<PAGE>
"Information contained herein is subject to completion or amendment. A
Registration Statement relating to these securities has been filed with the
Securities and Exchange Commission. These securities may not be sold nor may
offers to buy be accepted prior to the time the Registration Statement becomes
effective. This Prospectus shall not constitute an offer to sell or the
solicitation of an offer to buy nor shall there be any sale of these securities
in any State in which such offer, solicitation or sale would be unlawful prior
to registration or qualification under the securities laws of any such State."
PRELIMINARY PROSPECTUS DATED FEBRURARY 9, 1999
PROSPECTUS
400,000 Units
KIDS STUFF, INC.
Kids Stuff, Inc. (the "Company") is offering (the "Offering") for sale
400,000 Units, each Unit consisting of one share of Series 1 Preferred Stock
(the "Series 1 Preferred Stock" or the "Shares") and two Series 1 Preferred
Stock Purchase Warrants (the "Preferred Warrants"). The estimated offering
price will range from $5.125 to $5.50 per Unit. The Shares and Preferred
Warrants shall be immediately detachable and separately transferable from each
other at any time commencing on the date of this Prospectus. Commencing April
2000, each share of Series 1 Preferred Share is entitled to receive a
cumulative 9% annual dividend of $. per share in cash or Common Stock on the
last business day of April of each year. Commencing 18 months from the date of
this Prospectus, the Series 1 Preferred Stock is redeemable at the option of
the Company at $7.20 per share and is convertible into _____ shares of the
Company's Common Stock. Each Preferred Warrant entitles the holder to purchase
one share of Series 1 Preferred Stock at a price of $6.00, commencing ______,
2000 (18 months from the date of this Prospectus) and expiring _______, 2002
(36 months from the date of this Prospectus). If the Company elects to redeem
the Series 1 Preferred Stock, the Preferred Warrants shall be contemporaneously
redeemed at $1.20 per Warrant. See "Description of Securities."
THESE SECURITIES INVOLVE A HIGH DEGREE OF RISK AS DESCRIBED HEREIN. FOR A
DISCUSSION OF CERTAIN MATERIAL FACTORS THAT SHOULD BE CONSIDERED IN CONNECTION
WITH AN INVESTMENT IN THE SECURITIES, SEE "RISK FACTORS" BEGINNING ON PAGE __.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THE PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
================================================================================
Price to Underwriting Proceeds to the
Public Discounts(1) Company(2)
- --------------------------------------------------------------------------------
Per Unit ......... $ $. $
- --------------------------------------------------------------------------------
Total(3) ......... $ $ $
================================================================================
(1) Does not include additional compensation to the Underwriters in the form of
(a) a non-accountable expense allowance of three (3%) percent of the gross
proceeds of this Offering, (b) a consulting fee of 2% of the gross
proceeds of this offering and (c) Warrants, purchasable at a nominal
price, giving the holders the right to acquire 40,000 Units at an initial
exercise price of $___ per Unit, equal to 165% of the initial offering
price of the Units (the "Underwriters' Warrant"). See "Underwriting."
(2) Before deducting estimated expenses of $ payable by the Company,
inclusive of the Underwriters' non-accountable expense allowance.
(3) Solely for the purpose of covering over-allotments, if any, the Company has
granted to the Underwriters options (the "Over-Allotment Option"),
exercisable within 45 days of the date hereof, to purchase an additional
60,000 Units upon the same terms and conditions as the Units offered
hereby. If such Over-Allotment Option is exercised in full, the Total
Price to Public will be $ ; the Total Underwriting Discount will be
$ ; and the Total Proceeds to the Company will be $ . See
"Underwriting."
The Units included in the underwritten offering are being offered by the
Underwriters on a "firm commitment" basis subject to prior sale, when, as and
if delivered to and accepted by the several Underwriters and subject to certain
conditions. The Underwriters reserve the right to withdraw, cancel or modify
the Offering and to reject any order in whole or in part. It is expected that
delivery of certificates evidencing the Units will be made at the offices of
the Representative in New York, New York or through the facilities of The
Depository Trust Company, against payment therefor on or about February __,
1999.
Fairchild Financial Group, Inc.
The date of the Prospectus is February __, 1999
<PAGE>
This Prospectus also relates to the exercise of publicly held Class A
Common Stock Purchase Warrants (the "Class A Warrants") to purchase 2,400,000
shares of the Company's Common Stock. Each Class A Warrant entitles the holder
to purchase one share of Common Stock at a price of $5.00 at any time
commencing on or after June 26, 1998 and expiring June 26, 2002. A description
of the terms of the Class A Warrants, including without limitation certain
redemption rights, may be found under "Description of Securities."
The offering price of the Units, the conversion ratio of the Series 1
Preferred Stock and the exercise price of the Preferred Warrants and other
terms of such securities were established by negotiation between the Company
and Fairchild Financial Group, Inc., the representative (the "Representative")
of the underwriters of the Offering (collectively, including the
Representative, the "Underwriters"), and do not necessarily bear any direct
relationship to the Company's assets, earnings, book value per share or other
generally accepted criteria of value. See "Risk Factors" and "Underwriting."
The Units, Series 1 Preferred Stock and Preferred Warrants are expected to
trade on the OTC Electronic Bulletin Board under the symbols "______," "______"
and "_____." The Company's Common Stock and Class A Warrants are quoted on the
OTC Electronic Bulletin Board under the symbols "KDST"and "KDSTW,"
respectively. On February __, 1999, the closing sales prices of the Company's
Common Stock and Class A Warrants were $___ and $__, respectively. See "Risk
Factors."
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMPANY'S
SECURITIES INCLUDING OVER-ALLOTMENT, STABILIZING AND SHORT-COVERING
TRANSACTIONS AND THE IMPOSITION OF PENALTY BIDS. FOR A DESCRIPTION OF THESE
ACTIVITIES, SEE "UNDERWRITING."
Duncan Hill, Inc. ("Duncan Hill"), the Company's parent, and William L.
Miller, the Company's Chief Executive Officer, will beneficially own
approximately 82% of the Company's outstanding voting capital stock after the
Offering and will be able to control the affairs of the Company. See "Risk
Factors" and "Principal Stockholders."
The Company is subject to the information requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith files reports and other information with the Securities and Exchange
Commission (the "Commission" or "SEC"). The Company has filed with the
Commission a registration statement on Form SB-2, File No. 333-61463, which
registration statement is also a post-effective amendment to the Company's
Registration Statement on Form SB-2, File No. 333-19423 (herein together with
all amendments and exhibits referred to as the "Registration Statement") under
the Securities Act of 1933, as amended (the "Securities Act"), of which this
Prospectus forms a part. See "Available Information."
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by reference to, and
should be read in conjunction with, the more detailed information and the
Financial Statements (including the notes thereto) appearing elsewhere in this
Prospectus. Each prospective investor is urged to read this Prospectus in its
entirety. Unless indicated otherwise, this Prospectus assumes no exercise of
the Underwriters' Over-Allotment Option.
This Prospectus contains forward looking statements which reflect
management's current views and estimates of future economic circumstances,
industry conditions, company performance and the financial results. These
forward-looking statements are based largely on the Company's expectations and
are subject to a number of risks and uncertainties, many of which are beyond
the Company's control, including, without limitation, competition and possible
future changes to state sales tax laws. Actual results could differ materially
from these forward looking statements as a result of changes in the trends in
the children's mail order catalog industry, competition, availability and price
of goods and other factors. Any changes in such assumptions or factors could
produce significantly different results.
The Company
Kids Stuff, Inc. (the "Company") is a specialty direct marketer which
publishes two catalogs with an emphasis on children's hardgood products (i.e.,
products not primarily made from fabrics) from prenatal to age three. The
Company believes that its first catalog, "Perfectly Safe, The Catalog For
Parents Who Care," is the nation's only catalog devoted to child safety,
child-proofing the home and safety-related products for the family. The Company
has published Perfectly Safe since 1990, and has circulated over 20 million
catalogs and helped to childproof over 350,000 homes to date. In 1995, the
Company introduced its second catalog, "Jeannie's Kids Club," to broaden its
market and to introduce a new direct marketing concept in children's products.
Jeannie's Kids Club offers parents of young children who become members the
opportunity of saving up to 60% compared to the price charged for the same
products in other popular children's catalogs. The current annual membership
fee is $18.00 per year. In July 1997, the Company acquired a third catalog, The
Natural Baby Catalog, from The Natural Baby Company, Inc. ("Baby Co."), which
specializes in children's products made from natural fiber for children ages
prenatal to age three, and consolidated its operations with those of the
Company. The Company intends to use the proceeds of the Offering to establish
and develop a website to advertise and sell its products. In November 1998, the
Company opened a retail outlet store in Canton, Ohio to sell its merchandise.
See "Use of Proceeds" and "Business."
The executive offices of the Company are located at 4450 Belden Village
Street, N.W., Suite 406, Canton, Ohio 44718, and its telephone number is (330)
492-8090.
3
<PAGE>
The Offering
Securities Offered by the
Company................. 400,000 Units, each Unit consisting of one share
of one share of Series 1 Preferred Stock and two
Preferred Warrants. The Shares and Preferred
Warrants shall be immediately detachable and
separately transferable from each other at any time
commencing on the date of this Prospectus.
Commencing April 2000, each share of Series 1
Preferred Share is entitled to receive a cumulative
9% annual dividend of $. per share in cash or
Common Stock on the last business day of April of
each year. Commencing 18 months from the date of
this Prospectus, the Series 1 Preferred Stock is
redeemable at the option of the Company at $7.20 per
share and is convertible into _____ shares of the
Company's Common Stock. Each Preferred Warrant
entitles the holder to purchase one share of Series
1 Preferred Stock at a price of $6.00, commencing
______, 2000 and expiring _______, 2002. If the
Company elects to redeem the Series 1 Preferred
Stock, the Preferred Warrants shall be
contemporaneously redeemed at $1.20 per Warrant. See
"Description of Securities."
Class A Warrants......... This Prospectus also relates to the exercise of
publicly-held 2,400,000 Class A Warrants to purchase
2,400,000 shares of the Company's Common Stock. Each
Class A Warrant entitles the holder to purchase one
share of Common Stock at a price of $5.00 at any
time commencing on or after June 26, 1998 and
expiring June 26, 2002. See "Description of
Securities."
Capitalization
Common Stock prior to the
Offering (1)............ 3,512,856 Shares
Common Stock to be
Outstanding after
exercise of Class A
Warrants (2) (3)........ 5,912,856 Shares
Class A Warrants
outstanding prior to
Offering................ 2,400,000 Class A Warrants
Series A Non-Convertible
Preferred Stock held by
Duncan Hill (4)......... 5,000,000 Shares
Series 1 Preferred Stock
prior to Offering (4)... -0- Shares
Series 1 Preferred Stock
after Offering (4)(5)... 400,000 Shares
Series 1 Preferred Stock
Purchase Warrants
before Offering........ -0-
Series 1 Preferred Stock
Purchase Warrants after
Offering (6)............ 800,000 Warrants
4
<PAGE>
OTC Electronic Bulletin
Board Symbols Currently
Outstanding:
Common Stock........... KDST
Class A Warrants....... KDSTW
Proposed for Trading:
Units.................. ______
Series 1
Preferred Stock.......... ______
Preferred Warrants..... ______
Use of Proceeds.......... The Company intends to apply the net proceeds of
the Offering to purchase inventory, reduce accounts
payable, to establish and lease a new operations
center, to open a retail outlet store, to establish
a website and for working capital and other general
corporate purposes. See "Use of Proceeds."
Risk Factors............. The Offering involves a high degree of risk and
immediate and substantial dilution.
- -------------
(1) Does not include the possible exercise of the following: (i) Class A
Warrants to purchase 2,400,000 shares of the Company's Common Stock; (ii)
Options to purchase 440,000 shares of the Company's Common Stock owned by
the Company's executive officers and directors; (iii) Warrants granted to
the Underwriter of the Company's initial public offering to purchase an
aggregate of 60,000 shares of the Company's Common Stock; and (iv) options
to purchase up to 400,000 shares of the Company's Common Stock that may be
granted pursuant to the Company's 1997 Stock Incentive Plan.
(2) Does not include the possible exercise of the following: (i) options to
purchase 440,000 shares of the Company's Common Stock; (ii) Warrants
granted to the Underwriter of the Company's initial public offering to
purchase an aggregate of 60,000 shares of the Company's Common Stock;
(iii) Common Stock issuable upon conversion of the Series 1 Preferred
Stock; and (iv) options to purchase up to 400,000 shares of the Company's
Common Stock that may be granted pursuant to the Company's 1997 Stock
Incentive Plan.
(3) Assumes all Class A Warrants are exercised. No assurances can be given that
all or any portion of the outstanding Class A Warrants will be exercised.
(4) Generally, the Holder of the Series A Preferred Stock and Series 1
Preferred Stock each has the right to vote each share of Preferred Stock
on the same basis as each share of Common Stock.
(5) Does not include shares of Series 1 Preferred Stock issuable upon exercise
of the Preferred Warrants or Underwriters' Warrant.
(6) Does not include Preferred Warrants issuable upon exercise of the
Underwriters' Warrant.
5
<PAGE>
SUMMARY FINANCIAL DATA
The summary financial data is derived from the historical financial
statements of the Company. The summary financial data should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" as well as the Company's historical financial
statements and the related notes thereto, included elsewhere in the Prospectus.
<TABLE>
<CAPTION>
Year Ended December 31, Nine Months Ended
------------------------------ -----------------------------
(Unaudited)
Sept. 30, Sept. 30,
1996 1997 1997 1998
------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Statement of Operational Data:
Net Sales .................. $6,638,995 $11,016,601 $6,606,678 $9,834,362
Net Income (Loss) .......... (521,640) 50,097 (95,261) 140,954
Net Income (Loss) per common
share ..................... (.14) .01 (.03) .04
</TABLE>
<TABLE>
<CAPTION>
Dec. 31, Dec. 31, Sept. 30,
1996 1997 1998
------------- ------------- ------------
(Unaudited)
<S> <C> <C> <C>
Balance Sheet Data:
Total Assets ........................... $1,471,689 $4,548,061 $4,824,582
Working Capital (deficit) .............. (803,789) 162,877 59,666
Total Liabilities ...................... 2,461,869 2,725,397 2,860,964
Stockholders' Equity (deficit) ......... (990,180) 1,822,664 1,963,617
</TABLE>
6
<PAGE>
RISK FACTORS
An investment in the securities offered hereby is speculative and involves
a high degree of risk and substantial dilution. Securities offered hereby
should only be purchased by investors who can afford to lose their entire
investment. Each prospective investor should carefully consider the following
risk factors inherent in, and affecting the business of, the Company and the
Offering, together with the other information in this prospectus, before making
an investment decision.
History of Operating and Net Losses. Although the Company had net income
of $140,954 for the nine months ended September 30, 1998 and net income of
$50,097 for the year ended December 31, 1997, the Company incurred net losses
of ($521,640) and ($536,992) for fiscal 1996 and 1995, respectively. A
substantial portion of the aforesaid losses was associated with the
establishment and development of the Jeannie's Kids Club Catalog beginning in
July, 1995. There can be no assurances that the Company will not incur net
losses in the future. See "Management's Discussions and Analysis of Financial
Condition and Results of Operations."
Limited Working Capital/Possible Need for Additional Financing. At
September 30, 1998, the Company had limited working capital of $59,666. The
Company currently depends upon (i) cash from operations; (ii) loans from an
institutional lender; and (iii) cash received in July 1997 from the completion
of an initial public offering of its securities to fund its operations. In the
event that cash from operations is insufficient to finance its operations or
the Company's institutional credit facility is terminated or the credit limit
is insufficient to provide needed financing for the Company, it will be
necessary for the Company to seek to obtain additional public or private
financing. No assurances can be given that such financing will be available or,
if available, that it can be obtained on terms satisfactory to the Company. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Financial Statements."
Line-of-Credit/Limited Availability/Intent to Restructure. The Company has
a line-of-credit of $800,000 with an institutional lender. As of November 16,
1998, it has drawn down an aggregate of $762,000 under such line-of-credit. The
Company currently has limited availability under the credit. Upon the
completion of the Offering, the Company intends to meet with the institutional
lenders to discuss restructuring the debt. It is the Company's intention to
seek a larger line-of-credit. No assurances can be given that the Company will
be successful in these efforts or, if successful, that it will be on terms
satisfactory to the Company. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and "Financial Statements."
Broad Discretion in Application of Proceeds. Approximately $ or %
of the net proceeds of this Offering has been allocated to working capital of
the Company, which funds will be utilized for general corporate purposes. The
allocation of proceeds described in "Use of Proceeds" represents the Company's
best estimate of its allocation based upon the current state of its business,
operations and plans, current business conditions and the Company's evaluation
of its industry. Future events, including problems, delays, expenses and
complications which may be encountered, changes in economic or competitive
conditions and the result of the Company's sales and marketing activities may
make shifts in the allocation of funds necessarily desirable. Management of the
Company will have broad discretion in the application of substantially all of
such proceeds. See "Use of Proceeds."
Line-of-Credit -- Zero Balance. The Company has a line-of-credit pursuant
to which it is required to have a zero balance between now and June 30, 1999.
No assurances can be given that the Company will be successful in this regard.
Although the institutional lender has waived the zero balance requirement in
each of the last two fiscal years, no assurances can be given that the
institutional lender will again waive the zero balance requirement for fiscal
1999 or in future years.
Year 2000 Issues. Many existing computer programs use only two digits to
identify a year in the date field. There programs were designed and developed
without considering the impact of the upcoming change in the century. If not
corrected, many computer applications could fail or create erroneous results by
or at the year 2000. The Company is currently working to correct its computers
and does not believe that the expenditures will materially adversely impact the
Company, although no assurances can be given in this regard. The Company
purchases its materials from numerous vendors. While the Company has not
determined whether all its vendors
7
<PAGE>
will be year 2000 compliant before the problem arises, Management believes that
since it is not dependent on any major vendor, that its operations will not be
materially adversely effected by the failure of a few vendors to timely correct
the problem. However, no assurances can be given that Management will be
correct in its belief.
Cost Increases in Postage and Paper. Postal rates and paper costs affect
the cost of the Company's order fulfillment and catalog and promotional
mailings. The Company relies heavily on the rate structure of the United States
Postal Service ("USPS") and strives for discounts for bulk mailings. Like
others in the catalog industry, the Company passes along a significant portion
of its shipping and handling expense, but does not pass along costs of
preparing and mailing catalogs and other promotional materials. In recent
years, the USPS has increased its rate for both the mailing of catalogs and
packages. In January 1995 and January 1999, the USPS increased the postage rate
paid by the Company by approximately 14% and 3%, respectively. Since 1994,
United Parcel Service has annually increased its rates. The price of paper is
dependent upon supply and demand in the marketplace. From January 1993 through
December 1995, the price of paper available to the Company increased 95%,
resulting in increased catalog production costs and contributing to operating
losses in 1995. Any future significant increases in postal rates or paper costs
could have a material adverse effect on the Company's business, financial
condition and results of operation. See "Business."
Need for Mailing Lists. The Company experienced a competitive reaction to
its introduction of Jeannie's Kids Club Catalog which resulted in three other
children's catalogs refusing to exchange with, or rent their mailing lists to,
the Company. Although the Company has not experienced such a reaction from its
acquisition of The Natural Baby Catalog, there can be no assurance that such a
competitive reaction will not occur in the future, or that such an occurrence
would not have an adverse effect upon the profitability of the Company. See
"Business" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Need to Obtain New Customers. Historically, the Company has relied upon
catalog circulation as its sole method of acquiring new customers. Because of
the relatively short life of the customer (prenatal to age three) and the
increasing costs of catalog mailings, the Company believes that its future
growth and profitability will be largely dependent upon the Company's ability
to obtain new customers. Upon the completion of this Offering, the Company
intends to develop and establish a website to advertise and sell its products.
No assurance can be given that these actions will be successful, that the
Company will retain existing customers or obtain new customers, or that the
Company will operate profitably in the future. See "Business."
Possible Change of State Sales Tax Laws. Under current law, catalog
retailers are permitted to make sales in states where they do not have a
physical presence (e.g. offices) without collecting sales tax. Congress,
however, has the power to change these laws. Since 1987, legislation has been
introduced periodically in the U.S. Congress which would permit states to
require sales tax collection by mail order companies. To date, this proposed
legislation has not been passed. Should Congress, however, pass such
legislation in the future, most states could be expected to require sales tax
collection by out-of-state mail order companies. This would increase the cost
of purchasing the Company's products in those states and eliminate whatever
competitive advantage the Company may currently enjoy with respect to in-state
competitors in terms of sales taxation, as well as increasing the
administrative and overhead costs to the Company in connection with the
collection of such sales tax. See "Business."
Regulatory Matters. The Company's business, and the catalog industry in
general, is subject to regulation by a variety of state and federal laws
relating to, among other things, advertising and sales taxes. The Federal Trade
Commission regulates the Company's advertising and trade practices and the
Consumer Product Safety Commission has issued regulations governing the safety
of the products which the Company sells in its catalogs. No assurances can be
given that the Company will comply with all state and federal laws affecting
its business in the future.
No Current Plans for Additional Catalog Acquisitions. The Company believes
that due to the cost driven pressures to consolidate, there may be future
opportunities to acquire other children's niche catalogs. The Company, however,
has no current plans to make any acquisitions and no assurances can be given
that any acquisitions will be successfully completed in the future. See
"Business."
8
<PAGE>
Uncertainty as to Future Operating Results. The Company's revenue growth
and future profitability will depend on its ability to increase catalog sales,
to expand the membership of Jeannie's Kids Club and to effectively monitor and
control costs. Accordingly, there can be no assurance that the Company will
operate profitably in the future. Furthermore, future operating results depend
upon many factors, including general economic conditions, the level of
competition, age demographics and the ability of the Company to continue to
attract and retain customers successfully. See "Business."
Fluctuations in Operating Results. The Company's operating results may
vary from quarter-to-quarter depending on the number of catalogs mailed during
the quarter and the relative profitability of the mailing lists used for the
catalog mailings. The relative profitability of the mailing lists used for a
particular mailing is determined by the mailing list mix between the Company's
existing in-house lists and lists rented from outside sources. Some rental
lists turn-out to be profitable (or more profitable) and others do not. On
occasion, a rental list which has proven to be profitable in the past may
experience an inexplicable short-term unsatisfactory result. See "Business."
Competition. The mail order catalog and retail clothing outlet businesses
are highly competitive. The Company's catalogs compete and its proposed retail
outlet store intends to compete with other mail order catalogs and retail
stores, including department stores, specialty stores, discount stores and mass
merchants. Many of the Company's competitors have greater financial,
distribution and marketing resources than the Company. There can be no
assurance that the Company will be able to compete effectively with existing or
potential competitors. See "Business."
