a related entity would
acquire all of the outstanding common stock of Specialty. Such a transaction is
subject to numerous conditions, and is expected to close during the first
quarter of 2000. The Corporation wishes to encourage Executive to withdraw the
Resignation and to commit to remain in the employ of the Corporation until the
earlier (the "End Date") of a. the Closing of the Golub transaction, if any, or
b. June 30, 2000. In consideration for the making of such commitment (whether or
not the Golub transaction should ever close), the Corporation is willing to
provide certain benefits and a bonus to Executive to encourage him to remain in
the employ of the Corporation, and has formally adopted a resolution approving
the arrangements contemplated by this letter agreement and authorizing the
execution and delivery of this letter agreement with Executive, a copy of which
resolution has been provided to Executive prior to the execution and delivery of
this letter agreement.
The purpose of this letter agreement is to confirm the agreement of the
Corporation and Executive, each of whom intends to be legally bound hereby, as
follows:
1. The purpose of this Agreement is to amend the Employment Agreement. To the
extent that the Employment Agreement is inconsistent herewith, the provisions of
this letter agreement shall govern; to the extent the Employment Agreement is
not inconsistent herewith, it shall survive. The Corporation and Executive
acknowledge and agree that there are no existing defaults under the Employment
Agreement.
2. The Resignation, effective as of December 31, 1999, is hereby rescinded and
withdrawn, effective immediately, and the Executive's employment shall continue
through and terminate automatically at the close of business on June 30, 2000
without the necessity of any party's providing notice of termination to the
other.
3. Executive's base salary shall be $325,000 per annum, effective as of October
24, 1999. Executive shall be compensated at his base salary rate through June
30, 2000, but such base salary shall be earlier terminated in the event (but
only in the event) that Executive terminates his employment with the Corporation
prior to the End Date for any reason not described in the Section 7(a)(i) or
7(a)(ii) or 7(b) of the Employment Agreement, or the Corporation properly
terminates Executive's employment prior to the End Date for any reason set forth
in Section 7(a)(iii), 7(a)(iv), 7(a)(v), or 7(a)(vi) of the Employment
Agreement.
4. Section 7(a)(vii) of the Agreement is hereby deleted in its entirety for all
purposes.
5. Anything contained in the Employment Agreement to the contrary
notwithstanding, the Corporation shall pay to Executive on January 1, 2000 the
amount of $325,000. The obligation to make such payment shall be unconditional,
and the making of such payment by the Corporation shall satisfy in full any and
all severance obligations the Corporation may now or at any time hereafter have
to Executive under the Employment Agreement.
<PAGE>
6. The Corporation shall pay to Executive a bonus (the "Stay Bonus") in the
aggregate amount of $175,000 in exchange for Executive's remaining in the
Corporation's employ until the End Date, subject to earlier termination as may
be provided by the Employment Agreement. The Stay Bonus shall be payable in
three (3) installments, as follows:
i. one installment of $75,000 on January 1, 2000;
ii. a second installment of $50,000 on the earlier of (1) the date five
days after the Termination Date (as defined in the first sentence of
Section 8 of that certain Stockholders Agreement dated as of even date
herewith among Golub, Executive and certain others (the "Stockholders
Agreement")), and (2) the End Date; and
iii. a third installment of $50,000 on the earlier of (1) the date thirty
days after the Termination Date (defined as set forth above), and (2)
the End Date.
The Stay Bonus shall be payable whether or not the Golub transaction, or
any other transaction, shall be entered into, approved or consummated. The Stay
Bonus shall be payable in full to Executive as aforesaid, but the Stay Bonus
shall be forfeited by Executive (and, to the extent previously received by
Executive, shall be returned to the Corporation immediately upon demand) in the
event (but only in the event) that Executive terminates his employment with the
Corporation prior to the End date for any reason not described in Section
7(a)(i) or 7(a)(ii) or 7(b) of the Employment Agreement, or the Corporation
properly terminates Executive's employment prior to the End date for any reason
set forth in Section 7(a)(iii), 7(a)(iv), 7(a)(v) or 7(a)(vi) of the Employment
Agreement.
7. All options granted to Executive (including, but not limited to, all options
referred to in the Employment Agreement), if and to the extent the same shall
not have previously vested, shall automatically vest on December 31, 1999, all
restrictions against exercising such options (except such as may be required by
law) set forth in the Employment Agreement shall lapse simultaneously with the
execution and delivery of this letter agreement, and all such options shall be
and remain fully exercisable in accordance with their respective terms, without
regard to any provision in the Employment Agreement which would otherwise
shorten any such term or terms.
10. The reasonable fees and expenses of Executive's legal counsel in connection
with the drafting, negotiation and execution of this letter agreement and in
connection with all aspects of the Golub transaction shall be borne and paid
directly by the Corporation.
11. Any and all amounts which may become due to Executive under the Employment
Agreement and which remain unpaid after the due date upon which they become due
shall bear interest at the rate of 18% per annum, compounded monthly, or, if
lower, the highest rate permitted by applicable law. It is hereby understood
that this provision does not constitute a consent or agreement on the part of
Executive to extend or postpone the time of any payment beyond the scheduled
date for payment.
12. Executive and his family shall receive health and related benefits as
currently provided through the End Date and for a period of one year thereafter.
Your signature set forth below indicates your acceptance of all terms and
conditions set forth in this letter agreement.
Very truly yours,
SPECIALTY CATALOG CORP.
by: /s/ Thomas McCain
-------------------------------
Thomas McCain
SVP & CFO
SC CORPORATION
by: /s/ Thomas McCain
-------------------------------
Thomas McCain
SVP & CFO
ACCEPTED AND AGREED this 2nd day of December 1999.
/s/ Steven L. Bock
- ------------------
Steven L. Bock
<PAGE>
Exhibit 10.19
------------------------------------------------------------------------------
SEVENTH AMENDMENT TO
CREDIT AND GUARANTY AGREEMENT
AND
SIXTH AMENDMENT TO
CREDIT AGREEMENT
Dated as of March 3, 2000
Among
SPECIALTY CATALOG CORP.
SC CORPORATION, d/b/a SC DIRECT
SC PUBLISHING, INC.
DAXBOURNE INTERNATIONAL LIMITED
and
FLEET NATIONAL BANK
------------------------------------------------------------------------------
<PAGE>
SEVENTH AMENDMENT TO CREDIT AND GUARANTY AGREEMENT
AND
SIXTH AMENDMENT TO CREDIT AGREEMENT
This SEVENTH AMENDMENT TO CREDIT AND GUARANTY AGREEMENT and SIXTH AMENDMENT
TO CREDIT AGREEMENT (this "Amendment") is entered into as of March 3, 2000 by
and among SPECIALTY CATALOG CORP., a Delaware corporation (the "Company" or the
"Parent"), SC CORPORATION, a Delaware corporation d/b/a SC DIRECT ("SC Direct"),
and SC PUBLISHING, INC., a Delaware corporation ("SC Publishing") (each a "U.S.
Borrower" and collectively, the "U.S. Borrowers"), DAXBOURNE INTERNATIONAL
LIMITED, (Registered No. 3369640), a private company limited by shares formed
under the laws of England and Wales (the "U.K. Borrower") (the U.S. Borrowers
and U.K. Borrower each a "Borrower" and collectively, the "Borrowers") and FLEET
NATIONAL BANK (f/k/a BankBoston, N.A.), a national banking association (the
"Bank").
Recitals
The Borrowers and the Bank are parties to a Credit and Guaranty Agreement
dated as of March 12, 1997 (as amended, the "U.S. Credit Agreement") and a
Credit Agreement dated as of October 3, 1997 (as amended, the "U.K. Credit
Agreement") (each a "Credit Agreement" and collectively, the "Credit
Agreements"). All capitalized terms used herein and not otherwise defined shall
have the meanings set forth in the Credit Agreements. The Borrowers desire to
amend the Credit Agreements in certain respects, including increasing the Term
Loan under the U.S. Credit Agreement, and the Bank is willing to agree to such
amendments on the terms and conditions set forth herein.
NOW, THEREFORE, subject to the satisfaction of the conditions to
effectiveness specified in Section 4, the Borrowers and the Bank hereby amend
the Credit Agreements as follows:
Section 1. Amendment of Definitions. Section 1.1 of each of the
------------------------
Credit Agreements is hereby amended, effective as of January 1, 2000, as
follows:
(a) The definition of "Consolidated EBITDA" is hereby
-------------------
deleted in its entirety and a new definition substituted
therefor as follows:
"`Consolidated EBITDA' shall mean for any period
the sum of (a) Consolidated Net Income plus (b) all
amounts deducted in computing Consolidated Net Income in
respect of (i) interest expense on Indebtedness, (ii)
taxes based on or measured by income, and (iii)
depreciation and amortization expense, in each case for
the period under review; provided, however, that in
-------- -------
calculating Consolidated Net Income, the restructuring
charge incurred by the Company and its Subsidiaries
relating to severance packages for certain senior
employees during the quarter ended October 2, 1999, in
an aggregate amount not to exceed $600,000, shall not be
treated as an expense during such quarter but shall be
treated as an expense in the future quarters as and when
such severance amounts are paid in cash or property and
the charge incurred by the Company associated with the
termination of the "Paula's Hatbox" line of business
during the quarter ended January 1, 2000 up to
$1,800,000, shall not be treated as an expense; and
provided, further, that in calculating Consolidated
-------- -------
EBITDA for any period through the third quarter of 2000
for the purposes of Sections 7.1 and 7.3 hereto, there
shall be included an assumed $125,000 of net income from
operations of American Healthcare Institute, Inc.