Product Liability Insurance. Since 1990, the Company's parent, Duncan
Hill, has carried product liability insurance for the Company and Duncan Hill's
subsidiary, The Havana Group, Inc. ("Havana"). The current coverage is $1
million per occurrence with an aggregate limit of $2 million. The policy is
supplemented by an umbrella liability policy providing coverage of an
additional $1 million per occurrence, $2 million aggregate. The policies are
carried by Duncan Hill, with the Company and Havana as named insureds. The
policies are issued for a period of one year and are currently in effect
through September 17, 1999. The Company may, in the future, procure the same
coverage in its name, alone. Although the Company believes that its present
insurance coverage is sufficient for its current level of business operations,
there is no assurance that such insurance will be sufficient to cover potential
claims, or that adequate, affordable insurance coverage will be available to
the Company in the future. An uninsured successful claim against the Company or
a successful claim in excess of the liability limits or relating to an injury
excluded under the policy could have a material adverse effect on the Company.
See "Business."
Trademarks and Other Proprietary Rights. The Company believes that its
trademarks and proprietary rights are important to its success and its
competitive position. However, the actions taken by the Company to establish
and protect its trademarks and other proprietary rights may be inadequate to
prevent imitation of its products by others or to prevent others from claiming
violations of their trademarks and proprietary rights by the Company. In
addition, others may assert rights in the Company's trademarks and other
proprietary rights. See "Business."
Dependence Upon Key Personnel; Need for Additional Personnel. The success
of the Company is highly dependent upon the continued services of William L.
Miller ("W. Miller"), the Company's Chairman of the Board and Chief Executive
Officer, and Jeanne E. Miller, ("J. Miller") the Company's President. W.
Miller, one of the co-founders of the Company's parent, is principally
responsible for the strategic planning and development of the Company. W.
Miller, however, is not required to devote his full-time attention to managing
the affairs of the Company. J. Miller, the other co-founder of the Company's
parent, is primarily responsible for the merchandise selection, design and
production of the catalog. Both W. Miller and J. Miller have entered into
employment agreements with the Company. However, if the employment by the
Company of either W. Miller and J. Miller is either terminated or not renewed,
or if either of them is unable to perform his or her duties, there could be a
material adverse effect upon the business of the Company. The Company has
obtained a $1 million key man life insurance policy on each of W. Miller and J.
Miller, who are husband and wife. The success of the Company's future growth
and profitability will depend, in part, on the Company's ability to recruit and
retain additional qualified Management personnel over time. There can be no
assurance, however, that the Company will be able to successfully recruit and
retain such additional qualified Management personnel. See "Management."
9
<PAGE>
The Company's Chief Executive Officer Will Not Be Required to Work Full
Time. W. Miller, is a co-founder of the Company's parent, Duncan Hill, which
has other operating subsidiaries. W. Miller, who devotes such time to the
affairs of the Company which are necessary for the performance of his duties,
is currently the President of Duncan Hill and Havana, as well as Chairman of
the Board of Directors and Chief Executive Officer of the Company. W. Miller's
employment agreement with the Company provides that he shall be permitted to
devote such time to managing the various other Duncan Hill entities (including
Havana) as he deems appropriate. Accordingly, W. Miller is not devoting his
full-time and attention to managing the operations of the Company. See
"Management."
W. Miller received a salary increase from $100,000 in 1996 to $125,000 in
1997, representing an increase of 25%, and J. Miller received a salary increase
from $65,000 in 1996 to $90,000 in 1997, representing an increase of
approximately 38%. Further J. Miller received a salary increase in October 1998
to $105,000, representing an increase of approximately 17% from the prior year.
These salary increases were approved by the unanimous vote of all the
disinterested members of the Board of Directors. Future salary increases for
the Millers will be at the discretion of the Board of Directors. As described
under the risk factor titled "Control By Parent and its Controlling
Stockholders," the Millers control the Company and the election of its Board of
Directors through their ownership of Duncan Hill. See "Management" and
"Principal Stockholders."
Potential Conflicts of Interest. Conflicts of interest could potentially
develop (i) to the extent that W. Miller is not able to devote his full-time
and attention to a matter that would otherwise require the full-time and
attention of a business' chief executive officer, (ii) involving competition
for business opportunities, (iii) involving transactions between the Company
and W. Miller, J. Miller and/or their affiliated companies; and (iv) due to the
relationship between W. Miller and J. Miller as husband and wife and as
directors of the Company. The Company has not adopted any procedure for dealing
with such conflicts of interest, except that the Company's Board of Directors
has adopted a policy that all new transactions between the Company and Duncan
Hill, Havana or any other affiliated company must be approved by at least a
majority of the Company's disinterested directors. Currently, the Company has
one disinterested director and Duncan Hill and the Millers control the election
of the directors. See "Management."
Lack of at Least Two Independent Directors and Committees Thereof. The
Company has four directors, including W. Miller and J. Miller who are also
executive officers of the Company, one independent director and another
director who is a director of Duncan Hill, an affiliate of the Company. The
absence of at least two outside or disinterested directors and committees
composed of such disinterested directors could result in less objectivity and
an increased risk for conflicts of interest with respect to decisions made by
the Board of Directors. See "Management."
Potential Adverse Effect of the Severance Compensation Applicable to the
Company's Two Executive Officers. Each of the employment agreements for the
Company's two executive officers, namely, W. Miller and J. Miller provides for
severance compensation to be paid to them in all instances other than the
executive's termination for cause. The minimum amount of such severance will be
equal to the sum of the executive's salary and bonus paid in the year preceding
the year when such severance is to be paid ("base severance"). The maximum
amount of such severance is equal to the base severance multiplied by 2.99. The
payment of any severance compensation under any of the two employment
agreements within the foreseeable future would likely have a materially adverse
impact upon the Company. See "Management."
Data Processing and/or Telephone Systems May Adversely Effect the
Company's Business. The Company's ability to effectively promote products,
manage inventory, efficiently purchase, sell and ship products, and maintain
cost-effective operations are each dependent upon the accuracy, capability and
proper utilization of the Company's data processing and telephone systems. The
Company will need to enhance the capacity and capabilities of these systems
from time to time to support its anticipated growth and remain competitive,
commencing with the intended replacement of the Company's current computer
hardware and system software. The Company's telemarketing, customer service and
management information systems functions are housed in a single facility
located at its headquarters. The Company has a disaster recovery program
through its computer and telephone systems vendors. The Company also creates a
back-up tape for off-site storage of its customer list and computer
information. However, a significant disruption or loss affecting the telephone
or computer systems or any significant damage to the Company's headquarters
could have a material adverse effect on the Company's business. See "Business."
10
<PAGE>
Need to Keep Current With Technological Changes. The direct marketing
industry may be affected by ongoing technological developments in distribution
and marketing methods such as on-line catalogs and Internet shopping. As a
result, the Company's future success will depend on its ability to keep pace
with technological developments and respond to new customer requirements. There
can be no assurance that the Company's current marketing methods will remain
competitive in light of future technological innovations. See "Business."
Control by Parent and its Controlling Stockholders. Duncan Hill
beneficially owns approximately 65% of the Company's outstanding Common Stock
and 100% of the Company's outstanding Series A Preferred Stock (5,000,000
shares) which has the same voting privileges as the Common Stock. As a result,
Duncan Hill, which beneficially owns approximately 86% of the outstanding
voting stock before the Offering and will own approximately 82% of the
outstanding voting stock after the Offering, will remain in a position to
effectively elect all of the directors of the Company and control its affairs
and policies. W. Miller and J. Miller, the Company's respective Chief Executive
Officer and President, own approximately 68% of the shares of the outstanding
common stock of Duncan Hill, and thus are in a position to exercise effective
control over the affairs of the Company through their effective control over
the affairs of Duncan Hill. Ultimate voting control by the Millers may
discourage certain types of transactions involving an actual or potential
change of control of the Company, including transactions in which the public
holders of the Common Stock might receive a premium for their shares over
prevailing market prices. See "Principal Stockholders."
SEC Investigation Involving the Representative. The Company has been
advised by the Representative (formerly named VTR Capital, Inc.) that the SEC
has issued a formal order directing a private investigation by the staff of the
SEC involving the Representative and certain other persons. For a description
of such SEC investigation, see "Underwriting." The Representative cannot
predict whether this investigation will result in any type of enforcement
action against the Representative. See "Underwriting."
NASD Enforcement Action Against the Representative. On February 20, 1998,
the NASD Department of Enforcement ("NASDR") filed an administrative complaint
against the Representative, Edward McCune ("McCune"), a principal of the firm
and two traders from other broker-dealers. For a description of such complaint,
including the allegations, see "Underwriting." On November 19, 1998, the
Representative and Mr. McCune (collectively the "Respondents") submitted an
Offer of Settlement to NASDR. On December 11, 1998, the NASDR's Office of
Hearing Officers issued an Order of Acceptance of the Offer of Settlement.
Under the terms of the Offer, the Respondents consented solely for the purpose
of that proceeding, without admitting or denying the allegations of the
complaint, to the entry of findings of facts and violations consistent with the
allegations of the complaint and to the imposition of sanctions upon the
understanding that the Order of Acceptance would become part of their permanent
disciplinary record and could be considered in future actions brought by the
NASDR. In its Order of Acceptance, the NASDR made findings that the Respondents
violated Section 10(b) of the Securities Exchange Act of 1934 and Rules 10b-5
and 10b-6 thereunder and NASD Conduct Rules 2110, 2120 and 2710 and ordered
that the Respondents be sanctioned as follows: the Representative was censured,
required to pay restitution/disgorgement to customers in the total amount
(including interest) of $300,000 and fined $100,000 jointly and severally with
McCune; McCune was also censured and suspended for eight months from
associating with any NASD member firm. In a related matter, on or about October
12, 1998, NASDR accepted a letter of Acceptance, Waiver and Consent from the
Respondent's trader (David W. Noble) pursuant to which Mr. Noble, without
admitting or denying the alleged violations, consented to findings that during
the period April 19, 1995 through April 24, 1995, Mr. Noble aided and abetted
the Respondents and in so doing violated NASD Conduct Rules 2110, 2120 and 3110
and Sections 10(b) and 17(a) of the Securities Exchange Act of 1934 and Rules
10b-5 and 17a-3 thereunder. Mr. Noble also consented to a censure, a 15
business day suspension and a $10,000 fine. See "Underwriting."
Possible Adverse Effect on Liquidity and Price of the Company's Securities
Due to SEC Investigation. The Company has been advised that in the event a
public market for the Company's Units, Series 1 Preferred Stock and/or
Preferred Warrants should develop, of which no assurances can be given, the
Representative intends to make a market in such securities following the
Offering in addition to the Company's Common Stock and Warrants in the
over-the-counter market, subject to compliance with Regulation M of the
Exchange Act. An unfavorable resolution of the SEC investigation concerning the
sales and trading activities and practices of the Representative could have the
effect of limiting or curtailing the Representative's ability to make a market
in the Company's securities in which case the market for and liquidity of the
Company's securities may be adversely affected. See "Underwriting."
11
<PAGE>
Dilution. Persons exercising the Class A Warrants will incur immediate and
substantial dilution of their investment. See "Dilution." The amount and
percentage of such dilution will depend upon the amount of Class A Warrants
exercised and the then net tangible book value of the Company, which can not be
accurately estimated at this time.
Limitation on Director Liability. As permitted by Delaware law, the
Company's certificate of incorporation limits the liability of directors of the
Company from monetary damages from a breach of a director's fiduciary duty
except for liability in certain instances. As a result of the Company's charter
provision and Delaware law, stockholders may have limited rights to recover
against directors for breach of fiduciary duty. See "Management--Limitation of
Liability and Indemnification Matters."
Anti-Takeover Measures. The Company is subject to a Delaware statute
regulating business combinations that may serve to hinder or delay a change in
control of the Company, in addition to those matters relating to control of the
Company discussed immediately, above. Also, pursuant to the Company's
certificate of incorporation, the Company's Board of Directors may from time to
time authorize the issuance of up to 5,000,000 shares of preferred stock
(including the Series 1 Preferred Stock, but not including the Series A
Preferred Stock owned by Duncan Hill) in one or more series having such
preferences, rights and other provisions as the Board of Directors may decide.
Any such issuances of preferred stock could, under certain circumstances, have
the effect of delaying or preventing a change in control of the Company and may
adversely affect the rights of the holders of the Company's Common Stock or
Series 1 Preferred Stock and the market for those shares. See "Description of
Securities."
No Cash Dividends. The Company has never paid cash dividends on its
capital stock and does not anticipate paying cash dividends in the foreseeable
future, except possibly on its Series 1 Preferred Stock. The Company intends to
retain future earnings, if any, to finance its growth and it reserves the right
to pay dividends on the Series 1 Preferred Stock by issuing Common Stock in
lieu of cash dividends. See "Dividend Policy" and "Description of Securities."
Arbitrary Determination of Class A Warrant and Preferred Warrant Exercise
Prices. The exercise price and other terms of the Class A Warrants have been
arbitrarily determined by the Company and the Representative of the Company's
initial public offering in 1997. Further, the offering price and other terms of
the Units and components thereof have also been arbitrarily determined by the
Company and the Representative. The terms of such securities do not necessarily
bear any relationship to the assets, book value or net worth of the Company or
any other recognized criteria of value. Accordingly, such terms should not be
considered an indication of the Company's actual value. See "Description of
Securities."
Limited Public Market; Market Volatility. Prior to the Offering, there has
been a limited public market for the Company's Common Stock and Class A
Warrants which are quoted on the OTC Electronic Bulletin Board under the
symbols "KDST" and "KDSTW," respectively. Before this Offering, there has been
no public market in the Company's Units, Series 1 Preferred Stock and Preferred
Warrants. The Representative intends to apply to the OTC Electronic Bulletin
Board to trade such securities. There is no assurance that an established
public trading market will develop or be sustained in any of the Company's
securities. Additionally, the market price of the Company's securities may be
adversely affected in response to changes in the general condition of the
economy or the retail and catalog business, as a whole, as well as the
Company's periodic financial results which may fluctuate quarterly as a result
of several factors, including the timing of catalog mailings and changes in the
selection of merchandise offered and sold. See "Market Information."
Certain Implications of Trading Over-the-Counter; "Penny Stock"
Regulations. The Company's Common Stock and Class A Warrants are quoted for
sale in the over-the-counter market on the OTC Electronic Bulletin Board under
the symbols "KDST" and "KDSTW", respectively. Further, the Representative
intends to apply to the OTC Electronic Bulletin Board for the Company's Units
and components thereof to trade on the OTC Bulletin Board. An investor may find
it more difficult to dispose of the Company's securities trading over-the-
counter than had the Company sought approval for its securities to be listed
for quotation on a national securities exchange, or on the Nasdaq SmallCap
market. The Company has not applied for listing on a national securities
exchange or the Nasdaq SmallCap market because of the Company's belief that it
would not meet the listing requirements.
12
<PAGE>
The Securities and Exchange Commission has adopted "penny stock"
regulations which applies to securities traded over-the-counter. These
regulations generally define "penny stock" to be any equity security that has a
market price of less than $5.00 per share, a warrant that has an exercise price
of less than $5.00 per share, an equity security of an issuer (assuming the
corporation has been in existence for at least three years) with net tangible
assets of less than $2,000,000 or an equity security of an issuer with average
revenues in the last three fiscal years of less than $6,000,000, as indicated
in audited financial statements. Subject to certain limited exceptions, the
rules for any transaction involving a "penny stock" require the delivery, prior
to the transaction, of a risk disclosure document prepared by the Commission
that contains certain information describing the nature and level of risk
associated with investments in the penny stock market. The broker-dealer also
must disclose the commissions payable to both the broker-dealer and the
registered representative and current quotations for the securities. Monthly
account statements must be sent by the broker-dealer disclosing the estimated
market value of each penny stock held in the account or indicating that the
estimated market value cannot be determined because of the unavailability of
firm quotes. In addition, the rules impose additional sales practice
requirements on broker-dealers who sell such securities to persons other than
established customers and institutional accredited investors (generally
institutions with assets in excess of $5,000,000). These practices require
that, prior to the purchase, the broker-dealer determined that transactions in
penny stocks were suitable for the purchaser and obtained the purchaser's
written consent to the transaction. Consequently, the "penny stock" rules may
in the future restrict the ability of broker-dealers to sell the Company's
securities and may affect the ability of purchasers in the offering to sell the
Company's securities in the secondary market.
Restrictions on the Representative's Market Making Activities During
Warrant Solicitation and the Offering. The Representative has the right to act
as the Company's sole agent in connection with any future solicitation of
warrant holders to exercise their Class A Warrants. Unless granted an exemption
by the Securities and Exchange Commission from Regulation M (formerly Rule
10b-6) promulgated under the Securities Exchange Act of 1934, as amended, the
Representative will be prohibited from engaging in any market-making activities
with regard to the Company's securities for a period of time before and during
the Offering and warrant solicitation period. Such limitation could impair the
liquidity and market prices of the Company's securities. See "Description of
Securities."
Potential Adverse Effect of Redemption or Exercise of Class A
Warrants. The Class A Warrants, Preferred Warrants and Series 1 Preferred Stock
may be redeemed by the Company under certain circumstances. Should the Company
provide a notice of redemption, the holders thereof would be forced to either
exercise or convert the applicable security at a time when it may be
disadvantageous for them to do so, sell the applicable security at the then
current market price, or accept the redemption price, which may be
substantially less than the market value of the applicable security. In
addition, the exercise of the Class A Warrants or the conversion of the
Preferred Warrants and Series 1 Preferred Stock may have an adverse effect on
the market price of the Company's securities should a public trading market
develop. Also, while the aforesaid securities are outstanding, the Company may
find it more difficult to raise additional capital upon favorable terms because
of the potential for the exercise or conversion of the Class A Warrants or
conversion of the Preferred Warrants and Series 1 Preferred Stock to be
dilutive to future investors. See "Description of Securities."
Unregistered Shares Eligible for Immediate and for Future Sale. Duncan
Hill holds 2,251,075 shares of the Company's Common Stock and 5,000,000 shares
of the Company's Series A Preferred Stock (collectively the "Restricted
Securities"). These securities held by Duncan Hill are "restricted securities"
as that term is defined by Rule 144 of the Securities Act. Such securities may
only be sold in compliance with the provisions of Rule 144 unless otherwise
registered by the Company or exempt under the Act. Furthermore, Duncan Hill has
agreed with the Representative not to sell or otherwise transfer the Restricted
Securities until June 26, 1999 unless earlier permitted by the Representative.
While there are no agreements, arrangements or understandings with Duncan Hill
with respect to the early release of the lock-up, previously the Representative
has released the lock-up for Duncan Hill for a total of 148,925 shares, which
have been sold under Rule 144. In making its decision to release the lock-up,
the Representative evaluates the totality of the facts and circumstances that
exist at the time the decision is made, including, without limitation, market
demand for the securities and trading volume. The possible or actual future
sales of the Restricted Securities under Rule 144 may have an adverse effect on
the market price of the Company's securities. See "Unregistered Shares Eligible
for Future Sale."
13
<PAGE>
Current Prospectus and State Blue Sky Registration Required to Exercise
Class A Warrants. The Company will be able to issue shares of its Common Stock
upon exercise of the Class A Warrants only if there is then a current
prospectus relating to the shares of Common Stock issuable upon the exercise of
the Class A Warrants under an effective registration statement filed with the
Commission, and only if such shares of Common Stock are qualified for sale or
exempt from qualification under applicable state securities laws of the
jurisdiction in which the various holders of the Class A Warrants reside.
Although the Company has agreed to use its best efforts to meet such regulatory
requirements, there can be no assurance that the Company will be able to do so.
The Class A Warrants may be deprived of any value if a prospectus covering the
shares of Common Stock issuable upon their exercise is not kept effective or
replaced or if such shares of Common Stock are not or cannot be qualified or
exempt from qualification in the jurisdictions in which the holders of the
Class A Warrants reside. As of the date of this Prospectus, the Company
anticipates that the exercise of Class A Warrants will be qualified for sale or
exempt from qualification only in a limited number of states which include
Colorado, Connecticut, Delaware, District of Columbia, Georgia, Hawaii,
Illinois, Louisiana, Maryland, New York, Rhode Island, Utah and Virginia. See
"Description of Securities."
Current Prospectus and State Blue Sky Registration Required to Exercise
Preferred Warrants. The Company will be able to issue shares of its Series 1
Preferred Stock upon exercise of the Preferred Warrants only if there is then a
current prospectus relating to the shares of Series 1 Preferred Stock issuable
upon the exercise of the Preferred Warrants under an effective registration
statement filed with the Commission, and only if the Shares are qualified for
sale or exempt from qualification under applicable state securities laws of the
jurisdiction in which the various holders of the Preferred Warrants reside.
Although the Company has agreed to use its best efforts to meet such regulatory
requirements, there can be no assurance that the Company will be able to do so.
The Preferred Warrants may be deprived of any value if a prospectus covering
the Shares issuable upon their exercise is not kept effective or if such shares
of Series 1 Preferred Stock are not or cannot be qualified or exempt from
qualification in the jurisdictions in which the holders of the Preferred
Warrants reside. As of the date of this Prospectus, the Company anticipates
that the exercise of Preferred Warrants will be qualified for sale or exempt
from qualification only in a limited number of states which include Colorado,
Connecticut, Delaware, District of Columbia, Florida, Georgia, Hawaii,
Illinois, Louisiana, Maryland, New York, Rhode Island, Utah and Virginia. See
"Description of Securities."
No Sinking Fund. The Company is not required to provide for the retirement
or redemption of the Series 1 Preferred Stock through the operation of a
sinking fund.
14
<PAGE>
USE OF PROCEEDS
The net proceeds to be received from the sale of 400,000 Units after
deduction of offering expenses estimated at a maximum of $ will be
approximately $ . The Company intends to use the net proceeds of the
Offering, over at least the next twelve months approximately as follows:
<TABLE>
<CAPTION>
Approximate Approximate
Amount of Percentage of
Net Proceeds Net Proceeds
-------------- --------------
<S> <C> <C>
Purchase Inventory(1) .................................................... $ 600,000 %
Reduction of Accounts Payable(2) ......................................... 400,000
Establishment of New Operation Center(3) ................................. 205,000
Leasehold Improvements for "Kids Catalog Outlet" retail store(4) ......... 33,000
Website Production and Development(5) .................................... 40,000
Working Capital (6) ......................................................
---------
Total ................................................................. $ 100%
========= ===
</TABLE>
- ------------
(1) The purchase of additional inventory is to help the Company eliminate back
orders and cancellations of merchandise due to inventory being out of
stock.
(2) Reduction of accounts payable by $400,000 will satisfy many of the
Company's invoices that are over 90 days old.
(3) The Company intends to establish a new operations center of approximately
34,000 square feet in early 1999. This operation center, which is expected
to be located in or about Canton, Ohio, will include customer relations,
order entry and warehouse and distribution operations and will replace its
existing warehouse facility. Moving costs are estimated at $35,000.
(4) The Company has recently opened a retail outlet store in Canton, Ohio to
sell merchandise that has not been sold through its catalogs. The $33,000
is allocated to pay for the leasehold improvements that were made to the
store.
(5) The Company is seeking to establish a website for advertising and sales of
its products.
(6) The Company intends to use such funds for general corporate purposes. In
the event any Class A Warrants or Preferred Warrants are exercised, of
which no assurances can be given in this regard, such funds would be added
to working capital. See "Risk Factors." The allocation of proceeds
described in "Use of Proceeds" represents the Company's best estimate of
its allocation based upon the current state of its business, operations
and plans, current business conditions and the Company's evaluation of its
industry. Future events, including problems, delays, expenses and
complications which may be encountered, changes in economic or competitive
conditions and the result of the Company's sales and marketing activities
may make shifts in the allocation of funds necessarily desirable.
Management of the Company will have broad discretion in the application of
substantially all of such proceeds. See "Risk Factors."
DIVIDEND POLICY
The Company currently intends to retain any earnings to finance the
development and expansion of the Company's business and does not anticipate
paying any cash dividends in the foreseeable future, except possibly on its
Series 1 Preferred Stock. The declaration and payment of cash dividends by the
Company are subject to the discretion of the Board of Directors of the Company.
Any future determination to pay cash dividends will depend on the Company's
results of operations, financial condition, capital requirements, contractual
restrictions and other factors deemed relevant at the time by the Board of
Directors. The Company is not currently subject to any contractual arrangements
which restricts its ability to pay cash dividends. The Company reserves the
right to pay dividends on its Series 1 Preferred Stock by issuing Common Stock
in lieu of cash dividends.
15
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This discussion should be read in conjunction with the information in the
financial statements of the Company and notes thereto appearing elsewhere in
this Prospectus.
OVERVIEW
The Company acquired its first catalog, Perfectly Safe in January, 1990.
Since 1990, the Perfectly Safe Catalog has relied upon catalog circulation to
acquire new customers and to provide its revenue base. During 1990, the
Perfectly Safe Catalog generated $1,473,000 in net sales from catalog
circulation of approximately 900,000 catalogs. Catalog circulation was
increased each year through 1994, when the Company mailed 3.7 million catalogs
and generated $5.0 million in net sales.
During the first quarter of 1995, the Company created its Jeannie's Kids
Club's Catalog, which offers popular children's products at discounts of up to
60% of the price charged by other children's catalogs for the same product. To
make a purchase at the discounted price, the customer must become a member of
Jeannie's Kids Club which costs $18 per year. Subject to cancellation, expired
credit card or change of address, a renewal is automatically billed to a club
member's credit card prior to the membership's expiration. The Company believes
that its cost of generating a renewal is less than 10% of the renewal fee of
$18 and thus favorably impacts the potential profitability of Jeannie's Kids
Club operation.
The first Jeannie's Kids Club Catalog was mailed in July, 1995. In its
first six months of operation (six months ended December 31, 1995), Jeannie's
Kids Club generated just over $1 million in net sales, or 18% of the Company's
net sales for the year 1995. The Perfectly Safe Catalog on the other hand,
experienced a reduction in sales from $5.0 million in 1994 to $4.7 million in
1995. The Company believes that the decrease in sales was attributable to a
competitive reaction caused by the introduction of Jeannie's Kids Club Catalog.
Prior to the introduction of Jeannie's Kids Club Catalog, the Company exchanged
mailing lists with three other children's catalogs, which provided
approximately 17% of the catalog circulation and resulting sales for the
Perfectly Safe Catalog. When the Company introduced Jeannie's Kids Club
Catalog, the three children's catalogs referenced above refused to rent or
exchange mailing lists with the Company for competitive reasons, which reduced
Perfectly Safe's Catalog circulation and revenues in this segment of the
business. During 1997, the Company has identified other mailing lists which
have helped to increase the circulation and revenues of The Perfectly Safe
Catalog.
In July 1997, the Company acquired from Baby Co., The Natural Baby Catalog
utilizing the proceeds of the Company's initial public offering. The Natural
Baby Catalog offers children's clothing and toys made of natural materials.
During the second half of 1997, The Natural Baby Catalog generated $3.8 million
in net sales on orders of 55,188, (an average order of approximately $68). The
Company is seeking to increase circulation while generating the same, or a
higher, average order.
RESULTS OF OPERATIONS
Nine months ended September 30, 1998 compared to the nine months ended
September 30, 1997.
Sales for the nine months ended September 30, 1998 increased 48.9% to
$9,834,362, compared with $6,606,678 for the same period of 1997. Net income
for the first nine months of 1998 improved to $140,954 compared with a net loss
of ($95,261) for the same period in 1997.
Approximately 85% of the Company's increased revenues were attributed to
The Natural Baby Catalog. Combined revenues from the Company's Perfectly Safe
and Kids Club catalogs increased 15% compared with 1997, producing the
remainder of its overall revenue increase.
Cost of sales increased from 58.2% of net sales in 1997 to 59.0% in 1998.
The change is attributable to the shipping rate increase imposed by United
Parcel Service this year. The Company increased shipping charges to customers
the second quarter of 1998 to offset this increase.
16
<PAGE>
Selling expenses, consisting of advertising and marketing costs, were
27.7% of net sales in the first nine months of 1998, compared with 31.3% in
1997. This 11.3% reduction in selling expense as a percentage of net sales,
reflects the impact of The Natural Baby Catalog, whose selling expenses are
less than those of the Company's other catalogs because of the higher average
order. Additionally, the Company improved the productivity of its Perfectly
Safe and Kids Club catalog mailings during the first half of 1998, which
resulted in lower selling expenses compared with the first half of 1997.
General and Administrative expenses increased by $464,902 from 10.4% of
net sales in 1997 to 11.7% in 1998. As a result of the Natural Baby
acquisition, the growth of the Company's operation has given rise to higher
support costs. Costs of outside legal and accounting services have increased
because of the compliance requirements associated with being a public company.
General and administrative costs are also affected by services the Company
provides to Havana, an affiliated company. During the first nine months of 1998
the Company charged Havana $218,500 including order fulfillment costs, as
compared to approximately $205,000 allocated last year.
Year ended December 31, 1997 compared to the year ended December 31, 1996.
Total net sales for the year ended December 31, 1997 increased $4,377,606,
or 65.9%, to $11,016,601, compared with $6,638,995 for the year ended December
31, 1996. Net sales include sales from merchandise, Jeannie's Kids Club
memberships, shipping and handling charges, and mailing list rentals. This
increase is mainly attributable to the acquisition from Baby Co. of The Natural
Baby Catalog on July 2, 1997, and the resulting net sales of $3,811,894 for the
six months ended December 31, 1997. The net sales of the Perfectly Safe Catalog
increased from $2,717,056 for the year ended December 31, 1996 to $3,937,809
for the year ended December 31, 1997. This increase is attributable to a 26.9%
increase in catalog circulation from 1,595,890 catalogs mailed to 2,025,375
catalogs mailed during 1996 and 1997, respectively, and also to an increase in
net revenue per book mailed of 14%, from $1.70 per book during 1996 to $1.94
per book in 1997. This increase was offset by a decrease in net sales of
Jeannie's Kids Club, which decreased from $3,921,434 to $3,202,238 for the
years ended December 31, 1996 and 1997, respectively. The circulation of
Jeannie's Kids Club was reduced from 2,372,891 to 1,432,716 for the years ended
December 31, 1996 and 1997, respectively.
Cost of sales, as a percentage of net sales, decreased 1.5% from 63.3% for
the year ended December 31, 1996 to 61.8% for the year ended December 31, 1997.
The Company attributes this decrease to increased fulfillment efficiencies
resulting from the addition from Baby Co. of The Natural Baby Catalog. During
the fourth quarter, the Company recorded a charge to earnings of $105,000 for
obsolete inventory.
Selling expenses, which consists of advertising and other marketing
related expenses, decreased 6.1% as a percentage of net sales, from 33.0% to
26.9% for the years ended December 31, 1996 and 1997, respectively. This
decrease is due to the Perfectly Safe net revenue per catalog increasing from
$1.70 to $1.94 for the years ended December 31, 1996 and 1997, respectively,
Jeannie's Kids Club net revenue per catalog increasing from $1.65 to $2.24, for
the same periods, and the addition of The Natural Baby Catalog.
General and administrative expenses were $1,077,041, or 9.8% of net sales,
for the year ended December 31, 1997, and $712,515, or 10.7% of net sales, for
the same period of 1996. This dollar increase is attributable to increased
legal, accounting and consulting fees relating to the Company becoming public,
increased wages and expenses for the relocation of The Natural Baby Catalog
operations from Trenton, New Jersey, to the Company's Canton, Ohio facility.
The Company believes that its general and administrative functions have become
more efficient and cost effective since the integration of The Natural Baby
Catalog operations and the completion of the learning curve relating to the new
product line is complete. General and administrative expenses for 1996 were
incurred substantially by Duncan Hill, and allocated to the Company consistent
with past practices, under which Duncan Hill allocated its general and
administrative expenses to its operating subsidiaries on a pro rata basis
determined by the percentage of total assets of the various operating
subsidiaries, exclusive of the assets of Duncan Hill. For 1996, the Company's
allocation was 69% of Duncan Hill's total general and administrative expenses.
Effective June 30, 1996, the Company began a six month transition period to
handle certain of its own administrative functions, directly. Effective January
1, 1997, the Company began handling administrative functions for Havana.
General and administrative expenses incurred by the Company are allocated to
Havana, on a pro rata basis determined by the percentage of total assets of
Havana and the operating divisions
17
<PAGE>
of the Company. For the six months ended June 30, 1997, Havana's allocation was
33% of the Company's total general and administrative expenses. For the year
ended December 31, 1997, Havana's allocation was 21% of the Company's total
general and administrative expenses, due to the acquisition of The Natural Baby
Catalog.
Net income for the year ended December 31, 1997 was $50,097, or .5% of net
sales, compared to a net loss of $521,640, or 7.9% of net sales for the same
period of 1996. The Company attributes this increase to the increase in
revenues, the acquisition of The Natural Baby Catalog, and decreased selling
expenses as a percentage of net sales.
Selected financial information for Baby Co. relating to The Natural Baby
Catalog for the six months ended June 30, 1997 and the year ended December 31,
1996 are as follows:
Six months ended Year ended
June 30, 1997 December 31, 1996
------------------ ------------------
Total revenues ................. $2,938,276 $6,451,215
Net income ..................... 248,738 558,649
Total assets ................. 760,065 915,275
On a pro forma basis, assuming the Company had acquired The Natural Baby
Catalog from Baby Co. at the beginning of fiscal year 1996, the combined
operations would have resulted in combined net sales of $13,954,877, net income
of $298,835, and net income per share of common stock of $.08, for the year
ended December 31, 1997 and combined net sales of $13,090,210, net income of
$37,009, and net income per share of common stock of $.01, for the year ended
December 31, 1996.
In July 1997, the operations of The Natural Baby Catalog were relocated to
the Company's Canton, Ohio facilities, including inventories, telemarketing,
customer service and fulfillment. The cost of this relocation resulted in a
charge to earnings of $50,000.
Year ended December 31, 1996 compared to the year ended December 31, 1995.
Total net sales for the year ended December 31, 1996 increased $914,658,
or 16%, to $6,638,995, compared with $5,724,337 during the year 1995. Net sales
include sales from merchandise, Jeannie's Kids Club membership, shipping and
handling charges, and mailing list rentals. The net sales of Jeannie's Kids
Club increased from $1,033,805 in 1995 to $3,921,939 in 1996. That increase in
net sales of Jeannie's Kids Club in 1996 was partially offset by a decrease in
sales of the Perfectly Safe Catalog, which declined $1,973,476 or 42.1%, to
$2,717,056, compared with $4,690,532 in 1995.
The Company's total catalog circulation was approximately 3.8 million in
each of 1995 and 1996. The Company introduced Jeannie's Kids Club Catalog in
July 1995 and mailed 708,804 catalogs in the second half of 1995 and 2,372,891
catalogs in 1996, which accounted for 18% and 59.8% of its total catalog
mailings in 1995 and 1996, respectively. The Company reduced the circulation of
its Perfectly Safe Catalog 51.2% from 3.2 million in 1995 to 1.6 million in
1996 consistent with its plan to allocate more of its available resources to
building Jeannie's Kids Club, as discussed above. Gross revenue per catalog
mailed in 1996 increased 15.9% to $1.75 per book, versus $1.51 for 1995. The
Company attributes the higher revenue per catalog mailed to the relatively
higher Jeannie's Kids Club average order and percentage response rates.
At December 31, 1996 the Company had 180,124 total households available
for purposes of list rental to other catalogs, which are non-competitive or
compete with the Company to a lesser extent. Total households are defined as
those households purchasing from the Company in the past 24 months, and rental
selections may be made on the basis of purchases within 24, 12, 6, or 3 months.
List rental rates charged by the Company are $85.00 per thousand households for
24 months buyers, and increase to $100.00 per thousand households for three
month "hotline" buyers. The Company pays a 30% brokerage commission on
published rates. For the years ended December 31, 1996 and 1995, the net list
rental income was $79,240 and $84,093 respectively. The decrease in revenue of
5.8% is attributable to the Company changing list brokerage firms in 1996, with
a resulting 30 day period of inactivity during the cross over phase.
18
<PAGE>
Cost of sales, as a percentage of net sales, was 63.3% and 61.8% for 1996
and 1995, respectively. Cost of sales consists of cost of merchandise and
fulfillment. The increase was primarily due to increased costs of merchandise,
which rose from 40.2% of net sales to 42.9% in 1996. Merchandise costs of the
Company's Jeannie's Kids Club Catalog are a relatively higher percentage of net
sales, as merchandise is sold on a discounted basis, while Perfectly Safe's
generally is not. Accordingly, the increase of Jeannie's Kids Club net sales
from 18% of the Company's total net sales in 1995 to 59% in 1996 resulted in
the Company's increased costs of merchandise in 1996, as a percentage of net
sales. The merchandise cost increases were partially offset by a decrease in
the Company's cost of fulfillment equal to 1.2% of net sales, as fulfillment
expenses fell from 21.6% of net sales in 1995 to 20.4% of net sales in 1996.
Fulfillment expense consists of costs of shipping, direct labor, packaging,
order entry and 800 line telephone costs. The Company experienced cost
reductions in this area primarily from a decrease in shipping costs, which fell
4.6% from 1995 to 1996. While outbound shipping costs fluctuate with the
package size and number of shipments per order, the decrease was affected by
the reduction of the Company's number of shipments per order which fell from
1.6 in 1995 to 1.4 in 1996.
Selling expenses increased 9.7% from $1,998,502 in 1995 to $2,193,219 in
1996. Selling expenses consist of advertising and other marketing related
expenses. The increase in 1996 is primarily attributable to the Company's
revenue increase of 16% from 1995 to 1996. Selling expenses, as a percentage of
net sales, were 33% and 34.9% for 1996 and 1995, respectively. The Company's
Perfectly Safe Catalog experienced an increase, on a percentage basis, in
advertising expense of 2.5% of net sales from 29.7% of net sales in 1995 to
32.2% in 1996. This increase was primarily attributable to the less profitable
mix of mailing lists in 1996 than 1995. Advertising expense consists of the
cost of producing the catalogs, postage, mailing preparation and outside
mailing lists rented by the Company. Jeannie's Kids Club Catalog recorded
advertising expenses of 28.9% of net sales in 1996 compared with 46.8% in 1995.
This decrease is attributable to the fact that 1995 was the initial inception
year of Jeannie's Kids Club Catalog and the Company incurred initial non
recurring costs of developing Jeannie's Kids Club Catalog, such as research and
development, market testing and design of the catalogs in the amount of
$392,495.
The Company believes that its general and administrative expenses are high
relative to its revenue base. General and administrative expenses were
$684,615, or 12.0% of net sales, in fiscal 1995 and $712,515, or 10.7% of net
sales, in fiscal 1996. This increase is attributable to the increase in
revenues in 1996 from 1995. The Company believes that its general and
administrative functions will become more efficient and cost effective upon
absorbing the revenue base of The Natural Baby Catalog, which the Company
believes can be accomplished with significantly less than proportionate
increases in general and administrative expenses. General and administrative
expenses for 1995 and for 1996 were substantially all incurred by Duncan Hill,
and allocated to the Company consistent with past practices, under which Duncan
Hill allocated its general and administrative expenses to its operating
subsidiaries on a pro rata basis determined by the percentage of total assets
of the various operating subsidiaries, exclusive of the assets of Duncan Hill.
As a result of the reorganization in which the Company succeeded to the
operations of Perfectly Safe and acquired certain assets of Duncan Hill, the
Company began to directly handle certain of its own administrative functions
during a six month transition period ended December 31, 1996. In 1995 and for
1996, the Company's allocation was 69% of Duncan Hill's total general and
administrative expense.
Net losses for the year ended December 31, 1996 were $521,640, or 7.9% of
sales, compared with net losses of $536,992, or 9.4% of sales for the year
ended December 31, 1995. The Company attributes this slight decrease to the
growth in 1996 of Jeannie's Kids Club membership base and the increase in
revenues associated therewith.
Liquidity and Capital Resources
At September 30, 1998, the Company' accumulated deficit was reduced by
$140,954 from December 31, 1997 because of the first nine months earnings
performance.
During the nine months ended September 30, 1998, cash provided by
operating activities included net income from operations and non-cash charges
of $132,505 for depreciation and amortization. The largest users of working
capital were inventory increases and increased deferred catalog expense,
totaling $478,508. Higher volume mailings of catalogs, as compared to 1997,
accounted for the increased deferred expense and inventory
19
<PAGE>
needs. During the nine months ended September 30, 1998, the Company used cash
in investing activities to purchase property and equipment and to make an
investment in catalog artwork totaling $176,670. During the nine months ended
September 30, 1998, net cash was provided by financing activities. This is
primarily a result of decreases in amounts due from affiliates and borrowings
under the Company's line-of-credit.
During the nine months ended September 30, 1997, net cash was used in
operations. Cash was used in operating activities due to the Company's net
loss. Uses of working capital included an increase in inventory of $221,495 and
in increase in accounts receivable of $172,089 partially offset by such items
as an increase in accounts payable of $71,309 and a decrease in prepaid
expenses of $52,311. During the nine months ended September 30, 1997, cash was
used in investing activities to purchase property and equipment of $110,281 and
the Natural Baby Catalog business. During the nine months ended September 30,
1997, $1,727,792 was used by the Company to purchase such business. Cash was
provided by financing activities totaling $1,859,669 which was used to finance
the purchase of The Natural Baby Catalog business. Such financing activities
were substantially derived from the completion of an initial public offering
which resulted in net proceeds of $2,619,890 to the Company. Decreases to
financing activities included payments on long-term debt, purchase of Common
Stock and repayments of amounts due to affiliates.
At February 1, 1998, the balance of the Company's credit line was
$762,000. The Company's current credit line is $800,000, payable on demand. The
line is secured by the assets of the Company and its affiliated companies,
Havana and Duncan Hill, and is guaranteed by W. Miller, the Company' Chief
Executive Officer. The interest rate is 1% over prime. It is the policy of the
bank to review the credit facility annually, and to require that the Company
maintain a zero balance on the credit line for a period of thirty consecutive
days sometime during the course of each year. The bank has agreed to waive the
"zero balance" required for the fiscal 1997 and 1998 loan years because the
Company's current cash flow would not allow it to comply before then. See "Risk
Factors."
At December 31, 1997, the Company had a deficit in retained earnings of
$1,402,583, compared with a deficit of $1,452,680 at December 31, 1996. This
increase resulted from a net profit of $50,097 for the year ended December 31,
1997.
For the year ended December 31, 1997, the operating activities consumed
$576,038 in cash through increases in accounts receivable, inventories and
prepaid expenses, but provided $553,709 in cash through a decrease in deferred
catalog expense, and an increase in accounts payable, customer advances and
other. The net effect of these changes and non cash charges of $80,687 relating
to depreciation and amortization, when added to the net profit was a decrease
in the Company's cash position, so that net cash provided by operating
activities was $108,455.
For the year ended December 31, 1997, the Company's financing activities
provided $1,497,636 in cash, with $2,619,890 from the sale of common stock,
$21,000 from borrowings on the Company's bank credit line, $43,782 from a
decrease in prepaid amounts for the public offering and $5,000 from the sale of
preferred stock, while using $718,035 from changes in current obligations
to/from affiliates, $107,143 for the repurchase of the Company's Common Stock
from bridge lenders relating to the Company's initial public offering and
$366,858 from the repayment of debt, $266,858 which was paid to related
parties.
For the year ended December 31, 1997, the combined effect of net cash
provided by operating activities of $108,455, net cash provided by financing
activities of $1,497,636, and investments in fixed assets and the acquisition
of The Natural Baby Catalog totaling $1,752,845, decreased cash from $248,648
to $108,894 at December 31, 1997.
Effective June 30, 1996, the Company was formed by Duncan Hill for the
purpose of acquiring certain operating assets of Duncan Hill and the children's
catalog business of Perfectly Safe. The Company paid for those assets through
the assumption of Perfectly Safe liabilities and Duncan Hill's bank line of
credit, by a promissory note payable to Duncan Hill and by preferred and common
stock of the Company. The first installment of the promissory note to Duncan
Hill in the principal amount of $66,858, plus accrued interest, was paid on
July 7, 1997 with the next installment in the amount of $100,000 due on June
30, 1998, together with accrued interest.
20
<PAGE>
In order to finance its most recent operations, the Company entered into
certain private financing agreements commencing in October, 1996. In that
regard, the Company issued 8% promissory notes in the amount of $125,000 to be
repaid with a portion of the proceeds from its initial public offering, 8%
promissory notes in the amount of $75,000, convertible upon the effective date
of the Company's initial public offering into Warrants to purchase 1,500,000
shares of Common Stock (the "8% Convertible Notes") and 1,300,000 shares of the
Company's Common Stock for $162,500. Subsequently, the holders of the 8%
Convertible Notes, at the request of the Representative agreed to accept a cash
payment at the closing of the initial public offering in the face amount of
$75,000, plus accrued interest at 8% per annum, in lieu of the conversion of
their notes into 1,500,000 Warrants. Also, in July 1997, the Company
repurchased 857,144 shares of the Common Stock previously issued in the private
financings at a repurchase price of $.125 per share. On July 2, 1997, the
Company repaid the 8% promissory notes in the principal amount of $125,000,
plus accrued interest, the 8% Convertible Notes in the principal amount of
$75,000, plus accrued interest, and the payment of notes in the principal
amount of $107,143, plus accrued interest for the repurchase of the 857,144
shares of Common Stock of the Company mentioned above, out of the proceeds of
its initial public offering.