("AHI") for each quarter of operations of AHI through
the third quarter of 1999 of the Borrowers."
<PAGE>
(b) A new definition of "Seventh Amendment" shall be
-----------------
added in alphabetical order, as follows:
""Seventh Amendment" shall mean the Seventh
Amendment to Credit and Guaranty Agreement and Sixth
Amendment to Credit Agreement dated as of March 3, 2000
by and among the Borrowers and the Bank."
Section 2. Amendment of Covenants. Section 7.3 of each of the
----------------------
Credit Agreements is hereby amended by deleting paragraph (b) thereof in its
entirety and substituting therefor the following:
"(b) The Company and its Subsidiaries shall earn
Consolidated EBITDA of not less than (i) $750,000 in each first
fiscal quarter, commencing with the first fiscal quarter of
2000, (ii) $1,900,000 in each second fiscal quarter, commencing
with the second fiscal quarter of 2000, (iii) $1,200,000 in
each third fiscal quarter, commencing with the third fiscal
quarter of 2000, and (iv) $1,800,000 in each fourth fiscal
quarter, commencing with the fourth fiscal quarter of 2000."
Section 3. Effectiveness: Conditions to Effectiveness. This Seventh
------------------------------------------
Amendment to Credit and Guaranty Agreement and Sixth Amendment to Credit
Agreement shall become effective as of the date set forth above upon execution
hereof by the Borrowers and the Bank and satisfaction of the following
conditions:
(a) Officers' Certificate. The Borrowers shall have
---------------------
delivered to the Bank an Officers' Certificate in the form of Exhibit A hereto.
---------
(b) Fee. The Borrowers shall have paid to the Bank a fee of
---
$10,000, which fee shall be earned in full by the Bank upon its execution
hereof.
Section 4. Representations and Warranties: No Default. The U.S.
------------------------------------------
Borrowers hereby confirm to the Bank the representations and warranties of the
U.S. Borrowers set forth in Article 5 of the U.S. Credit Agreement as amended as
of the date hereof, as if set forth herein in full (provided, however, that
-------- -------
references therein to the 1996 Financial Statements, shall be deemed to refer to
the 1998 Financial Statements; and provided, further, that the representation
-------- -------
contained in Section 5.12 of the U.S. Credit Agreement is qualified to the
extent of the following changes which have been notified to the Bank prior to
the date hereof: (i) the acquisition of assets of the American Healthcare
Institute, Inc., (ii) the closing of the "Paula's Hatbox" line of business, and
(iii) the notice of proposed resignation of Steven L. Bock as a full-time
employee of the Borrowers). The U.K. Borrower hereby confirms to the Bank the
representations and warranties of the U.K. Borrower set forth in Article 5 of
the U.K. Credit Agreement as amended as of the date hereof, as if set forth
herein in full (provided, however, that references therein to the 1996 Financial
Statements, shall be deemed to refer to the 1998 Financial Statements; and
provided, further, that the representation contained in the section 5.12 of the
- -------- -------
U.K. Credit Agreement is qualified to the extent of the following changes which
have been notified to the Bank prior to the date thereof: (i) the acquisition of
assets of American Healthcare Institute, Inc., (ii) the closing of the "Paula's
Hatbox" line of business, and (iii) the notice of proposed resignation of Steven
L. Bock as a full-time employee of the Borrowers). The Borrowers acknowledge
that if Steven L. Bock ceases to serve actively as a full-time employee of the
U.S. Borrowers, it will constitute an Event of Default as provided in and in
accordance with Section 10.1(h) of each of the Credit Agreements unless
expressly waived in writing by the Bank within ninety (90) days of the
occurrence of such cessation of active full-time employment. The Borrowers
hereby certify that no Default exists under the Credit Agreements.