The Company filed a registration statement in 1997 relating to the
offering by the Company of 300,000 units at an offering price of $12 per unit,
each unit consisting of two shares of Common Stock, $.001 par value, and eight
Class A Warrants. The Company's initial public offering was declared effective
by the Commission on June 26, 1997, and the proceeds were distributed to the
Company on July 2, 1997. See "Notes To Financial Statements -- Note 7. Public
Offering."
On July 2, 1997, the Company completed its acquisition of The Natural Baby
Catalog from Baby Co. The Company paid the following: a cash payment of
$1,225,000 to the seller; a cash payment in the amount of $219,831 in payment
of a note owed by Baby Co. in the principal amount of $197,603 together with
accrued interest in the amount of $22,228 through July 2, 1997; a cash payment
of $50,134 to Core States Bank to pay off Baby Co's line of credit in the
principal amount of $50,000 plus interest of $134; the assumption by the
Company of Baby Co.'s accounts payable incurred in the ordinary course of
business which was approximately $266,287 as of June 30, 1997; assumption of
Baby Co.'s remaining lease obligations in the approximate amount of $24,000 as
of June 30, 1997; a convertible promissory note issued by the Company to Baby
Co. in the amount of $250,000 (Convertible Note); a second promissory note in
an amount which reflects the pre-tax profits of Baby Co. in excess of $300,000
from the date of completion of the acquisition through December 31, 1997 (the
"Excess Profit Note"); 70,000 shares of the unregistered Common Stock of the
Company issued to Baby Co., valued at $3.50 per share, which are subject to a
two year lock-up until June 26, 1999; and, the agreement on the part of W.
Miller to guarantee the payments to be made by the Company under the
convertible note on the first and second anniversary dates.
Effective December 31, 1997, the Company paid $100,000 in exchange for the
cancellation of both the $250,000 Convertible Note and the Excess Profit Note
mentioned above. The Company also signed a four year non-compete agreement with
the sellers at a cost of $130,000, payable over two years.
In June, 1997, the Company replaced its data processing hardware. The
Company is leasing the hardware at an annualized cost of approximately $24,000.
Lease payments will be paid out of the Company's cash flow or working capital.
The Company uses the intrinsic value-based method for stock-based
compensation to employees. As a result, this standard does not have any effect
to the Company's financial statements other than to require disclosure of the
pro forma effect on net income (loss) of using the fair value-based method of
accounting.
Effective January 1, 1998 the Company adopted SFAS No. 130, "Reporting
Comprehensive Income." SFAS No. 130 establishes new standards for reporting
comprehensive income and its components. The Company expects that comprehensive
income (loss) will not be materially different from net income (loss).
In June 1997, the Financial Accounting Standards Board issued SFAS No.
131, "Disclosure About Segments of an Enterprise and Related Information." SFAS
No. 131 changes the standards for reporting financial results by operating
segments, related products and services, geographic areas and major customers.
The Company must adopt SFAS No. 131 for the fiscal year ended December 31,
1998. The Company believes that the effect of adoption will not be material.
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<PAGE>
The Company intends to meet its cash requirements over the next 12-15
months from cash generated from operations. Upon the completion of this
Offering, the Company intends to seek to expand and/or restructure its
line-of-credit with its existing institutional lender. An expanded
line-of-credit together with the proceeds of this Offering will be further
utilized for the growth of the Company. Utilizing the proceeds of this
Offering, the Company intends to establish a new operations center and develop
and establish a website. See "Use of Proceeds" and "Business."
Year 2000 Issues
Many existing computer programs use only two digits to identify a year in
the date field. There programs were designed and developed without considering
the impact of the upcoming change in the century. If not corrected, many
computer applications could fail or create erroneous results by or at the year
2000. The Company is currently working to correct its computers and does not
believe that the expenditures will materially adversely impact the Company,
although no assurances can be given in this regard. The Company purchases its
materials from numerous vendors. While the Company has not determined whether
all its vendors will be year 2000 compliant before the problem arises,
Management believes that since it is not dependent on any major vendor, that
its operations will not be materially adversely effected by the failure of a
few vendors to timely correct the problem. However, no assurances can be given
that Management will be correct in its belief.
22
<PAGE>
MARKET INFORMATION
In June 1997, the Company sold Units to the public consisting of two
shares of Common Stock and eight Class A Warrants (the "1997 Units"). The 1997
Units were quoted from June 1997 to November 1997 and the Company's Common
Stock and Class A Common Stock Purchase Warrants ("Class A Warrants") have been
quoted since June 1997 on the OTC Electronic Bulletin Board of the National
Association of Securities Dealers, Inc. ("NASD") under the symbols "KDST" and
"KDSTW, respectively." As of January __, 1999 at 4:00 P.M. Eastern Standard
Time, the last sale price of the Common Stock and Class A Warrants in the
over-the-counter market were $__ and $__, respectively.
The following table reflects the high and low sales prices for the
Company's 1997 Units, Common Stock and Class A Warrants for the periods
indicated as reported by the NASD.
1997 Units
HIGH LOW
----------- -----------
Fiscal Year Ended December 31, 1997:
June 1997 ............................. $ 62.00 $ 14.00
Third Quarter ......................... 62.00 54.00
October through November 1997 ......... 50.00 35.00
Common Stock
Fiscal Year Ended December 31, 1997:
June 1997 ............................. $ 11.25 $ 5.00
Third Quarter ......................... 10.00 4.00
Fourth Quarter ........................ 7.50 5.25
Fiscal Year Ended December 31, 1998:
First Quarter ......................... $ 6.50 $ 3.625
Second Quarter ........................ 5.135 2.375
Third Quarter ......................... 4.5 2.125
Fourth Quarter ........................ 3.25 1.875
Class A Warrants
Fiscal Year Ended December 31, 1997:
June 1997 ............................. $ 6.00 $ 5.00
Third Quarter ......................... 6.53 5.00
Fourth Quarter ........................ 5.47 .63
Fiscal Year Ended December 31, 1998:
First Quarter ......................... $ 2.25 $ .25
Second Quarter ........................ 1.75 .50
Third Quarter ......................... .813 .094
Fourth Quarter ........................ .75 .125
The quotations in the tables above reflect inter-dealer prices without
retail markups, markdowns or commissions.
The Company had 12 record holders as of October 16, 1998 as reported by
its transfer agent (American Stock Transfer & Trust Company). The foregoing
does not include beneficial holders of the Company's Common Stock which are
held in "street name" (i.e. nominee accounts such as Depository Trust Company).
23
<PAGE>
BUSINESS
THE COMPANY
The Company is a specialty direct marketer which publishes two catalogs
with an emphasis on children's hardgood products (i.e., products not primarily
made from fabrics) from prenatal to age three. The Company believes that its
first catalog, "Perfectly Safe, The Catalog For Parents Who Care," is the
nation's only catalog devoted to child safety, child-proofing the home and
safety-related products for the family. The Company has published Perfectly
Safe since 1990, and has circulated over 20 million catalogs and helped to
childproof over 350,000 homes to date. In 1995, the Company introduced its
second catalog, "Jeannie's Kids Club," to broaden its market and to introduce a
new direct marketing concept in children's products. Jeannie's Kids Club offers
parents of young children who become members the opportunity of saving up to
60% compared to the price charged for the same products in other popular
children's catalogs. The current annual membership fee is $18.00 per year. In
July 1997, the Company acquired The Natural Baby Catalog from The Natural Baby
Company, Inc. ("Baby Co.") which specializes in children's products made from
natural fiber for children ages prenatal to age three, and consolidated its
operations with those of the Company.
HISTORY OF DUNCAN HILL
The Company's principal stockholder, Duncan Hill, was organized under Ohio
law in 1977 for the purpose of developing and marketing a designer line of
smoking pipes, tobacco and accessories. Duncan Hill is a publicly-held
corporation controlled (approximately 68%) by William Miller, the Company's
Chief Executive Officer ("W. Miller") and Jeanne E. Miller, President of the
Company ("J. Miller"). In 1980, a Duncan Hill subsidiary, Highland Pipe
Company, acquired the pipe manufacturing business of the Monarch Pipe Co., of
Bristow, Oklahoma, and subsequently changed its name to Monarch Pipe Co.
("Monarch"). In 1984, the business of E.A. Carey Co. of Chicago, a mail order
supplier of smoking products, was purchased by Duncan Hill through its
subsidiary, E.A. Carey of Ohio, Inc. ("Carey"). Subsequently Carey acquired
Monarch from Duncan Hill. In December 1997, Carey reincorporated in Delaware
through a merger with its then newly formed wholly-owned subsidiary, The Havana
Group, Inc. ("Havana"), with Havana as the Surviving Corporation. Havana filed
a Form SB-2 Registration Statement (File No. 333-45863) and completed an
initial public offering of its securities on May 22, 1998 with Fairchild
Financial Group, Inc. as the Managing Underwriter. All references to Havana
include the operations of its predecessor, Carey and its subsidiary, Monarch.
Perfectly Safe, Inc. ("Perfectly Safe") was formed by Duncan Hill in 1990
under Ohio law for the purpose of publishing The Perfectly Safe Catalog, which
was acquired from J. Miller in January 1990. J. Miller purchased the Perfectly
Safe Catalog in 1988 from the catalog's creator. In July, 1995, Perfectly Safe
began to publish its second catalog, Jeannie's Kids Club.
Prior to January 1, 1997, all fulfillment and administrative services of
Perfectly Safe were performed and paid for by Duncan Hill which also provided
similar services to its subsidiary, Havana. Fulfillment services included order
taking, order processing, customer service, warehouse packing and delivery,
telephone contracts and shipping contracts. Fulfillment services were charged
to Perfectly Safe and Havana based on the actual cost. Administrative services
included wages and salaries of officers, accounting, purchasing, executive and
creative/marketing personnel. It also included all leases, contracts, equipment
rentals and purchases, audit, legal, data processing, insurance and building
rent and maintenance. The administrative costs were allocated by Duncan Hill to
Perfectly Safe and Havana based upon the percentage of assets of each operating
subsidiary to the total assets of all operating subsidiaries.
THE REORGANIZATION
Effective June 30, 1996, the Company succeeded to the catalog business of
Jeannie's Kids Club and Perfectly Safe as a result of a reorganization in which
the Company acquired from Duncan Hill the assets and liabilities of Perfectly
Safe, which was dissolved. The Company was incorporated by Duncan Hill under
Delaware law on July 26, 1996 and had no operations prior to the
reorganization.
24
<PAGE>
Effective June 30, 1996, the Company also acquired from Duncan Hill the
assets used by Duncan Hill to perform the telemarketing, order fulfillment,
data processing and administrative functions, so that the Company could perform
those functions itself. The Company then entered into a six-month transition
period ended December 31, 1996 in which telemarketing, data processing, order
fulfillment, and administrative functions were transferred from Duncan Hill to
the Company in a manner consistent with the operational requirements of the
various subsidiaries of Duncan Hill. During this period certain costs were
allocated by Duncan Hill to the Company, and in return, certain costs were
allocated by the Company to Duncan Hill and its other subsidiaries, depending
upon the transition status of the cost area involved. In either case, the costs
were allocated pro rata in a manner consistent with Duncan Hill's practices in
existence prior to June 30, 1996.
The purchase price of Perfectly Safe and the aforementioned Duncan Hill
assets acquired by the Company was $2,613,404, payable as follows: The Company
issued to Duncan Hill a Promissory Note in the principal amount of $366,858
payable in four annual installments commencing June 30, 1997, and bearing
interest at the rate of 8% per annum. The principal amount of the first
installment was $66,858 (which has been paid) and is $100,000 for each ensuing
installment. In addition, the Company issued to Duncan Hill 2,400,000 shares of
the Company's Common Stock valued at $.125 per share and 5,000,000 shares of
the Company's Series A Preferred Stock valued at $.001 per share. Further, the
Company agreed to assume all of the liabilities of Perfectly Safe as of June
30, 1996 in the amount of $1,291,546, as well as Duncan Hill's outstanding
obligations as of June 30, 1996 under its credit facility in the amount of
$650,000. Almost all of the borrowings under the credit facility were used to
support the Company's operations.
SERVICES PROVIDED TO HAVANA
Since 1997, the Company has provided administrative and fulfillment
services to Havana. During 1997, all fulfillment services were contracted and
paid by the Company and charged to Havana based on the actual cost. All
administrative costs were allocated between the Company and Havana based upon
the percentage of assets for each respective operating company to the total
assets of both operating companies with 33% charged to Havana for the period
January 1, 1997 through June 30, 1997 and 21% charged to Havana for the period
July 1, 1997 through December 31, 1997. Duncan Hill incurred certain other
costs, including legal and outside accounting/auditing expenses, which were
allocated by Duncan Hill to the Company and Havana based on the same method and
percentages as described above.
Effective January 1, 1998, Havana entered into an agreement with the
Company whereby the Company will provide administrative functions to Havana at
an annual cost of $206,100 consisting of: $34,000 for accounting and payroll
services, $51,600 for administration and human resource management, $34,900 for
data processing, $32,200 for office equipment and facilities use, $38,100 for
merchandising and marketing services and $15,300 for purchasing services. The
Company will also provide fulfillment services to Havana at a cost of $2.40 per
order processed. The Company calculated these fees based on actual 1997 costs.
Management believes these fees would represent actual costs should Havana
undertake to provide these services itself. Havana is also obligated to pay the
Company an amount equal to 5% of Havana's 1998 pre-tax profits as additional
consideration for the Company providing administrative and fulfillment services
to Havana. See "Certain Transactions."
25
<PAGE>
ACQUISITION OF THE NATURAL BABY CATALOG
In July 1997, the Company acquired the net assets and operations of The
Natural Baby Catalog from Baby Co., a mail order retailer of children's
clothing and toys. This acquisition was funded with the net proceeds of the
Company's initial public offering and has been accounted for as a purchase. The
aggregate purchase price consists of the following:
Cash ........................... $1,444,831
Acquisition costs .............. 276,998
Issuance of 70,000 Kids Stuff
unregistered common shares to
the former owners of Baby Co.. 245,000
Note Payable ................... 100,000
----------
Total purchase price ......... $2,066,829
==========
See "Certain Transactions" and "Notes to Financial Statements." All references
to the Company include the operations acquired by it from Perfectly Safe,
Duncan Hill and Baby Co. unless the context indicates otherwise.
Company's Operations
The Company is a specialty direct marketer which publishes two catalogs
with an emphasis on children's hardgood products (i.e., products not primarily
made from fabrics) from prenatal to age three. Based upon a review of the
catalog trade publication called "SRDS Direct Marketing List Service," the
Company believes that its first catalog, "Perfectly Safe, The Catalog For
Parents Who Care," is the nation's only catalog devoted to child safety,
child-proofing the home, and safety-related products for the family. Since
1990, the Company has published over 20 million Perfectly Safe catalogs and
helped childproof over 350,000 homes.
During July, 1995 the Company introduced "Jeannie's Kids Club" catalog to
broaden its market through a new direct marketing concept in children's
products. Jeannie's Kids Club offers parents who become club members the
opportunity of saving up to 60% compared with the same products in other
popular children's catalogs. The current annual membership fee is $18.00.
In July 1997, the Company acquired from Baby Co. its third catalog, The
Natural Baby Catalog, which specializes in products made of natural fiber for
children from prenatal to age three. The Natural Baby Catalog carries both
hardgood products and softgood products (i.e., products primarily made from
fabrics).
KIDS CATALOG OUTLET
The Company has recently leased a retail store in Canton, Ohio consisting
of approximately 3,300 square feet of space. In November 1998, the Company
completed the installation of leasehold improvements and opened the retail
store. The retail store, which is named "Kids Catalog Outlet," features the
Company's children's clothing and other merchandise which have not been sold
through the Company's catalogs.
MARKET
The Company's market for children's goods is affected by the number of
births as well as women in the work force. The Company believes that a birth
rate of an estimated 3.8 million births per year and the high percentage of
women in the work force place an emphasis on the convenience and value of
shopping by catalog. There can be no assurance that the Company is correct in
such belief.
STRATEGIES
The Company believes that its expertise in the marketing and merchandising
of children's products and its recent acquisition of The Natural Baby catalog
provides the basis for future growth by the use of the following strategies:
26
<PAGE>
Consolidation of the Natural Baby's Catalog into the Operations of the
Company. In 1997, the Company consolidated the warehouse, telemarketing, data
processing and administrative functions of The Natural Baby Catalog into the
operations of the Company.
Expand the Membership of Jeannie's Kids Club. Because Jeannie's Kids Club
offers popular children's products for up to 60% less than other children's
catalogs, the Company believes that there is a substantial market for this type
of home shopping service and an opportunity to substantially increase the
membership of Jeannie's Kids Club, which went from inception in July 1995 to
over 39,000 ;current members. Although there are costs associated with
acquiring the initial $18 membership fee, the $18 annual renewal of such
membership is approximately 90% profit to the Company. Under the terms of the
Jeannie's Kids Club membership, renewals are automatically billed to a member's
credit card prior to the expiration of the membership. The Company intends to
embark upon vigorous marketing efforts to expand Jeannie's Kids Club
membership. See "Business--Marketing."
Maintain the Growth of the Natural Baby Catalog. Revenues of The Natural
Baby Catalog have increased from $1.7 million in 1992 to $6.7 million in 1997.
The Company is satisfied with the performance of The Natural Baby Catalog and
will endeavor to maintain continuity in the merchandising and marketing of this
catalog.
Customer Acquisition Programs. Historically, the Company has relied upon
catalog circulation as the sole method to acquire new customers. Due to the
relatively short life of the acquired customer (prenatal to age three) and the
increasing costs of catalog mailings, the Company intends to test and develop
new methods of new customer acquisition. See "Marketing." The Company believes
that its future growth and profitability will be largely dependent upon the
Company's ability to develop alternative customer acquisition programs. See
"Risk Factors."
Recently Replaced Outdated Data Processing System. During 1997, the
Company replaced its computer hardware at an annual lease cost of $24,000. The
Company expects this upgrade to improve the efficiencies of its operations. The
Company intends to periodically review software upgrade or replacement
anticipated to cost approximately $25,000 annually, on a leased basis, but does
not expect to replace or upgrade the software until future periods.
Catalog Acquisitions. The Company believes that, because of the cost
driven pressures to consolidate, there may be opportunities to acquire other
children's niche catalogs. The Company, however, has no short term plans to
make any further acquisitions and no assurances can be given that any
acquisitions will be successfully completed in the future. See "Risk Factors."
Stabilize the Performance of Perfectly Safe. In the past, many of the
safety products carried by the Perfectly Safe Catalog were generally hard to
find and were not well- stocked by retail stores. That is no longer the case.
See "Business--Competition." As a consequence of this competition, the
inability of the Company to access certain profitable mailing lists following
the Company's introduction of Jeannie's Kids Club, and the decision of the
Company to devote more of its available resources to building the mailing list
and membership base of Jeannie's Kids Club, the future performance of the
Perfectly Safe Catalog will be highly dependent upon the Company's ability to
more efficiently obtain new customers through substantially reduced catalog
mailings.
MERCHANDISING
Through its Perfectly Safe Catalog, the Company emphasizes quality and
safety and provides full price merchandise tested by the Company and backed by
a full satisfaction warranty. The Perfectly Safe Catalog currently consists of
48 pages containing approximately 250 products, principally hardgoods,
approximately 52% of which directly relates to child safety and child proofing
the home, with the balance consisting of safety tested convenience products and
toys. Unlike fashion catalogs which change their mix of products offered based
upon trends and seasonality, Perfectly Safe retains proven products. The
merchandising function for Perfectly Safe is handled by one of the Company's
founders, J. Miller, the author of "The Perfectly Safe Home."
During 1995, the Company used its merchandise expertise in children's
products to launch its Jeannie's Kids Club Catalog. The target market selected
by the Company is upper income parents who want quality, value and convenience
in products for their children. Jeannie's Kids Club Catalog consists of
selected popular quality hardgoods products from other children's catalogs
offered at discounts of up to 60%. Jeannie's Kids Club Catalog currently
consists of 48 pages containing approximately 300 products.
27
<PAGE>
The Natural Baby Catalog emphasizes alternative hard and softgood products
for babies and their parents. The catalog is 80 pages and contains
approximately 400 products, all of which are natural fiber, non-toxic and
environmentally safe. Approximately 28% of The Natural Baby Catalog product
line is exclusive or private label products.
The ratio between hardgoods to softgoods contained in the Company's three
catalogs is approximately 3:1. Substantially all of the products contained in
The Perfectly Safe and Jeannie's Kids Club Catalogs are hardgoods. The Company
continually identifies and tests new product categories that are natural
extensions of the core business of its catalogs. Each product and product
category is measured for its revenue and profitability, with advertising costs
allocated to the product based upon the number of square inches of catalog
pages consumed in its presentation. Products are then rated by profitability
performance with weaker products either removed or altered in their
presentation. Test products are selected based upon the data contained in the
analysis of similar or related products, or sales and feature benefits that the
Company's merchandising team feels will appeal to the demographics of the
intended catalog customer.
MARKETING
The Company serves the children's market at an age where the child changes
rapidly and many of the products become functionally obsolete within months of
the date of purchase. The Company's market for its catalog is primarily from
prenatal to age three. The Company maintains proprietary mailing lists of
households with an average income in excess of $50,000 per year, a proven
history of mail order purchases and a newborn in the house. The number of
customers who purchased in 1997 was over 53,000 for Perfectly Safe, and over
33,000 member and non-member buyers for Jeannie's Kids Club. (Non-member buyers
are not entitled to purchase Jeannie's Kids Club merchandise at a discount.)
The Company also rents mailing lists which meet the Company's criteria from
outside sources, which consist of independent list compilers, as well as
directly from other children's catalogs. The Company's present cost of renting
mailing lists is $.09 per household per use. The Company believes that The
Natural Baby Catalog's mailing list rentals are primarily from certain other
children's catalogs based upon a proven history of recent mail order purchases.
In order to select those households most likely to purchase, the Company
uses a statistical modeling system. The Company believes that the application
of a statistical modeling systems increases the rate of percentage response and
profitability of The Natural Baby Catalog, although there can be no assurance
that the Company is correct in such belief.
The Company uses a selling strategy built around two basic selling
seasons: fall/winter and spring/summer. Each season requires changes of
products appropriate to the time period for the life of the catalog. Catalogs
are mailed on a monthly basis in approximately equal quantities, with clearance
sales advertised on wrappers of selected catalog mailings. Monthly mailing
quantities, however, are subject to significant variations due to changes in
timing and availability of rental mailing lists. In 1997, the catalog mailings
for Perfectly Safe and Jeannie's Kids Club were 2,025,375 and 1,432,716,
respectively.
The Natural Baby Catalog uses a selling strategy based upon three basic
selling seasons: spring, summer and fall/winter. While catalogs are mailed
monthly, lesser quantities are mailed monthly in the period February-June, with
quantities increasing during the fall/winter season. The Natural Baby Catalog
mailed approximately 1,242,000 catalogs during the second half of 1997.
Due to a continuing increase in catalog advertising costs and the
relatively short customer life, the Company believes that it can no longer
afford to use catalog mailings as the sole method of customer name acquisition.
After the completion of the Offering, the Company intends to establish and
develop a website to advertise and sell its products. See "Use of Proceeds."
CUSTOMER SERVICE AND TELEMARKETING
The Company derives approximately 80% of its revenue through orders placed
over the telephone and emphasizes superior customer service and friendliness in
its sales representatives. The Company's method of receipt of payment includes
major credit cards and checks. The Company's return policy is unconditional,
and
28
<PAGE>
provides that if a customer is not satisfied with his or her purchase for any
reason, it may be returned within 30 days for a full refund or exchange. If a
shipping error has occurred the Company will issue call tags to pick up
merchandise shipped in error and will send a corrected shipment.
The Company employs 29 full-time and 8 part-time warehouse customer
service and telemarketing employees at October 12, 1998. During 1996 and 1997,
the Company processed over 708,497 telephone orders, catalog requests and
service requirements. The Company also processes orders, catalog requests and
service requests for Havana. The Company charges Havana $2.40 per order
processed. See "Certain Transactions."
FULFILLMENT AND DELIVERY
The Company's fulfillment and delivery objective is to provide excellent
customer service within a low cost structure. Its fulfillment operations
consist of 23,000 square feet of leased facilities in North Canton, Ohio.
Orders shipped are individually recorded and posted through the use of barcode
scanners, so that sales records and credit card deposits are electronically
posted. The Company's fulfillment center processed approximately 286,000
shipments in 1996, approximately 302,000 shipments in 1997 and approximately
216,000 shipments in the eight months ended August 31, 1998.
INVENTORY/PURCHASING
The Company conducts its purchasing operations at its general offices in
Canton, Ohio. Each catalog contains approximately 300 products. Each product is
reviewed weekly through the use of computerized reports that provide detailed
information regarding inventory value, unit sales, and purchasing delivery
times. Products are ordered as required for "just in time" arrival into the
Company's inventory.
PRODUCT SOURCING
The Company acquires products for resale in its catalogs from numerous
domestic vendors. No single source supplied more than 10% of the Company's
products in 1997. The Company believes that no single source likewise supplied
more than 10% of The Natural Baby Catalog products in 1997.
SEASONALITY
Perfectly Safe's revenues are not significantly impacted by seasonal
fluctuations, as compared to many other retail and catalog operations. The
Perfectly Safe customer is believed to be generally the end user of the product
so purchases are spread throughout the year, rather than being concentrated
between October and December, as are traditional gift purchases. The Company's
limited experience does not indicate that Jeannie's Kids Club's revenues will
be subject to significant seasonal fluctuation. The Natural Baby Catalog,
however, appears to the Company to have a seasonal increase in the fourth
quarter. During the year 1997, The Natural Baby Catalog sales in the fourth
quarter were approximately 34% of The Natural Baby Catalog total 1997 sales.
INSTITUTIONAL CREDIT FACILITY
Effective June 30, 1996, the Company assumed Duncan Hill's liability under
Duncan Hill's $800,000 line of credit facility provided by the United National
Bank and Trust Company to the Company (the "Bank"). The Bank opened an $800,000
line of credit in the Company's name effective December 31, 1996, and
simultaneously terminated Duncan Hill's line of credit. The $650,000 amount
outstanding under Duncan Hill's line of credit was transferred upon termination
to the line of credit opened in the Company's name. Almost the entirety of
those borrowings were used to finance the Company's operations. The line of
credit is for an open term, payable upon demand and is secured by the assets of
the Company, Duncan Hill and Havana. The repayment of the line of credit is
guaranteed by W. Miller and Havana. The amount outstanding under the line of
credit as of January 25, 1999 is approximately $762,000. Interest is charged at
the rate of 1% over prime.
It is the policy of the Bank to review the credit facility annually, and
to require that the Company maintain a zero balance on the credit line for a
period of thirty consecutive days sometime during the course of each year. The
Bank agreed to waive the "zero balance" required for the fiscal 1997 and 1998.
See "Risk Factors."
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<PAGE>
COMPETITION
The mail order catalog and retail clothing outlet industries are highly
competitive. The Company's catalogs compete and its proposed retail clothing
outlet store intends to compete generally with other mail order catalogs and
retail stores, including department stores, specialty stores, discount stores
and mass merchants. Many general and specialty catalog competitors, as well as
retail stores, have substantially greater financial, distribution and marketing
resources than the Company. There are numerous general and specialty catalogs
selling infants' and children's items. However, based upon type of goods
offered, the Company considers its primary hardgood catalog competition, to be
"The Right Start Catalog," "One Step Ahead," "Sensational Beginnings," and
"Hand in Hand." "The Right Start Catalog" and "One Step Ahead" have
substantially larger revenues than the Company, even as adjusted to reflect
consolidation of the revenues of The Natural Baby Catalog.
Other mail order catalogs for children's hardgood products which the
Company believes are competitors to a lesser extent are "Current Children's
Products," "Troll Learn and Play," "Just for Kids," "Childcraft," "Toys to Grow
On," "Hearthsong," "Constructive Playthings," "Music for Little People," "Great
Kids," "The Great Kids Company," "Ultimate Baby Catalog," "San Francisco Music
Box," "Stork Kit/Bundle of Joy," "Play Fair Toys," "Animal Town," "Alvin and
the Chipmunks," "Livonia Catalog," "Plus and Company," "Disney Catalog,"
"Storybook Heirlooms," and "F.A.O. Schwartz." Many of those catalogs have
substantially higher revenues than the Company.
Certain catalogs, such as "Hanna Anderson" and "Biobottoms," compete with
The Natural Baby Catalog in selected product areas, but do not compete across
the entire product line. Other mail order catalogs for children's softgoods
products which the Company believes are competitors of The Natural Baby Catalog
to a lessor extent are "Playclothes," "After the Stork," "Talbot's Kids,"
"Spiegel Children's Clothing," "Brights Creek," "Gymboree," "Eddie Bauer
Children's Fashions," and "Spiegel Kids." The Company believes that many of
these catalogs have substantially higher revenues than The Natural Baby
Catalog.
In the past, many of the safety products carried by the Perfectly Safe
Catalog were generally hard-to-find, lower price items, such as electrical
outlet guards, appliance cord shorteners and appliance door latches. Many of
these items are now stocked by retail stores, discount stores and mass
merchants.
The Company experienced a competitive reaction to its introduction of
Jeannie's Kids Club Catalog which resulted in three other children's catalogs
refusing to exchange with, or rent their mailing lists to, the Company. The
Company has not experienced such a reaction from its acquisition of The Natural
Baby Catalog, although there can be no assurance that such a competitive
reaction will not occur in the future, or that such an occurrence would not
have an adverse effect upon the profitability of The Natural Baby Catalog. See
"Risk Factors."
TRADEMARKS AND TRADE NAMES
The Company owns federally registered trademarks: "Perfectly Safe";
"Perfectly Safe, The Catalog For Parents Who Care" with logo; "Perfectly Safe
Guarantee" with logo; and, logo. The Company recently registered its mark,
"Jeannie's Kids Club," as a unique identification of its Jeannie's Kids Club
Catalog. With the recent acquisition of The Natural Baby Catalog, the Company
acquired the ownership of the trademark "The Natural Baby Co., Inc." with logo,
which is a federally registered trademark. There can be no assurance as to the
extent of the protection that will be provided to the Company as a result of
having such trademarks and trade names or that the Company will be able to
afford the expenses of any complex litigation which may be necessary to enforce
the proprietary rights.
EMPLOYEES
As of December 31, 1998, the Company had 76 full time employees and 9 part
time employees. Of this total, 10 employees or 11% of total full-time
employees, hold positions of managers; 64 employees or 75% of the total, hold
hourly paid positions. The largest single segment of the Company's employment
is in direct labor involving order entry, customer service, and distribution,
where 67 employees or 78% of total Company employment is involved. The work
force is non-union, and the Company does not anticipate a union presence in the
foreseeable future.
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<PAGE>
REGULATORY MATTERS
The Company's business, and the catalog industry in general, is subject to
regulation by a variety of state and federal laws relating to, among other
things, advertising and sales taxes. The Federal Trade Commission regulates the
Company's advertising and trade practices and the Consumer Product Safety
Commission has issued regulations governing the safety of the products which
the Company sells in its catalogs. No assurances can be given that the Company
will comply with all state and federal laws affecting its business in the
future.
Under current law, catalog retailers are permitted to make sales in states
where they do not have a physical presence without collecting sales tax. The
Company believes that it collects sales taxes in states where it is required to
do so. However, since 1987, legislation has been introduced periodically in the
U.S. Congress which would permit states to require sales tax collection by mail
order companies. To date, this proposed legislation has not been passed. Should
Congress, however, pass such legislation in the future, most states could be
expected to require sales tax collection by out-of-state mail order companies.
This would increase the cost of purchasing the Company's products in those
states and eliminate whatever competitive advantage that the Company may
currently enjoy with respect to in-state competitors in terms of sales
taxation, as well as increasing the administrative and overhead costs to the
Company in connection with the collection of such sales tax. There can be no
assurances given that these state sales tax laws will not be changed in the
future to the detriment of the Company. The Company has no claims or regulatory
matters in process or pending as of September 30, 1998. See "Risk Factors."
PRODUCT LIABILITY INSURANCE
Since 1990, the Company's parent, Duncan Hill, has carried product
liability insurance for the Company and Havana. The current coverage is $1
million per occurrence with an aggregate limit of $2 million. The policy is
supplemented by an umbrella liability policy providing coverage of an
additional $1 million per occurrence, $2 million aggregate. The policies are
carried by Duncan Hill, with the Company and Havana as named insureds. The
policies are issued for a period of one year and are currently in effect
through September 17, 1999. The Company may, in the future, procure the same
coverage in its name, alone. Although the Company believes that its present
insurance coverage is sufficient for its current level of business operations,
there is no assurance that such insurance will be sufficient to cover potential
claims, or that adequate, affordable insurance coverage will be available to
the Company in the future. An uninsured successful claim against the Company or
a successful claim in excess of the liability limits or relating to an injury
excluded under the policy could have a material adverse effect on the Company.
See "Risk Factors."
DESCRIPTION OF PROPERTY
The Company's principal offices and telemarketing center are located in
Canton, Ohio. The facility consist of 5,600 square feet and is leased through
September 30, 1999 with an option to renew for a period of one year. The
Company's warehouse and distribution center is located in North Canton, Ohio
and consists of approximately 23,000 square feet, which is leased at the
monthly rate of $13,329 through September 30, 1999, and subject to earlier
termination without penalty at the option of the lessee upon 90 days written
notice to the landlord. All leases are in the name of Duncan Hill and the rent
is charged to the Company and Havana consistent with past practices.
In August 1998, the Company entered into a lease for retail space at 4418
Belden Village Street, Canton, OH, containing approximately 3,400 square feet
of space. This lease, which amends an earlier lease, has a term expiring
December 31, 2002. The Company will pay a monthly rent of approximately $2,250
commencing 30 days after the Company takes possession of the premises and the
landlord notifies the Company that the space is ready for occupancy.
The Company intends to establish and lease a new operations center of
approximately 34,000 square feet in early 1999. This operation center, which is
expected to be located in or about Canton, Ohio, will include customer
relations, order entry and warehouse and distribution operations and will
replace its existing warehouse facility. Moving costs are estimated at $35,000.
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LEGAL PROCEEDINGS
In the normal course of business, the Company may be involved in various
legal proceedings from time to time. Presently, however, the Company is not a
party to any litigation, whether routine or incidental to its business, or
otherwise.
MANAGEMENT
Directors and Executive Officers
The names and ages of the directors and executive officers of the Company
are set forth below:
Name Age Position
- ----------------------- ----- ------------------------------------
William L. Miller (1) 62 Chairman of the Board of Directors,
Chief Executive Officer, Principal
Financial and Accounting Officer,
Secretary
Jeanne E. Miller (1) 51 President, Director
Clark D. Swisher 46 Director
Alfred M. Schmidt 65 Director
- ------------
(1) W. Miller and J. Miller are husband and wife.
The term of office for each of the Company's directors is one year until
their respective successors are elected and shall qualify. Executive officers
serve at the pleasure of the Board of Directors.
WILLIAM L. MILLER, Chairman of the Board, Chief Executive Officer,
Principal Financial and Accounting Officer, Treasurer and Secretary of the
Company since its formation in July 1996. Mr. Miller serves as Chairman of the
Board, President and Chief Executive Officer of Havana since December 1997.
Previously, he was the sole director and an executive officer of E.A. Carey of
Ohio, Inc. from 1984 to December 1997. Mr. Miller had been a director of
Perfectly Safe, Inc. and its vice President since it was formed by Duncan Hill
in 1990 until July 1996. Mr. Miller is President, Founder and a director of
Duncan Hill, a company he formed in 1977, Mr. Miller founded the MBI
Corporation, which designed and developed packaging machinery (1975-78). Mr.
Miller served in executive capacities in the direct marketing industry from
1971 to 1975. He holds a Bachelors Degree. in Mechanical Engineering from
Purdue University and a Masters Degree in Business Administration from Indiana
University.
JEANNE E. MILLER has been a director of the Company since July 1996, and
its President since January 1998. Previously, she served as Executive Vice
President of the Company from July 1996 until January 1998. Since July 1996,
Mrs. Miller had been a director of Perfectly Safe, Inc., and its President
since its formation in 1990 until July 1996. Mrs. Miller co-founded Duncan Hill
in 1977 and has been a director and its Vice President since 1977. Mrs. Miller
is the author of the child safety book THE PERFECTLY SAFE HOME, published by
Simon and Schuster in 1991 and has appeared on network television to speak on
that subject. Mrs. Miller served as Vice President and a director of Carey and
Highland Pipe Company, both of which are subsidiaries of Duncan Hill, from 1984
to 1996.
CLARK D. SWISHER is a director of the Company since July 1996. Mr. Swisher
has been Vice President of the Employee Benefits Division of the
Leonard-McCormick Agency, a general insurance agency, since 1984. Mr. Swisher's
professional background includes membership in the National Association of Life
Underwriters and the University of Akron Business Advisory Council. Mr. Swisher
has been a director of Duncan Hill since 1995.
ALFRED M. SCHMIDT, JR., a director of the Company since September 1998 is
President of The Schmidt Group International, Inc., direct marketing/management
consultants. Mr. Schmidt was the entrepreneur owner of New Hampton General
Store, a consumer catalog company. Mr. Schmidt was a Vice President of Hanover
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House, then the first Vice President of Brooks Brothers, a national chain of
apparel specialty stores with 65 stores in the U.S. and six in Japan. Mr.
Schmidt subsequently was the first Vice President of Direct Marketing of
Bergdorf Goodman, N.Y., a designer apparel retailer, and Senior vice President
in charge of catalogs at the Franklin Mint, Franklin Center, Pennsylvania. Mr.
Schmidt finished his public career as President of Myron Manufacturing Company,
a direct marketing firm selling advertising specialty products by catalog,
direct mail, and telemarketing. For the past twelve years, Mr. Schmidt has led
his company in catalog consulting with clients from Europe to the Pacific Rim.
Mr. Schmidt is a member of the Direct Marketing Association, the 1982 winner of
the prestigious Henry Hoke Award and the DMA Echo Leader Award. He was a
founder of the Catalog Leader's Group. Mr. Schmidt has served on the DMA
Catalog Council, The Direct Marketing Educational Council, and the Direct
Marketing Idea Exchange. Mr. Schmidt has been a contributing writer to Catalog
Age Magazine, Catalog Business, Direct Marketing Magazine and D.M. News. Mr.
Schmidt has addressed audiences extensively in the U.S. as well as Europe and
the Far East.
Alfred M. Schmidt, Jr. is an independent director and the Company intends
to appoint a second independent director as the fifth director. There is no
assurance, however, that the Company will be able to attract a suitable
candidate at this stage of its development.
Upon the appointment of one additional unaffiliated director, the Board of
Directors intends to establish a Compensation Committee and an Audit Committee.
The Audit Committee, which would consist of at least a majority of directors
who are not affiliated with the Company, will among other things, make
recommendations to the Board of Directors regarding the independent auditors
for the Company, approve the scope of the annual audit activities of the
independent auditors and review audit results and have general responsibility
for all auditing related matters. The Compensation Committee would consist
entirely of directors who are not affiliated with the Company. The Compensation
Committee would review and recommend to the Board of Directors the compensation
structure for the Company's officers and other management personnel, including
salary rates, participation in incentive compensation and benefit plans, fringe
benefits, non-cash perquisites and other forms of compensation. The Committee
would also administer the Company's 1997 Long-Term Stock Incentive Plan.
The Representative has been granted by the Company the right to designate
one director to serve on the Company's Board of Directors for a period of three
years from June 26, 1997. As of the date of this Prospectus, no such person has
been designated.
Compensation of Directors
The Company pays its directors who are not also employees of the Company
$500 for each meeting attended and reimburses such directors for travel and
other expenses incurred by them in connection with attending Board of Directors
meetings. Directors are eligible to participate in 1997 Stock Incentive Plan.
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Executive Compensation
The following table provides a summary compensation table with respect to
the compensation of W. Miller, the Company's Chief Executive Officer (CEO), and
J. Miller, the Company's President for the past 3 years.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
Long Term Compensation
-------------------------------------
Annual Compensation Awards Payouts
------------------------------------ -------------------------- ---------
(a) (b) (c) (d) (e) (f) (g) (h) (i)
Other All
Name Annual Resricted Other
and Compen- Stock LTIP Compen-
Principal sation Award(s) Number of Payouts sation
Position Year Salary ($) Bonus ($) ($) (1) ($) (2) Options (3) ($) ($)
- ------------------------- ------ ------------ ----------- --------- ----------- ------------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
W. Miller, 1998 125,000 -0- 4,000 -0- -0- -0- -0-
Chief Executive Officer 1997 125,000 -0- 4,000 -0- 100,000 -0- -0-
1996 100,000 -0- -0- -0- -0- -0- -0-
J. Miller, 1998 94,000 -0- 4,000 -0- 100,000 -0- -0-
President 1997 90,000 -0- 4,000 -0- 100,000 -0- -0-
1996 65,000 -0- -0- -0- -0- -0- -0-
</TABLE>
- ------------
(1) Does not include the value of leased automobiles used almost exclusively
for the Company's business or key man life insurance on the lives of each
of W. Miller and J. Miller in the amount of $1,000,000, payable to the
Company in the event of death. W. Miller is provided with a leased
automobile by Havana with a monthly cost of approximately $1,100 and J.
Miller is provided with a leased automobile by the Company at a monthly
cost of approximately $800. The foregoing table does not include the value
of any personal use of such automobiles.
(2) Does not include 2,400,000 shares of the Company's Common Stock and
5,000,000 shares of the Company's Series A Preferred Stock issued to
Duncan Hill in connection with a reorganization.
(3) See "Employment Contracts" for a description of these options.
OPTION GRANTS TABLE
The information provided in the table below provides information with
respect to individual grants of the Company's stock options during fiscal 1998
of each of the executive officers named in the summary compensation table
above. The Company did not grant any stock appreciation rights during 1998.
Option Grants in Last Fiscal Year
<TABLE>
<CAPTION>
Potential
Realizable Value at
Assumed Annual
Rates of Stock Price
Appreciation
Individual Grants for Option Term (2)
- ------------------------------------------------------------------------ --------------------
(a) (b) (c) (d) (e) (f) (g)
% of
Total
Options/
Granted to
Options Employees Exercise Expira-
Granted in Fiscal Price tion
Name (#) Year (1) ($/Sh) Date 5% ($) 10% ($)
- ------------------- --------- ----------- ---------- ----------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
W. Miller ......... -0- N/A N/A N/A N/A N/A
J. Miller ......... 100,000 100% 2.50 Oct. 2008 157,000 398,000
</TABLE>
- ------------
(1) The percentage of total options granted to the Company's employees in
fiscal year is based upon options granted to officers, directors and
employees.
(2) The potential realizable value of each grant of the Company's options
assumes that the market price of its Common Stock appreciates in value
from the date of grant to the end of the option term at annualized rates
of 5% and 10%, respectively, and after subtracting the exercise price from
the potential realizable value.
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<PAGE>
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FY-END OPTION VALUES
The information provided in the table below provides information with
respect to each exercise of the Company's stock option during fiscal 1998 by
each of the executive officers named in the summary compensation table and the
fiscal year end value of the Company's unexercised options.
<TABLE>
<CAPTION>
(a) (b) (c) (d) (e)
Value of
Number of Unexercised
Shares Unexercised In-the-Money
Acquired Options at Options
on Value FY-End (#) at FY-End($)
Exercise Realized Exercisable/ Exercisable/
Name (#) ($)(1) Unexercisable Unexercisable(1)
- --------------------------- ---------- ---------- ---------------- -----------------
<S> <C> <C> <C> <C>
William L. Miller ......... -0- -0- 50,000/50,000 -0-
Jeanne E. Miller .......... -0- -0- 150,000/50,000 44,000/-0-
</TABLE>
- ------------
(1) The aggregate dollar values in column (c) and (e) are calculated by
determining the difference between the fair market value of the Common
Stock underlying the options and the exercise price of the Company's
options at exercise or fiscal year end (i.e. $2.94 per share),
respectively. In calculating the dollar value realized upon exercise, the
value of any payment of the exercise price is not included.
Incentive Compensation Plan. The Company's Incentive Compensation Plan
(the "Plan") is designed to motivate employee participants to achieve the
Company's annual strategic goals. Eligibility for participation in the Plan is
limited to the executive officers of the Company, and such other employees of
the Company as may be designated by the Board of Directors from time to time.
For each fiscal year of the Company, the Board will establish a bonus pool not
to exceed 10% of the Company's operating income. The Board intends to establish
its first bonus pool for 1999. The amount of such pool with respect to any year
shall be determined subsequent to the end of that year upon the determination
of the Company's operating income for that year. Each participant in the Plan
is eligible to receive from the bonus pool an annual award of up to 50% of the
participant's base salary. Upon its establishment, the Compensation Committee
shall be responsible for recommending to the Board of Directors performance
objectives and awards for participants. Until the Compensation Committee is
established and includes at least two outside directors, no compensation will
be awarded under the Plan. W. Miller and J. Miller are expected to be the
principal participants in the Plan and they control the election of all
directors. Payouts are to be determined annually following determination of the
Company's fiscal year-end results. The Plan is subject to amendment of
termination at any time, but no such action may adversely affect any rights or
obligations with respect to any awards theretofore made under the Plan. As of
the date of this Prospectus, no compensation has been paid under the Plan.