Section 5. Miscellaneous. The Borrowers agree to pay on demand all
-------------
the Bank's reasonable expenses in preparing, executing and delivering this
Amendment, and all related instruments and documents, including, without
limitation, the reasonable fees and out-of-pocket expenses of the Bank's special
counsel, Goodwin, Procter & Hoar LLP. This Amendment shall be a Bank Agreement
under each of the Credit Agreements and shall be governed by and construed and
enforced under the laws of The Commonwealth of Massachusetts (except to the
extent it effects any amendment of the U.K. Credit Agreement, as to which
English law shall apply).
<PAGE>
IN WITNESS WHEREOF, The U.S. Borrowers, the U.K. Borrower and the
Bank have caused this Seventh Amendment to Credit and Guaranty Agreement and
Sixth Amendment to Credit Agreement to be executed by their duly authorized
officers as of the date first set forth above.
SPECIALTY CATALOG CORP.
By: /s/ Steven L. Bock
------------------
Name: Steven L. Bock
Title: CEO
SC CORPORATION d/b/a SC DIRECT
By: /s/ Steven L. Bock
------------------
Name: Steven L. Bock
Title: CEO
SC PUBLISHING, INC.
By: /s/ Steven L. Bock
------------------
Name: Steven L. Bock
Title: CEO
DAXBOURNE INTERNATIONAL LIMITED
By: /s/ Steven L. Bock
------------------
Name: Steven L. Bock
Title: CEO
FLEET NATIONAL BANK
By: /s/ John Sharry
---------------
Name: John Sharry
Title: Vice President
<PAGE>
ACKNOWLEDGEMENT OF GUARANTOR
The undersigned, Guarantor of all bank Obligations pursuant to an Unlimited
Guaranty dated as of December 30, 1997, hereby acknowledges and consents to the
foregoing.
SC LICENSING CORP.
By: /s/ Steven L. Bock
------------------
Name: Steven L. Bock
Title: CEO
<PAGE>
Exhibit 21.1
Subsidiaries of the Registrant
Subsidiaries of Specialty Catalog Corp.:
- ---------------------------------------
SC Corporation, a Delaware corporation, doing business under the name of
SC Direct
Subsidiaries of SC Corporation
------------------------------
SC Publishing, Inc., a Delaware corporation
Subsidiaries of SC Publishing, Inc.
-----------------------------------
American Healthcare Institute, a Maryland Corporation
Daxbourne International Limited, a private company limited by
shares formed under the laws of England and Wales
SC Licensing Corp., a Massachusetts corporation
<PAGE>
Exhibit 23.1
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement No.
333-51921 of Specialty Catalog Corp. on Form S-3 of our report dated March 3,
2000, appearing in this Annual Report on Form 10-K of Specialty Catalog Corp.
for the year ended January 1, 2000.
/s/ Deloitte & Touche LLP
Boston, Massachusetts
March 29, 2000
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FORM 10-K
AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<S> <C> <C>
<PERIOD-TYPE> YEAR YEAR
<FISCAL-YEAR-END> JAN-01-2000 JAN-02-1999
<PERIOD-START> JAN-03-1999 JAN-04-1998
<PERIOD-END> JAN-01-2000 JAN-02-1999
<CASH> 1,136,847 1,097,871
<SECURITIES> 0 0
<RECEIVABLES> 1,322,688 1,286,362
<ALLOWANCES> (116,198) (65,621)
<INVENTORY> 5,626,304 5,388,395
<CURRENT-ASSETS> 11,982,179 11,517,734
<PP&E> 8,296,156 6,935,399
<DEPRECIATION> (3,969,446) (3,989,287)
<TOTAL-ASSETS> 25,423,277 23,044,471
<CURRENT-LIABILITIES> 14,406,471 11,785,336
<BONDS> 0 0
0 0
0 0
<COMMON> 52,397 52,397
<OTHER-SE> 7,686,534 7,383,952
<TOTAL-LIABILITY-AND-EQUITY> 25,423,277 23,044,471
<SALES> 47,609,248 48,883,552
<TOTAL-REVENUES> 47,609,248 48,883,552
<CGS> 17,640,825 17,917,572
<TOTAL-COSTS> 17,640,825 17,917,572
<OTHER-EXPENSES> 27,728,825 27,437,966
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 787,145 860,639
<INCOME-PRETAX> 1,452,423 2,667,375
<INCOME-TAX> 652,967 1,095,994
<INCOME-CONTINUING> 799,486 1,571,381
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 799,486 1,571,381
<EPS-BASIC> 0.18 0.31
<EPS-DILUTED> 0.17 0.29
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