1997 Stock Incentive Plan. In March 1997, the Company's majority
stockholder approved the adoption of the Company's 1997 Long-Term Incentive
Plan (the "Incentive Plan"). Under the Incentive Plan, the Compensation
Committee of the Board of Directors, which the Company intends to establish
after it has two outside directors, may grant stock incentives to key employees
and the directors of the Company pursuant to which a total of 400,000 shares of
Common Stock may be issued; provided, however, that the maximum amount of
Common Stock with respect to which stock incentives may be granted to any
person during any calendar year shall be 20,000 shares, except for a grant made
to a recipient upon the recipients initial hiring by the Company, in which case
the number shall be a maximum of 40,000 shares. These numbers are subject to
adjustment in the event of a stock split and similar events. Stock incentive
grants may be in the form of options, stock appreciation rights, stock awards
or a combination thereof.
Options granted under the Incentive Plan may be either "incentive stock
options," which qualify for special tax treatment under Section 422 of the
Internal Revenue Code (the "Code"), or nonstatutory stock options, which do not
qualify. Incentive stock options may only be granted to persons who are
employees of the Company. Options will expire at such time as the Compensation
Committee determines, provided that no stock option may be exercisable later
than ten years from its grant, except that the maximum term of any incentive
stock option granted to a person who owns, directly or indirectly, 10% or more
of the combined voting power of the Company's capital stock (a "10%
Shareholder") shall be five years. If an optionee ceases to be an employee or
director by reason of death, incapacity of retirement, the option shall
terminate fifteen months after the optionee
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<PAGE>
ceases to be an employee. If an optionee ceases to be an employee because of
resignation with the consent of the Compensation Committee, the option will
terminate three months after the optionee ceases to be an employee. If an
optionee ceases to be an employee or director for any other reason, the option
will expire thirty days after the optionee ceases to be an employee.
The option price per share is determined by the Compensation Committee,
except for incentive stock options which cannot be less than 100% of the fair
market value of the Common Stock on the date such option is granted or less
than 110% of such fair market value if the optionee is a 10% shareholder.
Payment of the exercise price may be made in cash, or unless otherwise provided
by the Compensation Committee in shares of Common Stock delivered to the
Company by the optionee or by the withholding of shares issuable upon exercise
of the option or in a combination thereof. Options cannot be exercised until
six months after the date that the option is granted or such later time
determined by the Compensation Committee. Each option shall be exercised in
full or in part. Options are not transferable other than by will or the laws of
descent and distribution, and may be exercised during the life of the employee
or director only by him or her. No options may be granted under the Incentive
Plan after March 27, 2007. However, any options outstanding on March 27, 2007
will remain in effect in accordance with their terms.
The Incentive Plan also provides for the granting of stock appreciation
rights ("SAR"), which entitle the holder to receive upon exercise an amount in
cash and/or stock which is equal to the appreciation in the fair market value
of the Common Stock between the date of the grant and the date of exercise. The
number of shares of Common Stock to which a SAR relates, the period in which it
can be exercised, and other terms and conditions shall be determined by the
Compensation Committee, provided however, that such expiration date shall not
be later than ten years from the date of the grant. SARS are not transferable
other than by will or the laws of descent and distribution, and may be
exercised during the life of the grant only by the grantee. The SARS are
subject to the same rules regarding expiration upon a grantee's cessation of
employment or directorship, as pertains to options, discussed above.
The Compensation Committee may also award shares of Common Stock ("stock
awards") in payment of certain incentive compensation, subject to such
conditions and restrictions as the Committee may determine. All shares of
Common Stock subject to a stock award will be valued at not less than 100% of
the fair market value of such shares on the date the stock award is granted.
The number of shares of Common Stock which may be granted as a stock award in
any calendar year may not exceed 80,000.
The Incentive Plan will be administered by the Compensation Committee,
which has the authority to prescribe, amend and rescind rules and regulations
relating to the Plan, to accelerate the exercise date of any option, to
interpret the Plan and to make all necessary determinations in administering
the Plan.
The Incentive Plan will remain in effect until such time as it is
terminated by the Board of Directors. The Incentive Plan may be amended by the
Board of Directors upon the recommendation of the Compensation Committee,
except that, without stockholder approval, the Plan may not be amended to:
increase the number of shares subject to issuance under the Plan; change the
class of persons eligible to participate under the Plan; withdraw the
administration of the Plan from the Compensation Committee; or, to permit any
option to be exercised more than ten years after the date it was granted.
As of the date of this Prospectus, the Compensation Committee has not been
formed and, accordingly, no stock incentives have been granted under the
Incentive Plan.
EMPLOYMENT AGREEMENTS
The Company has entered into separate five-year employment agreements with
W. Miller and J. Miller, effective January 1, 1997, pursuant to which W. Miller
is serving as Chief Executive Officer of the Company and J. Miller served as
its Executive Vice President. In January 1998, the Company elected J. Miller
President of the Company. In October 1998, the Company and J. Miller entered
into an amended agreement. The employment agreements. as amended, provide for
an annual base salary of $125,000 for W. Miller and $105,000 for J. Miller,
subject to annual review for increase by the Company. The employment agreements
also provide for the eligibility of these executives to receive annual cash
bonuses under the Company's Incentive Compensation Plan discussed above. Each
of these executives is provided with automobiles, at the Company's expense, for
their
36
<PAGE>
exclusive use, the make and model of which is to be mutually agreed upon by the
executive and the Company, from time to time. These automobiles are used almost
exclusively for business purposes. Each of these executives is also to be
reimbursed for certain personal expenses up to $6,500, which amount shall be
subject to increase to pay for any personal income tax liability should such
reimbursements be deemed taxable to the executive. (No such personal expenses
were incurred in 1997.) Each of these executives is also entitled to
participate in any employee benefit plan which the Company may create in the
future. The Company has also agreed to maintain in force, at its expense,
during the term of the employment agreements, life insurance for the benefit of
each of the executives in an amount equal to twice the base salary of W. Miller
and five times the base salary of J. Miller. (As of September 30, 1998, the
Company has not been requested by W. Miller and/or J. Miller to take out such
insurance.) Pursuant to the employment agreements, each of these executives has
agreed not to compete with the Company during employment and for a period of
one year following termination of employment and has further agreed to maintain
as confidential, the Company's proprietary information.
Each of the employment agreements provide for severance compensation to be
paid in all instances other than the executive's termination for cause. In the
event that the executive becomes disabled or dies, the Company, in the case of
W. Miller, is required to pay an amount equal to the product of (x) and (y)
where (x) is the sum of the executive's salary and bonus paid in the prior year
multiplied by 2.99 and (y) the percentage of the employment agreement's five
year term remaining from the date of death of disability; provided, however,
that such severance compensation will not be less than the officer's salary and
bonus paid in the year prior to the year in which the officer dies or becomes
disabled. The foregoing benefit is provided in the employment agreement of J.
Miller, but only in the event of disability. Each executive is also entitled to
be paid severance compensation in an amount equal to the sum of the executive's
salary and bonus paid in the prior year multiplied by 2.99 in the event that
the executive elects to terminate the employment agreement upon the Company's
material breach of the employment agreement or upon the Company's reduction of
the executive's responsibilities, duties, functions or dignity of position
resulting from a change of control, or otherwise. Assuming that severance
payments were due to each of the executive officers as of the date of the
Prospectus under the immediately preceding sentence, the amount of the
severance payment to each of W. Miller and J. Miller would be $299,000 and
$194,350, respectively. Each executive is further entitled to be paid severance
compensation in the amount equal to the sum of the executive's salary and bonus
paid in the last year of the executive's employment agreement in the event that
the executive is not rehired upon terms acceptable to him or her or, in the
case of W. Miller, a successor chief executive officer is hired with W.
Miller's consent to replace W. Miller prior to the expiration of the term of
his employment agreement. Additionally, any executive entitled to severance
compensation, above, will also be entitled to participate in any
Company-sponsored employee health benefit plan at the Company's expense, for a
maximum of eighteen months from the date of termination. See "Risk Factors."
Each of W. Miller and J. Miller was granted under their respective
employment agreements an option to purchase 100,000 shares of the Company's
Common Stock, which option vests 25% on each of the first four anniversary
dates commencing January 1, 1998, regardless of whether the executive is
employed on such dates by the Company. The vested options will be immediately
exercisable and will expire on January 1, 2007. The exercise price of the
options shall be $5.00 per share, subject to downward adjustments in the
exercise price if the Company meets certain performance goals. J. Miller also
received options to purchase an additional 100,000 shares at a purchase price
of $2.50 per share in October 1998. These options have a term of ten years and
are immediately exercisable.
W. Miller is permitted under his agreement to devote such time to managing
the affairs of the various other Duncan Hill entities as he deems appropriate,
and to retain any compensation that he receives from those entities for
providing those services. See "Risk Factors."
The Company also provides W. Miller and J. Miller and all other employees
with health insurance on a non-discriminatory basis. The Company intends to
provide its executive officers and employees with certain fringe benefits and
may, in the future, offer additional stock or cash incentive bonus plans, and
other employer benefits on such amounts and upon such conditions as the
Company's Board of Directors may, in its sole discretion, determine.
POTENTIAL CONFLICTS OF INTEREST
W. Miller is a co-founder, Chairman of the Board of Directors and Chief
Executive Officer of Havana, Duncan Hill and the Company. W. Miller's
employment agreement with the Company provides that he shall be
37
<PAGE>
permitted to devote such time to managing Duncan Hill and Havana as he deems
appropriate. Accordingly, W. Miller will not be devoting his full-time
attention to managing the operations of the Company. Thus, conflicts of
interest could potentially develop (i) to the extent that W. Miller is not able
to devote his full-time and attention to a matter that would otherwise require
the full-time and attention of a business chief executive officer, (ii)
involving competition for business opportunities, (iii) involving transactions
between the Company and its affiliated companies; and (iv) due to the
relationship between W. Miller and J. Miller as husband and wife and as
directors and officers of the Company. The Company has not adopted any
procedure for dealing with such conflicts of interest, except that the
Company's Board of Directors has adopted a policy that all new transactions
between the Company and Duncan Hill, Havana or any other affiliated company
must be approved by at least a majority of the Company's disinterested
directors, if any. Currently, the Company has no disinterested directors and
Duncan Hill and W. Miller control the election of the directors. See "Risk
Factors."
LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS
The Company's Certificate of Incorporation contains a provision
eliminating the personal monetary liability of directors to the extent allowed
under the General Corporation Law of the State of Delaware. Under the
provision, a stockholder is able to prosecute an action against a director for
monetary damages only if he can show a breach of the duty of loyalty, a failure
to act in good faith, intentional misconduct, a knowing violation of law, an
improper personal benefit or an illegal dividend or stock repurchase, as
referred to in the provision, and not "negligence" or "gross negligence" in
satisfying his duty of care. In addition, the provision applies only to claims
against a director arising out of his role as a director or not, if he is also
an officer, his role as an officer or in any other capacity or to his
responsibilities under any other law, such as the federal securities laws. The
provision, however, does not affect the availability of seeking equitable
relief against a director of the Company. In addition, the Company's Bylaws
provide that the Company will indemnify its directors, officers, employees and
other agents to the fullest extent permitted by Delaware law. Insofar as
indemnification for liabilities arising under the Securities Act of 1933, as
amended (the "Securities Act") may be permitted to directors, officers and
controlling persons of the Company pursuant to the foregoing provisions, or
otherwise, the Company has been advised that, in the opinion of the Securities
and Exchange Commission, such indemnification is against public policy as
expressed in the Securities Act and is, therefore, unenforceable. See "Risk
Factors."
38
<PAGE>
PRINCIPAL STOCKHOLDERS
The following table sets forth as of January 25, 1999, certain information
with respect to the beneficial ownership of Common Stock and Series A Preferred
Stock by each person or entity known by the Company to be the beneficial owner
of 5% or more of such shares, each officer and director of the Company, and all
officers and directors of the Company as a group.
<TABLE>
<CAPTION>
Shares of Shares of Series A
Common Stock Preferred Stock
Beneficially Owned Beneficially Owned
--------------------------------- --------------------------------
Name and Address of
Beneficial Owner(1)(7) Number Percent(2) Number Percent(3)
- ----------------------------------------------- ------------------ ------------ ------------------ -----------
<S> <C> <C> <C> <C>
Duncan Hill ................................... 2,251,075(4) 64.1% 5,000,000(4) 100%
William L. Miller and Jeanne E. Miller(4) ..... 2,401,075(5) 65.6 5,000,000(6) 100
Clark D. Swisher (8) .......................... 7,500 .2 -0- -0-
Alfred M. Schmidt (8) ......................... 7,500 .2 -0- -0-
All Officers and Directors as a Group
(4 Persons) .................................. 2,396,075(7) 64.4% 5,000,000(6) 100%
</TABLE>
- ------------
(1) Beneficial ownership as reported in the table above has been determined in
accordance with Rule 13d-3 of the Securities Exchange Act. Accordingly,
except as noted, all of the Company's securities over which the officers
and directors and nominees named, or as a group, directly or indirectly
have, or share voting or investment power, have been deemed beneficially
owned.
(2) Calculated based upon 3,512,856 shares of Common Stock outstanding without
giving effect to the possible exercise of outstanding Class A Warrants..
(3) Calculated based upon 5,000,000 shares of Series A Preferred Stock
outstanding. The holders of the Series A Preferred Stock are entitled to
one vote for each share held of record on all matters submitted to a vote
of the stockholders. The Series A Preferred Stock has no conversion rights
or rights to participate in dividend payments.
(4) The Millers will be deemed to beneficially own all of Duncan Hill's shares
for purposes of Rule 13d-3 of the Exchange Act based upon his controlling
ownership of its common stock. The Millers together control approximately
68% of Duncan Hill.
(5) Includes the Miller's deemed beneficial ownership of 2,251,075 shares of
Common Stock and options to purchase 150,000 shares.
(6) Represents the Miller's deemed beneficial ownership of 5,000,000 shares of
Series A Preferred Stock, the record holder of which is Duncan Hill.
(7) All addresses are c/o Kids Stuff, Inc., 4450 Belden Village Street, N.W.,
Suite 406, Canton, Ohio 44718.
(8) Messrs. Swisher and Schmidt have options to purchase 30,000 shares each,
which options vest in four equal annual installments beginning in 1999.
The table includes only options vesting in 1999.
39
<PAGE>
CERTAIN TRANSACTIONS
RULE 504 SHARES
In connection with its initial capitalization, the Company sold,
commencing October 1996, an aggregate of 1,300,000 shares of Common Stock to
eight private investors at a purchase price of $.125 per share. Seven of these
investors were customers of the Representative, the Managing Underwriter of the
Company's initial public offering and this offering. There were no other
affiliations or relationships between the seven private investors and either
the Company or the Representative. The eighth investor, who was not a customer
of the Representative and has never had any relationship or affiliation with
the Representative, had once been engaged to provide financial consulting
services to Duncan Hill. This investor has no other relationships or
affiliations with the Company.
In June 1997, the Company repurchased an aggregate of 857,144 shares of
Common Stock from five of the customers of the Representative at a repurchase
price of $.125 per share. This repurchase was required by the National
Association of Securities Dealers (the "NASD") as a condition to approving the
compensation to be received by the Representative in connection with the
Company's initial public offering. The Company's repurchase payment was
evidenced by five promissory notes issued by it in the aggregate amount of
$107,143, which notes have been paid. The notes bore interest at the rate of 8%
per annum commencing the date that each investor initially subscribed for his
Rule 504 Shares.
The remaining 442,856 shares which were not required to be repurchased are
still outstanding. Such 442,856 shares were issued under Rule 504 of Securities
Act (the "504 Shares") and are freely tradeable except for 100,000 of the Rule
504 Shares which are subject to a "lock-up" agreement with the Representative
until June 26, 1999. Any actual future sales of the Rule 504 Shares (or the
potential thereof) may have an adverse effect on the market price of the
Company's securities.
BRIDGE LOAN
In October 1996, the Company borrowed an aggregate of $200,000 (the
"Bridge Loan") from three private investors, two of whom were customers of the
Representative, and the third of whom was introduced by the Representative to
the Company. These three private investors are Clinthill Investments, Ltd.,
Kurt Campbell and M&M Specialties, Inc. The Bridge Loan, which has been paid,
bore interest at the rate of 8% per annum.
As originally structured, $75,000 of the face amount of the Bridge Loan
was convertible into 1,500,000 Warrants upon the effective date of the public
offering. Subsequently, the Bridge Loan was restructured, at the request of the
Representative so that the Bridge Lenders would be paid the entire $200,000
face amount of the Bridge Loan, in cash, plus accrued interest at 8% per annum,
at the closing of the Company's initial public offering in July 1997, and would
waive the right to convert $75,000 of the face amount of the loan into
1,500,000 Warrants.
ACQUISITION OF THE NATURAL BABY CATALOG
In May, 1996, Baby Co. contracted to sell its catalog business, The
Natural Baby Catalog, to Duncan Hill on behalf of the Company, at which time
Duncan Hill paid Baby Co. $25,000 towards the purchase price. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
regarding a description of the terms and conditions of the Company's
acquisition of The Natural Baby Catalog from Baby Co. In connection with this
transaction, the Company did not engage an independent appraiser to evaluate
whether or not the Company has agreed to pay a purchase price in excess of The
Natural Baby Catalog's fair value. However, Management is of the opinion that
the purchase price paid by the Company was not in excess of the fair market
value of the Natural Baby Catalog. In addition, because the Company did not
complete the acquisition on or before January 3, 1997, as initially agreed to,
the Company agreed to pay an additional $350,000 (the "Additional Amount") for
the acquisition in order to obtain an extension until no later than April 30,
1997 to complete the acquisition. $250,000 of the Additional Amount was
reflected in the $250,000 Convertible Note described in "Management's
Discussion and Analysis and Results of Operations" and $100,000 of the
Additional
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<PAGE>
Amount is reflected in the cash payments made in July 1997 described in
"Management's Discussion and Analysis and Results of Operations." Baby Co.'s
demands for the increase in the purchase price was predicated upon the strong
growth of The Natural Baby Catalog's business since Baby Co. initially agreed
to sell its catalog business in May, 1996.
GENERAL
Reference is made to "Business" and "Management's Discussion and Analysis
and Results of Operations" for a description of various related party
transactions involving the Company, Havana and Duncan Hill.
It is the policy of the Company that future transactions with affiliates
will be on terms no less favorable than could be obtained from unaffiliated
parties.
DESCRIPTION OF SECURITIES
UNITS
Each Unit consists of one share of Series 1 Preferred Stock and two
Preferred Warrants.
PREFERRED STOCK
The Board of Directors has the authority, without further action by the
stockholders, to issue up to 10,000,000 shares of Preferred Stock in one or
more series and to fix the rights, preferences, privileges and restrictions
thereof, including dividend rights, conversion rights, voting rights, terms of
redemption, liquidation preferences and the number of shares constituting any
series or the designation of such series. The issuance of Preferred Stock could
adversely affect the voting power of holders of Common Stock and could have the
effect of delaying, deferring or preventing a change in control of the Company.
The Company has no present plans to issue any shares of Preferred Stock other
than the Series A Preferred Stock and Series 1 Preferred Stock discussed below.
SERIES A PREFERRED STOCK
As of the date of this Prospectus, the Company has issued and outstanding
5,000,000 shares of Series A Preferred Stock, $.001 par value, all of which are
owned by Duncan Hill. The holders of the Series A Preferred Stock are entitled
to one vote for each share held of record on all matters submitted to a vote of
the stockholders. The Series A Preferred Stock and the Common Stock held by
Duncan Hill will enable it and the Millers to maintain control of the Company
subsequent to the completion of this Offering. The Series A Preferred Stock is
not subject to redemption and has no conversion rights or rights to participate
in dividend payments. In the event of any voluntary or involuntary liquidation,
dissolution or winding up of the affairs of the Company, each share of Series A
Preferred Stock has a liquidation preference of $.001 per share. See "Risk
Factors."
SERIES 1 PREFERRED STOCK
The Board of Directors intends to file before the date of this Prospectus,
a Certificate of Designation designating 1,500,000 shares of Preferred Stock as
"Series 1 Preferred Stock" (the "Series 1 Preferred Stock" or "Preferred
Shares") with the following rights, preferences and privileges:
Dividends. Each Preferred Share is entitled to cumulative annual dividends
of $. (i.e. 9% of the liquidaiton preference per share) payable on the last
business day of April of each year commencing April 2000 with a record date to
be fixed annually by the Board of Directors. The first dividend payment shall
be pro rated for the period from the date of issuance until December 31, 1999.
Unpaid dividends will accumulate and be payable before payment of dividends on
the Common Stock. The Company may, at its option, pay dividends in shares of
Common Stock, in lieu of cash. Shares used for such purpose will be valued at
the average closing sales price of the Common Stock on the OTC Electronic
Bulletin Board, NASDAQ or an Exchange during the ten trading days ending on the
tenth day before the dividend payment date.
41
<PAGE>
Conversion. Commencing 18 months from the date of this Prospectus, each
share of Series 1 Preferred Stock is convertible into ________ shares of Common
Stock. In lieu of the issuance of fractional shares, all amounts will be
rounded-up to the nearest whole number.
Redemption. Commencing 18 months from the date of this Prospectus, the
Preferred Shares are redeemable at the option of the Company, on not less than
30 days' prior written notice to registered holders at the redemption price of
$7.20 per share plus accumulated dividends.
Voting Rights. Preferred Shares are entitled to one vote per share voting
together with the Common Stock as one class, except as otherwise provided by
the Delaware Corporation Law.
Preference on Liquidation. The Series 1 Preferred Stock will be entitled
to a preference on liquidation equal to $___ per share plus accumulated unpaid
dividends.
No Sinking Fund. The Company is not required to provide for the retirement
or redemption of the Series 1 Preferred Stock through the operation of a
sinking fund.
The conversion ratio, redemption price and liquidation preference per
share are subject to adjustment to protect against dilution in the event of
Preferred Stock splits, combinations, subdivisions and reclassifications. The
foregoing is a summary of the material terms of a Preferred Stock Agency
Agreement between the Company and American Stock Transfer & Trust Company.
PREFERRED WARRANTS
Commencing ______, 2000 and expiring _______, 2002, (the "Expiration
Date") each Preferred Warrant entitles the registered holder to purchase one
share of Series 1 Preferred Stock at an exercise price of $6.00 per share.
Preferred Warrants may be exercised by surrendering to the warrant agent the
Preferred Warrants and the payment of the exercise price in United States funds
by cash or certified or bank check. No fractional shares of Series 1 Preferred
Stock will be issued in connection with the exercise of Preferred Warrants.
Upon exercise, the Company will pay to the holder the value of any such
fractional shares based upon the market value of the Series 1 Preferred Stock
at such time. The Company is required to keep available a sufficient number of
authorized shares of Series 1 Preferred Stock for issuance to permit exercise
of the Preferred Warrants.
In the event that the Company notifies the holders of Series 1 Preferred
Stock of its intention to redeem the Series 1 Preferred Stock, it shall after
giving the holders of the Preferred Warrants at least 30 days prior written
notice, contemporaneously redeem the Preferred Warrants at $1.20 per Warrant,
subject to the holders right to exercise the Preferred Warrants and convert the
underlying Series 1 Preferred Stock during such notice period. See "Risk
Factors."
In the event a holder of Preferred Warrants fails to exercise the
Preferred Warrants prior to the Expiration Date, the Preferred Warrants will
expire and the holder thereof will have no further rights with respect to the
Preferred Warrants. A holder of Preferred Warrants will not have any rights,
privileges or liabilities as a stockholder of the Company. In the event of the
liquidation, dissolution or winding up of the Company, holders of the Preferred
Warrants are not entitled to participate in the distribution of the Company's
assets.
The exercise price of the Preferred Warrants and the number of shares
issuable upon exercise of the Preferred Warrants will be subject to adjustment
to protect against dilution in the event of Preferred Stock dividends,
Preferred Stock splits, combinations, subdivisions and reclassifications. No
assurance can be given that the market price of the Company's Series 1
Preferred Stock will exceed the exercise price of the Preferred Warrants at any
time during the exercise period.
Purchasers of the Preferred Warrants will have the right to exercise the
Preferred Warrants to purchase shares of Series 1 Preferred Stock only if a
current prospectus relating to such shares is then in effect and only if the
shares are qualified for sale under the securities laws of the jurisdictions in
which the various holders of the Preferred Warrants reside. The Company has
undertaken to maintain the effectiveness of the Registration Statement of which
this Prospectus is a part or to file and maintain the effectiveness of another
registration statement so as to permit the purchase of the Series 1 Preferred
Stock underlying the Preferred Warrants, but there can be no assurance that the
Company will be able to do so. The Preferred Warrants may be deprived of any
value if this Prospectus or another prospectus covering the shares issuable
upon the exercise thereof is not kept effective or if such Series 1 Preferred
Stock is not qualified or exempt from qualification in the jurisdictions in
which the holders of the Preferred Warrants reside.
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<PAGE>
For the life of the Preferred Warrants, a holder thereof is given the
opportunity to profit from a rise in the market price of the Series 1 Preferred
Stock that may result in a dilution of the interest of other stockholders. In
addition, the Company may find it more difficult to raise capital if it should
be needed for the business of the Company while the Preferred Warrants are
outstanding. At any time when the holders of Preferred Warrants might be
expected to exercise them, the Company would, in all likelihood, be able to
obtain additional capital on terms more favorable than those provided in the
Preferred Warrants.
Commencing on or after _______, 2000, persons who desire to exercise their
Preferred Warrants must complete the subscription form on the reverse side of
their warrant certificate(s) and forward same together with the exercise price
to American Stock Transfer & Trust Company, 40 Wall Street, New York, NY 10005.
Series 1 Preferred Stock certificates will be issued as soon as practicable
after the funds have cleared but no later than the fifth business day after
exercise of their Warrants.
The foregoing is a summary of certain provisions of the Preferred Warrant
Agreement under which each Preferred Warrant will be issued. The Preferred
Warrant Agreement dated _________, 1999 between American Stock Transfer & Trust
Company and the Company has been filed as an Exhibit to the Registration
Statement of which the Prospectus is a part.
COMMON STOCK
The Company has 25,000,000 shares of authorized Common Stock. As of the
date of this Prospectus, 3,512,856 shares of Common Stock were issued and
outstanding.
Holders of Common Stock are entitled to one vote for each share held of
record on all matters submitted to a vote of stockholders. Stockholders do not
have cumulative voting rights. Subject to preferences that may be applicable to
any then outstanding Preferred Stock, holders of Common Stock are entitled to
receive ratably such dividends as may be declared from time to time by the
Board of Directors out of funds legally available therefor. See "Dividend
Policy." In the event of a dissolution, liquidation or winding-up of the
Company, holders of Common Stock are entitled to share ratably in all assets
remaining after payment of liabilities and the liquidation preference of any
then outstanding Preferred Stock. Holders of Common Stock have no right to
convert their Common Stock into any other securities. The Common Stock has no
preemptive or other subscription rights. There are no redemption or sinking
fund provisions applicable to the Common Stock. All outstanding shares of
Common Stock are duly authorized, validly issued, fully paid and nonassessable.
CLASS A WARRANTS
Commencing June 26, 1998 and expiring June 26, 2002, (the "Expiration
Date") each Warrant entitles the registered holder to purchase one share of
Common Stock at an exercise price of $5.00 per share. Class A Warrants may be
exercised by surrendering to the warrant agent the Class A Warrants and the
payment of the exercise price in United States funds by cash or certified or
bank check. No fractional shares of Common Stock will be issued in connection
with the exercise of Class A Warrants. Upon exercise, the Company will pay to
the holder the value of any such fractional shares based upon the market value
of the Common Stock at such time. The Company is required to keep available a
sufficient number of authorized shares of Common Stock for issuance to permit
exercise of the Class A Warrants.
The Company may redeem the Class A Warrants at a price of $.05 per Warrant
at any time after they become exercisable and prior to the Expiration Date by
giving not less than 30 days' written notice mailed to the record holders if
the closing bid price of the Common Stock has been at least $14.40 on each of
the 20 consecutive trading days ending on the 5th day prior to the date on
which the notice of redemption is given.
In the event a holder of Class A Warrants fails to exercise the Class A
Warrants prior to the Expiration Date, the Class A Warrants will expire and the
holder thereof will have no further rights with respect to the Class A
Warrants. A holder of Class A Warrants will not have any rights, privileges or
liabilities as a stockholder of the Company. In the event of the liquidation,
dissolution or winding up of the Company, holders of the Class A Warrants are
not entitled to participate in the distribution of the Company's assets.
43
<PAGE>
The exercise price of the Class A Warrants and the number of shares
issuable upon exercise of the Class A Warrants will be subject to adjustment to
protect against dilution in the event of stock dividends, stock splits,
combinations, subdivisions and reclassifications. No assurance can be given
that the market price of the Company's Common Stock will exceed the exercise
price of the Class A Warrants at any time during the exercise period.
The Company has agreed with the Representative that, commencing June 26,
1998, the Company will pay to the Representative a warrant solicitation fee
(the "Warrant solicitation Fee") equal to four percent (4%) of the exercise
price of the Warrants exercised, a portion of which may be re-allowed to any
dealer who solicited the exercise to the extent not inconsistent with the
guidelines of the NASD and the rules and regulations of the Securities and
Exchange Commission. Such Warrant Solicitation Fee will be paid to the
Representative if (a) the market price of the Common Stock on the date that any
Warrants are exercised is greater than the exercise price of the Warrant; (b)
the exercise of such Warrant was solicited by the Representative or other NASD
members; (c) prior specific written approval for exercise is received from the
customer if the Warrant is held in a discretionary account; (d) disclosure of
this compensation agreement is made prior to or upon exercise of such Warrant;
(e) solicitation of the exercise is not in violation of Regulation M of the
Exchange Act; and (f) solicitation of the exercise is in compliance with NASD
Notice to Members 81-38. Unless granted an exemption by the Securities and
Exchange Commission from Regulation, the Representative and any solicitation
broker-dealers are prohibited from engaging in any market-making activities
with regard to the issuer's securities for the period from one or five business
days prior to any solicitation of the exercise of Warrants until the later of
termination of such solicitation activity or the termination (by waiver or
otherwise) of any right that the Representative and soliciting broker-dealers
may have to receive a fee for the exercise of Warrants following such
solicitation. As a result, the Representative and soliciting broker-dealers may
be unable to continue to provide a market for the Company's securities during
certain periods while the Warrants are exercisable.
Purchasers of the Class A Warrants will have the right to exercise the
Class A Warrants to purchase shares of Common Stock only if a current
prospectus relating to such shares is then in effect and only if the shares are
qualified for sale under the securities laws of the jurisdictions in which the
various holders of the Class A Warrants reside. The Company has undertaken to
maintain the effectiveness of the Registration Statement of which this
Prospectus is a part or to file and maintain the effectiveness of another
registration statement so as to permit the purchase of the Common Stock
underlying the Class A Warrants, but there can be no assurance that the Company
will be able to do so. The Class A Warrants may be deprived of any value if
this Prospectus or another prospectus covering the shares issuable upon the
exercise thereof is not kept effective or if such Common Stock is not qualified
or exempt from qualification in the jurisdictions in which the holders of the
Class A Warrants reside.
For the life of the Class A Warrants, a holder thereof is given the
opportunity to profit from a rise in the market price of the Common Stock that
may result in a dilution of the interest of other stockholders. In addition,
the Company may find it more difficult to raise capital if it should be needed
for the business of the Company while the Class A Warrants are outstanding. At
any time when the holders of Class A Warrants might be expected to exercise
them, the Company would, in all likelihood, be able to obtain additional
capital on terms more favorable than those provided in the Class A Warrants.
Persons who desire to exercise their Class A Warrants must complete the
subscription form on the reverse side of their warrant certificate(s) and
forward same together with the exercise price to American Stock Transfer &
Trust Company, 40 Wall Street, New York, NY 10005. Common Stock certificates
will be issued as soon as practicable after the funds have cleared but no later
than the fifth business day after exercise of their Warrants.
The foregoing is a summary of certain provisions of a Warrant Agreement
under which each Warrant will be issued. The Warrant Agreement dated June 26,
1997 between American Stock Transfer & Trust Company and the Company has been
filed as an Exhibit to the Registration Statement of which the Prospectus is a
part.
UNDERWRITERS' PURCHASE OPTION
In connection with the Company's initial public offering, the Company sold
to the Underwriters, for an aggregate purchase price of $25, the Underwriters'
Purchase Option which entitles the holders to purchase
44
<PAGE>
60,000 shares of Common Stock at an exercise price of $9.90 per share. The
Underwriters' Purchase Option is exercisable for four years commencing June 26,
1998 and expiring June 26, 2002. Any profits realized by the Underwriters upon
the sale of the Units issuable upon exercise of the Underwriters' Purchase
Option may be deemed to be additional underwriting compensation. The exercise
price and the number of shares underlying the Underwriters' Purchase Option are
subject to adjustment in certain events to prevent dilution. For the life of
the Underwriters' Purchase Option, the holders thereof are given, at a nominal
cost, the opportunity to profit from a rise in the market price of the Common
Stock with a resulting dilution in the interest of other stockholders. The
Company may find it more difficult to raise capital for its business if the
need should arise while the Underwriters' Purchase Option is outstanding. At
any time when the holders of the Underwriters' Purchase Option might be
expected to exercise it, the Company would probably be able to obtain
additional capital on more favorable terms. The Registration Statement of which
this Prospectus is a part includes the registration of the 60,000 shares of
Common Stock underlying the Underwriters' Purchase Option. However, this
Prospectus does not include the exercise of the Underwriters' Purchase Option
or the resale of the underlying shares since there is no present intent to
exercise the Underwriters' Purchase Option or to resell the underlying Shares.
The Company will file a post-effective amendment to include the exercise of the
Underwriters' Purchase Option and the resale of the Underlying Shares at such
time as there is a present intention to exercise the Underwriters' Purchase
Option.
Transfer Agent and Registrar
The transfer agent, registrar and Warrant Agent for the Company's Common
Stock, Class A Warrants, Series 1 Preferred Stock and Preferred Warrants is
American Stock Transfer & Trust Company, 40 Wall Street, New York, NY 10005.
UNREGISTERED SHARES ELIGIBLE FOR IMMEDIATE AND FUTURE SALE
In connection with obtaining equity bridge financing, the Company has
outstanding 442,856 shares of Common Stock under Rule 504 (the "Rule 504
Shares") of the Securities Act. Of the 442,856 shares, 100,000 of the Rule 504
Shares are subject to "lock-up" by the Representative and cannot be sold or
transferred until June 26, 1999, unless otherwise permitted by the
Representative, at which time these shares will be freely tradeable without any
necessity for their registration under the Securities Act. The balance of the
Rule 504 Shares, i.e., 342,856 shares, are not subject to the Representative's
"lockup" and are freely tradeable without any necessity for their registration
under the Securities Act. The sale of the Rule 504 Shares by each of the
holders thereof may be effected in one or more transactions that may take place
over-the-counter, including ordinary broker's transactions, previously
negotiated transactions or through sales to one or more dealers for resale of
such shares as principals at market prices prevailing at the time of sale, at
prices related to such prevailing market prices, or at negotiated prices. Usual
and customary or specifically negotiated brokerage fees or commissions may be
paid by the Rule 504 Stockholders in connection with sales of such securities.
The holders of the Rule 504 Shares have paid significantly less for their
shares of Common Stock ($.125 per share) than the June 1997 initial public
offering price of each of the two shares of Common Stock and eight Class A
Warrants comprising a $12 Unit and may elect to sell their Rule 504 Stock at
prices below the market value of the Common Stock on the date of sale. Such
sales (or the potential therefor) may have an adverse effect on the market
price of the Company's securities.
In addition, Duncan Hill, holds 2,251,075 shares of the Company's Common
Stock and 5,000,000 shares of the Company's Series A Preferred Stock
(collectively the "Restricted Securities"). These securities held by Duncan
Hill are "restricted securities" as that term is defined by Rule 144 of the
Securities Act. Such securities may only be sold in compliance with the
provision of Rule 144 unless otherwise registered by the Company. Furthermore,
Duncan Hill has agreed with the Representative not to sell or transfer the
Restricted Securities until June 26, 1999 unless earlier permitted by the
Representative. While there are no agreements, arrangements or understandings
with Duncan Hill with respect to the early release of the lock-up, previously
the Representative has released the lock-up for Duncan Hill for a total of
148,925 shares, which have been sold. In making its decision to release the
lock-up, the Representative evaluates the totality of the facts and
circumstances that exist at the time the decision is made, including, without
limitation, market demand for the securities and trading volume. The possible
or actual future sales of the Restricted Securities under Rule 144 may have an
adverse effect on the market price of the Company's Common Stock should a
public trading market develop for such shares.
45
<PAGE>
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated), including persons who may be deemed to be
"affiliates" of the Company as that term is defined under the 1933 Act, is
entitled to sell within any three-month period a number of shares beneficially
owned for at least one year that does not exceed the greater of (i) one percent
of the then-outstanding shares of Common Stock or (ii) the average weekly
trading volume in the Common Stock during the four calendar weeks preceding
such sale. Sales under Rule 144 are also subject to certain requirements as to
the manner of sale, notice and the availability of current public information
about the Company. However, a person who is not an affiliate and has
beneficially owned such shares for at least two years is entitled to sell such
shares without regard to the volume, manner of sale or notice requirements. No
predictions can be made as to the effect, if any, that future sales of shares
under Rule 144 or the availability of shares for sale will have on the
then-prevailing market, if any. Sales of substantial amounts of Common Stock
pursuant to Rule 144 or otherwise may adversely affect the then-prevailing
market price of the Units, Common Stock and the Class A Warrants, should a
public trading market for such securities develop.
UNDERWRITING
Subject to the terms and conditions contained in the underwriting
agreement between the Company and the Underwriters named below, for which
Fairchild Financial Group, Inc. is acting as Representative, (the "Underwriting
Agreement", a copy of which is filed as an exhibit to the Registration
Statement of which this Prospectus forms a part), the Company has agreed to
sell to each of the Underwriters named below, and each of such Underwriters has
severally agreed to purchase, the number of Units set forth opposite its name.
Underwriters Number of Units
- ----------------------------------------- ----------------
Fairchild Financial Group, Inc. .........
TOTAL ................................. 400,000
=======
The Underwriters are committed, subject to certain conditions precedent,
to purchase all of the Units offered hereby if any such Units are purchased.
The Units are being offered by the Underwriter subject to prior sale, when, as
and if delivered to, and accepted by, the Underwriters and subject to the
approval of certain conditions.
The Representative has advised the Company that the Underwriters propose
to offer the Units to the public at the offering price set forth on the cover
page of this Prospectus and that the Underwriters may allow certain dealers who
are members in good standing of the National Association of Securities Dealers,
Inc. ("NASD") concessions of $___ per Unit. After the initial public
distribution is completed, the offering price and concessions may be changed by
the Representative.
The Underwriters may engage in over-allotment, stabilizing transactions,
syndicate covering transactions and penalty bids in accordance with Regulation
M under the Exchange Act. Over-allotment involves syndicate sales in excess of
the offering size, which creates a syndicate short position. Stabilizing
transactions permit bids to purchase the underlying security so long as the
stabilizing bids do not exceed a specific maximum. Syndicate covering
transactions involve purchases of the Units in the open market after the
distribution has been completed in order to cover syndicate short positions.
Penalty bids permit the Underwriters to reclaim a selling concession from a
syndicate member when the Units originally sold by such syndicate member are
purchased in a syndicate covering transaction to cover syndicate short
positions. Such stabilizing transactions, syndicate covering transactions and
penalty bids may cause the price of the Units to be higher than they would
otherwise be in the absence of such transactions. These transactions may be
effected on the OTC Electronic Bulletin Board assuming the Company is
successful in listing the Units on such system. See "Risk Factors."
The Company has granted the Underwriters an option, exercisable for 45
days from the date of this Prospectus, to purchase up to 60,000 Units at the
public offering price less the underwriting discount set forth on the cover
page of this Prospectus. The Underwriters may exercise this option solely to
cover over-allotments in the sale of the Units.
46
<PAGE>
The Company has agreed to pay the Representative a non-accountable expense
allowance of 3% of the gross proceeds of the Units sold in the offering
(including the Over-Allotment Option).
In connection with the Company's Initial Public Offering which was
completed in July 1997 with the Representative, the Company entered into an
agreement with the Representative to retain it as a financial consultant for a
period of three years expiring in June 2000. At the closing of the Offering,
the Company has agreed to enter into a one year extension to the financial
consulting agreement with the Representative and to compensate the
Representative with a fee payable in full in advance at the closing of the
Offering in an amount equal to 2% of the gross proceeds of the Offering
(including the Over-Allotment Option). If the Company shall, during the term of
its Consulting Agreement with the Representative, enters into any agreement or
understanding with any person or entity introduced by the Representative
involving: (i) the sale of all or substantially all of the assets and
properties of the Company; (ii) the merger or consolidation of the Company; or
(iii) the acquisition by the Company of the assets or stock of another business
entity, which agreement or understanding is thereafter consummated, the
Company, upon such consummation, shall pay to the Representative an amount
equal to the following percentages of the consideration paid by the Company in
connection with such transaction: 5% of the first $1,000,000 or portion
thereof, of such consideration; 4% of the next $1,000,000 or portion thereof,
of such consideration; 3% of the next $1,000,000 or portion thereof, of such
consideration; and 2% of such consideration in excess of the first $3,000,000
of such consideration. The fee payable to the Representative will be paid in
cash at the closing of the transaction.
The Underwriting Agreement provides for reciprocal indemnification between
the Company and the Underwriters against certain civil liabilities, including
liabilities under the Securities Act of 1933.
The Company has agreed to sell to the Representative or its designees, at
a price of $.001 per warrant, a total of 40,000 warrants (the "Underwriters'
Warrants") to purchase 40,000 Units identical to the Units sold in the
Offering, except that the exercise price of the Preferred Warrants included in
the Units is at $9.90 per share. The Underwriters' Warrants will be exercisable
at a price of $___ per Unit (i.e., 165% of the initial public offering price
per Unit) for a maximum period of four years commencing one year after the date
hereof, and they will not be transferable for one year after the date hereof
except to Underwriters, selected dealers and officers and partners thereof. Any
profit realized upon any resale of the Underwriters' Warrants and underlying
securities may be deemed to be additional underwriters' compensation. The
Company has agreed to register (or file a post-effective amendment with respect
to any registration statement registering) the Underwriters' Warrants and their
underlying securities under the Securities Act at its expense on one occasion,
and at the expense of the holders thereof on another occasion, upon the request
of a majority of the holders thereof. The Company has also agreed to certain
"piggy-back" registration rights for the holders of the Underwriters' Warrants
and their underlying securities.
The Underwriters have informed the Company that they do not expect sales
of the Units to be made to discretionary accounts to exceed 2% of the Units
offered hereby.
For a description of the Representative's right to receive a warrant
solicitation fee under certain circumstances in connection with the exercise of
the Company's outstanding Class A Warrants, see "Description of Securities --
Class A Warrants."
Pricing of the Offering
The public offering of the Units has been determined by negotiations
between the Company and the Representative. Among the factors considered in
determining the offering price were the Company's financial condition and
prospects, the industry in which the Company is engaged, certain financial and
operating information of companies engaged in activities similar to those of
the Company and the general market condition of the securities markets. Such
price does not necessarily bear any relationship to any established standard or
criteria of value based upon assets, earnings, book value or other objective
measures.
SEC investigation involving the Representative
The Company has been advised by the Representative (formerly named VTR
Capital, Inc.) that the Securities and Exchange Commission ("SEC") has issued a
formal order directing a private investigation by the staff
47
<PAGE>
of the SEC. Such order empowers the SEC staff to investigate whether, from June
1995 to the present, the Representative and certain other persons and/or
entities may have engaged in fraudulent acts or practices in connection with
the purchase or sale of securities of certain other companies in violation of
Sections 10(b) and 15(c)(1) of the Securities Exchange Act of 1934, as amended
(the "Exchange Act") and Section 17(a) of the Securities Act. These acts or
practices include whether the Representative and certain other brokers or
dealers effected transactions or induced transactions by making untrue
statements of material fact and whether the Representative and certain others
have engaged in manipulative, deceptive or other fraudulent devices. The formal
order also concerns whether the Representative and certain others who have
agreed to participate in a distribution have violated Rule 10b-6 of the
Exchange Act by having bid for or purchased securities for accounts in which it
had a beneficial interest or which is the subject of such distribution. As of
February 1, 1999, the Representative understands that the SEC investigation is
ongoing. The Representative cannot predict whether this investigation will
result in any type of enforcement action against the Representative. See "Risk
Factors."
NASD Enforcement Action Against the Representative
On February 20, 1998, the NASD Department of Enforcement ("NASDR") filed
an administrative complaint against the Representative, a principal of the firm
and two traders from other broker-dealers. The complaint alleges that the
Representative, acting through Edward S. McCune ("McCune") its then
President-Chief Executive Officer-Sole Owner, acquired and distributed certain
securities of another company ("issuer") as "statutory underwriters" without
registration under Section 5 of the Securities Act representing approximately
28% of the available float in the security in purported violation of NASD Rule
2110 and failed to provide customers with an offering prospectus. The complaint
further alleges that at the same time the Representative and McCune (the
"Respondents") (i) entered into a consulting agreement with the issuer to
arrange for the sale of certain of its securities at a "designated price"
slightly below the market at the time; (ii) sold short to retail customers the
issuer's securities at prices substantially above the designated price; (iii)
acquired from five short term investors securities of the issuer to cover the
Representative's large short inventory position in what had previously been an
inactive or thinly traded market for the issuer's securities; (iv) illegally
bid for, purchased, or induced others to purchase the issuer's securities in
the secondary market while a distribution was still in progress; and (v)
continued to make a market in the corporation's stock all in purported
violation of Section 10(b) of the Exchange Act and Rule 10b-6 thereunder and
NASD Rules 2110 and 2120. Moreover, the complaint alleges that the Respondents
caused the aforementioned alleged unregistered distribution without filing the
necessary documents with the NASD's Corporate Financing Department and failed
to disclose to customers alleged unfair excessive and unreasonable compensation
received from the distribution in violation of NASD Rules 2110 and 2710. In
addition, the complaint alleged that the Respondents fraudulently manipulated
the market for the issuer's common stock by arbitrarily increasing the share
price and by artificially inflating the reported trade volume through "wash"
and "matched" or circular trading so as to create the appearance of an active
market in the stock in purported violation of Section 10(b) of the Exchange Act
and Rule 10b-5 thereunder and NASD Rules 2110 and 2120.
On November 19, 1998, the Respondents submitted an Offer of Settlement to
NASDR. On December 11, 1998, the NASDR's Office of Hearing Officers issued an
Order of Acceptance of the Offer of Settlement. Under the terms of the Offer,
the Respondents consented solely for the purpose of that proceeding, without
admitting or denying the allegations of the complaint, to the entry of findings
of facts and violations consistent with the allegations of the complaint and to
the imposition of sanctions upon the understanding that the Order of Acceptance
would become part of their permanent disciplinary record and could be
considered in future actions brought by the NASDR. In its Order of Acceptance,
the NASDR made findings that the Respondents violated Section 10(b) of the
Securities Exchange Act of 1934 and Rules 10b-5 and 10b-6 thereunder and NASD
Conduct Rules 2110, 2120 and 2710 and ordered that the Respondents be
sanctioned as follows: the Representative was censured, required to pay
restitution/disgorgement to customers in the total amount (including interest)
of $300,000 and fined $100,000 jointly and severally with McCune; McCune was
also censured and suspended for eight months from associating with any NASD
member firm. In a related matter, on or about October 12, 1998, NASDR accepted
a letter of Acceptance, Waiver and Consent from the Respondent's trader (David
W. Noble) pursuant to which Mr. Noble, without admitting or denying the alleged
violations, consented to findings that
48
<PAGE>
during the period April 19, 1995 through April 24, 1995, Mr. Noble aided and
abetted the Respondents and in so doing violated NASD Conduct Rules 2110, 2120
and 3110 and Sections 10(b) and 17(a) of the Securities Exchange Act of 1934
and Rules 10b-5 and 17a- 3 thereunder. Mr. Noble also consented to a censure, a
15 business day suspension and a $10,000 fine.
LEGAL MATTERS
The validity of the Securities being offered hereby will be passed upon
for the Company by Lester Morse P.C., Suite 420, 111 Great Neck Road, Great
Neck, NY 11021. Lester Morse P.C. has represented the Representative in
connection with other matters unrelated to the Offering. Lampert & Ference, 135
West 50th Street, 20th Fl., New York, NY 10020, has acted as counsel to the
Underwriters in connection with the Offering.
EXPERTS
The financial statements of Kids Stuff, Inc. as of December 31, 1997 and
December 31, 1996 and for the three years ended December 31, 1997, 1996 and
1995 have been audited by Hausser +Taylor LLP, independent auditors, and are
included herein in reliance upon the authority of said firm as experts in
auditing and accounting.
AVAILABLE INFORMATION
The Company is subject to the information requirements of the Exchange Act
and in accordance therewith files reports and other information with the
Commission. Reports and other information filed by the Company can be inspected
and copied (at prescribed rates) at the Commission's Public Reference section,
450 Fifth Street, N.W., Washington, D.C. 20549, as well as the New York
Regional Office, Seven World Trade Center, New York, NY. The Commission
maintains a Web site on the Internet (http://www.sec.gov) that contains
reports, proxy and information statements and other information regarding
issuers that file electronically with the commission through the Electronic
Data Gathering, Analysis, and Retrieval System (EDGAR).
The Company has filed with the Commission a registration statement on Form
SB-2, File No. 333-61463, which registration statement is also a post-effective
amendment to the Company's Registration Statement on Form SB-2, File No.
333-19423 (herein together with all amendments and exhibits referred to as the
"Registration Statement") under the Securities Act, of which this Prospectus
forms a part. This Prospectus does not contain all of the information set forth
in the registration Statement, certain parts of which have been omitted in
accordance with the rules and regulations of the Commission. For further
information, reference is made to the Registration Statement. Statements
contained in this Prospectus regarding the contents of any contract or other
document referred to herein or therein are not necessarily complete, and in
each instance, reference is made to the copy of such contract or other document
filed as an exhibit to the Registration Statement or such other document, each
such statement being qualified by such reference.
49
<PAGE>
INDEX
<TABLE>
<CAPTION>
Page
-----
<S> <C>
Independent Auditors' Report ............................................................. F-2
Balance Sheets -- September 30, 1998 (Unaudited) and December 31, 1997 and 1996 .......... F-3
Statements of Operations -- Nine Months Ended September 30, 1998 and 1997 (Unaudited) and
Years Ended December 31, 1997, 1996 and 1995 ............................................ F-5
Statements of Stockholders' Equity -- Nine Months Ended September 30, 1998 (Unaudited) and
Years Ended December 31, 1997, 1996 and 1995 ............................................ F-6
Statements of Cash Flows - Nine Months Ended September 30, 1998 and 1997 (Unaudited) and
Years Ended December 31, 1997, 1996 and 1995 ............................................ F-7
Notes to Financial Statements ............................................................ F-9
</TABLE>
F-1
<PAGE>
To the Stockholders and Board of Directors
Kids Stuff, Inc.
Canton, Ohio
We have audited the accompanying balance sheets of Kids Stuff, Inc. as of
December 31, 1997 and 1996, and the related statements of operations,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1997. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Kids Stuff, Inc. as of
December 31, 1997 and 1996, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 1997, in
conformity with generally accepted accounting principles.
As discussed in Note A to the financial statements, Kids Stuff, Inc. was
incorporated during 1996 and prior to June 30, 1996, had no operations. The
results of operations and cash flows prior to June 30, 1996 included in the
accompanying financial statements are those of the predecessor company,
Perfectly Safe, Inc., and certain assets of Duncan Hill Company, Ltd., the
parent company of both Perfectly Safe, Inc. and Kids Stuff, Inc.
HAUSSER + TAYLOR LLP
Canton, Ohio
February 10, 1998
F-2
<PAGE>
Kids Stuff, Inc.
Balance Sheets
<TABLE>
<CAPTION>
December 31,
-----------------------------
September 30, 1998 1997 1996
-------------------- ------------- -------------
(Unaudited)
<S> <C> <C> <C>
ASSETS
CURRENT ASSETS
Cash ................................. $ 329,157 $ 101,894 $ 248,648
Accounts receivable .................. 392,570 335,013 165,779
Inventories .......................... 1,585,009 1,389,012 496,395
Deferred catalog expense ............. 542,103 259,592 277,469
Due from affiliates .................. 18,252 580,965 --
Prepaid expenses ..................... 53,539 21,798 169,789
---------- ---------- ----------
Total Current Assets ............... 2,920,630 2,688,274 1,358,080
PROPERTY & EQUIPMENT
Data processing equipment ............. 231,317 207,378 95,894
Leasehold Improvements ................ 20,013 19,909 --
Vehicles .............................. 9,089 9,089 --
Machinery and equipment ............... 101,755 93,366 83,360
Furniture and fixtures ................ 147,018 129,314 98,448
---------- ---------- ----------
509,192 459,056 277,702
Less accumulated depreciation ......... 228,698 193,634 164,093
---------- ---------- ----------
280,493 265,422 113,609
OTHER ASSETS, net of accumulated
amortization
Goodwill ............................. 1,078,091 1,119,425 --
Customer List ........................ 420,833 474,940 --
Catalog .............................. 124,535
---------- ---------- ----------
1,623,459 1,594,365 --
---------- ---------- ----------
$4,824,582 $4,548,061 $1,471,689
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<PAGE>
Kids Stuff, Inc.
Balance Sheets
<TABLE>
<CAPTION>
December 31,
---------------------------------
September 30, 1998 1997 1996
-------------------- --------------- ---------------
(Unaudited)
<S> <C> <C> <C>
LIABILITIES AND STOCKHOLDERS'
EQUITY
CURRENT LIABILITIES
Current portion long-term debt -- related
parties ................................ $ -- $ 100,000 $ 266,858
Accounts payable ......................... 2,115,465 1,617,204 1,102,311
Line of credit ........................... 732,000 671,000 650,000
Due to affiliates ........................ -- -- 137,070
Customer advances and other .............. 13,499 137,193 5,630
------------ ------------ ------------
Total Current Liabilities .............. 2,860,964 2,525,397 2,161,869
LONG-TERM DEBT-RELATED PARTIES,
NET OF CURRENT PORTION ................... -- 200,000 300,000
STOCKHOLDERS' EQUITY
Preferred stock -- $.001 par value,
10,000,000 shares authorized, 5,000,000
issued and outstanding, voting, without
dividend ............................... 5,000 5,000 --
Common stock -- $.001 par value,
25,000,0000 shares authorized,
3,512,856, 3,512,856 and 3,700,000
issued and outstanding in 1998, 1997 and
1996, respectively ..................... 3,513 3,513 3,700
Additional paid -- in capital ............ 3,216,734 3,216,734 458,800
Retained earnings (deficit) .............. (1,261,630) (1,402,583) (1,452,680)
------------ ------------ ------------
Total Stockholders' Equity ............. 1,963,617 1,822,664 (990,180)
------------ ------------ ------------
$ 4,824,582 $ 4,548,061 $ 1,471,689
============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-4
<PAGE>
Kids Stuff, Inc.
Statements of Operations
<TABLE>
<CAPTION>
Nine Months Ended September
30, Years Ended December 31,
------------------------- -----------------------------------------
1998 1997 1997 1996 1995
---------- ---------- ----------- ---------- ----------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Sales ....................................... $9,834,362 $6,606,678 $11,016,601 $6,638,995 $5,724,337
Cost of Sales ............................... 5,806,678 3,851,136 6,812,422 4,204,321 3,540,487
---------- ---------- ----------- ---------- ----------
Gross Profit ................................ 4,027,684 2,755,542 4,204,179 2,434,674 2,183,850
Selling Expenses ............................ 2,728,343 2,066,353 2,966,929 2,193,219 1,998,502
General and Administrative Expenses ......... 1,151,856 686,954 1,077,041 712,515 684,615
---------- ---------- ----------- ---------- ----------
Income (Loss) From Operations ............... 147,485 2,235 160,209 (471,060) (499,267)
Net Other (Expense) ......................... (6,531) (97,496) (110,112) (50,580) (37,725)
---------- ---------- ----------- ---------- ----------
Net Income (Loss) ........................... $ 140,954 $ (95,261) $ 50,097 $ (521,640) $ (536,992)
========== ========== =========== ========== ==========
Basic and Diluted Income (Loss) Per Share $ .04 $ (.03) $ .01 $ (.14) $ (.15)
========== ========== =========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-5
<PAGE>
Kids Stuff, Inc.
Statements of Stockholders' Equity
<TABLE>
<CAPTION>
Common Preferred Paid-In Retained
Stock Stock Capital Earnings Total
---------- ----------- -------------- --------------- --------------
<S> <C> <C> <C> <C> <C>
Balance -- January 1, 1995 ..................... $ 2,400 $ -- $ 297,600 $ 234,503 $ 534,503
Prior Period Adjustment ........................ -- -- -- (628,551) (628,551)
------- ------ ---------- ------------ ----------
Balance - January 1, 1995, As Restated ......... $ 2,400 $ -- $ 297,600 (394,048) (94,048)
Net Loss ....................................... -- -- -- (536,992) (536,992)
------- ------ ---------- ------------ ----------
Balance - December 31, 1995 .................... 2,400 -- 297,600 (931,040) (631,040)
Sale of 1,300,000 Common Shares To
Bridge Lenders ................................ 1,300 -- 161,200 -- 162,500
Net Loss ....................................... -- -- -- (521,640) (521,640)
------- ------ ---------- ------------ ----------
Balance - December 31, 1996 .................... 3,700 -- 458,800 (1,452,680) (990,180)
Issuance of 5,000,000 Preferred Shares to
Duncan Hill ................................... -- 5,000 -- -- 5,000
Repurchase of 857,144 Common Shares
From Bridge Lenders ........................... (857) -- (106,286) -- (107,143)
Net Proceeds From the Issuance of 600,000
Common Shares in Public Offering .............. 600 -- 2,619,290 -- 2,619,890
Issuance of 70,000 Unregistered Common
Shares for Purchase Of Natural Baby ........... 70 -- 244,930 -- 245,000
Net Income ..................................... -- -- -- 50,097 50,097
------- ------ ---------- ------------ ----------
Balance -- December 31, 1997 ................... 3,513 5,000 3,216,734 (1,402,583) 1,822,664
Net Income (Unaudited) ........................s. -- -- -- 140,954 140,954
------- ------ ---------- ------------ ----------
Balance - September 30, 1998 (Unaudited) ....... $ 3,513 $5,000 $3,216,734 $ (1,261,629) $1,963,618
======= ====== ========== ============ ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-6
<PAGE>
Kids Stuff, Inc.
Statements of Cash Flow
<TABLE>
<CAPTION>
Nine Months Ended
September 30, Years Ended December 31,
------------------------------ -----------------------------------------------
1998 1997 1997 1996 1995
------------- --------------- --------------- -------------- --------------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Cash Flow From Operating Activities
Net Income (loss) ............................. $ 140,954 ($ 95,261) $ 50,097 ($ 521,640) ($ 536,992)
Adjustments to reconcile net income
(loss) to net cash (used) provided by
operating activities:
Depreciation and amortization .............. 132,505 34,883 80,687 17,005 25,991
Loss on disposal of assets ................. -- -- -- 30,450 --
(Increase) decrease in accounts
receivable ................................ (57,557) (172,089) (139,937) (92,146) 21,705
Decrease (increase) in inventories ......... (195,997) (221,495) (417,847) 105,622 (237,747)
(Increase) decrease in deferred
catalog expense ........................... (282,511) 21,099 203,464 (105,944) (34,072)
(Increase) in prepaid expenses ............. (31,741) 52,311 (18,254)
(Decrease) increase in accounts
payable, customer advances and
other ..................................... 374,567 71,309 350,245 354,020 250,974
----------- ------------ ------------- --------- ---------
Net cash (used) provided by operating
activities ...................................... 80,221 (309,243) 108,455 (212,633) (510,141)
Cash Flow From Investing Activities
Investment in property and equipment........... (50,135) (110,281) (157,023) (38,921) (28,016)
(Increase) decrease in prepaid amounts
for acquisition of Natural Baby Cata-
log business ................................. -- 126,007 126,007 (126,007) --
Investment in catalog artwork ................. (126,535) -- -- -- --
Purchase of Natural Baby Catalog busi-
ness .......................................... -- (1,727,792) (1,721,829) -- --
----------- ------------ ------------- --------- ---------
Net Cash (used) by investing activities .......... (176,670) (1,712,066) (1,752,845) (164,928) (28,016)
Cash Flow From Financing Activities
Borrowings on line of credit -- net ........... 61,000 -- 21,000 220,000 255,000
Sale of common stock .......................... -- 2,619,890 2,619,890 162,500 --
Sale of preferred stock ....................... -- 5,000 5,000 -- --
Borrowings or long-term debt - related
parties ...................................... -- -- -- 566,858 --
Payment on long-term debt - related
parties ...................................... -- (266,858) (266,858) -- --
Payment on note payable for acquisi-
tion of Natural Baby Catalog ................. -- -- (100,000) -- --
Purchase of common stock ...................... -- (107,143) (107,143) -- --
(Increase) decrease in prepaid amounts
for public offering .......................... -- -- 43,782 (43,782) --
(Decrease) increase in due to affiliates . -- (137,070) (137,070) (315,086) 281,726
Decrease (increase) in due from affili-
ates ......................................... 262,713 (254,150) (580,965) -- --
----------- ------------ ------------- --------- ---------
Net cash provided (used) by financing
activities ...................................... 323,713 1,859,669 1,497,636 590,490 536,726
Net increase (decrease) in cash .................. 227,263 (161,640) (146,754) 212,929 (1,431)
Cash -- Beginning ................................ 101,894 248,648 248,648 35,719 37,150
----------- ------------ ------------- --------- ---------
Cash -- Ending ................................... $ 329,157 $ 87,009 $ 101,894 $ 248,648 $ 35,719
=========== ============ ============= ========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-7
<PAGE>
Kids Stuff, Inc.
Statements of Cash Flows
<TABLE>
<CAPTION>
Nine Months Ended
September 30, Years Ended December 31,
----------------------- ---------------------------------------
1998 1997 1997 1996 1995
---------- ---------- ----------- ----------- -----------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Supplemental Disclosure of Cash Flow
Information
Cash Paid during the period for interest $ 49,157 $92,697 $108,778 $ 50,554 $ 42,729
Supplemental Disclosure of Non-Cash
Investing Activity
Borrowing on note payable for the pur-
chase of The Natural Baby Catalog . $ -- $ -- $100,000 $ -- $ --
Issuance of 70,000 unregistered com-
mon shares for the purchase of The
Natural Baby Catalog .................. -- -- 245,000 -- --
Retirement of long-term debt - related
parties through the elimination of an
inter-company debt owed by Duncan
Hill ................................. $300,000 -- -- -- --
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-8
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS
Summary of Significant Accounting Policies and Reorganization
A. Reorganization -- Kids Stuff, Inc. ("Kids Stuff" or the "Company") was
incorporated during 1996 as a wholly owned subsidiary of Duncan Hill Company,
Ltd. ("Duncan Hill"). Prior to reorganization occurring June 30, 1996, Kids
Stuff had no operations. The operations shown in the accompanying financial
statements prior to June 30, 1996 are those of Perfectly Safe, Inc., which was
dissolved as part of the reorganization and is sometimes referred to as
"Predecessor" in these financial statements.
Perfectly Safe, Inc. was also a wholly owned subsidiary of Duncan Hill.
Effective June 30, 1996, the assets and liabilities of Perfectly Safe, Inc.,
reverted to Duncan Hill, and Perfectly Safe, Inc. was dissolved. As part of the
reorganization, the Company acquired the assets and liabilities of its
Predecessor. The Company also acquired, as part of the reorganization, certain
fixed assets formerly belonging to Duncan Hill at a net book value of $122,143
at December 31, 1995. The combination of the Company's acquisition of the
assets of its Predecessor and the Company's acquisition of certain assets of
Duncan Hill were accounted for at historical cost as a reorganization of
companies under common control. The operations of the Predecessor are currently
operated as the Perfectly Safe Division and Jeanne's Kids Club Division of the
Company.
B. Business Description -- The Company is in the mail order business and
sells to customers throughout the United States. Perfectly Safe, a division of
the Company, primarily sells children's safety products for use up to age 3.
Jeanne's Kids Club, a division of the Company, sells hard good products for
children primarily up to the age of 3. Natural Baby, a division of the Company,
sells clothing and toys for children primarily up to the age of 3. Products are
purchased from a variety of vendors.
C. Use of 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.
D. Fair Value of Financial Instruments -- The fair value of cash, accounts
receivable, accounts payable and other short-term obligations approximate their
carrying values because of the short maturities of those financial instruments.
The carrying values of the Company's long-term obligations approximate their
fair value. In accordance with Statement of Accounting Standards No. 107,
"Disclosure About Fair Value of Financial Instruments," rates available at
balance sheet dates to the Company are used to estimate the fair value of
existing debt.
E. Trade Receivables -- It is the Company's policy to record accounts
receivable net of an allowance for doubtful accounts. Management has determined
that no allowance is necessary as of December 31, 1997 and 1996. Bad debt
expense was $34,485 (unaudited) and $23,233 (unaudited) for the nine months
ended September 30, 1998 and 1997, respectively, and $37,904, $34,752, and
$18,742 for the years ended December 31, 1997, 1996, and 1995, respectively.
F. Inventories consist of finished goods held for resale and are stated at
the lower of cost or market with cost being determined by the first-in,
first-out (FIFO) method.
G. Deferred catalog expenses are costs of catalogs mailed to customers
which are deferred and amortized over periods ranging from four weeks to six
months, the estimated length of time customers utilize catalogs and other mail
order mailings from the Company. Catalog expense was $2,124,801 (unaudited) and
$1,613,882 (unaudited) for the nine months ended September 30, 1998 and 1997,
respectively, and $2,473,778, $1,936,094, and $1,772,770 for the years ended
December 31, 1997, 1996, and 1995, respectively.
H. December 31, 1996 prepaid expenses include $43,782 relative to the
public offering (see Note 7) and $126,007 relative to the acquisition of The
Natural Baby Catalog (see Note 5).
F-9
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
Summary of Significant Accounting Policies and Reorganization -- (Continued)
I. Property and equipment are carried at cost and depreciated using the
straight-line method over their estimated useful lives ranging from five to ten
years. Depreciation expense amounted to $43,590 (unaudited) and $37,470
(unaudited) for the nine months ended September 30, 1998 and 1997,
respectively, and $29,541, $17,005, and $25,991 for the years ended December
31, 1997, 1996, and 1995, respectively.
Maintenance, repairs, and minor renewals are charged against earnings when
incurred. Additions and major renewals are capitalized.
J. Intangible Assets -- During 1997, the Company purchased the net assets
and operations of The Natural Baby Company as discussed in Note 5. Management
has determined the fair value of the customer list acquired in that acquisition
to be $505,000. The excess purchase price over the fair value of assets
acquired amounted to $1,140,512 and was recorded as goodwill. The customer list
is being amortized using the straight-line method over seven years. Goodwill is
being amortized using the straight-line method over twenty years. For the
customer list, accumulated amortization was $84,166 (unaudited) as of September
30, 1998 and $30,060 as of December 31, 1997. For goodwill accumulated
amortization was $63,912 (unaudited) as of September 30, 1998 and $21,087 as of
December 31, 1997.
K. The Company developed and maintains a mailing list of customers who
have purchased merchandise in the recent past. The cost of developing,
maintaining, and updating this list is expensed in the period incurred.
L. Per Share Amounts -- Net income per share is calculated using the
weighted average number of shares outstanding during the year and additional
shares assumed to be outstanding to reflect the dilutive effect of common stock
equivalents. The only common stock equivalents outstanding were the 2,400,000
Class A Warrants. The number of shares outstanding in computing basic and
diluted earnings per share for 1997, 1996, and 1995 are as follows:
<TABLE>
<CAPTION>
Nine months ended Years ended
September 30, December 31,
---------------------------------------- --------------------------
1998 1997 1997 1996 xxxx
----------- ------------ ----------- ----------- ------------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Actual weighted average number of
common shares outstanding ................... 3,512,856 3,590,647 3,551,432 3,700,000 3,700,000
Effect of dilutive warrants .................. -- -- 768,000 -- --
--------- --------- --------- --------- ---------
Weighted average assuming conversion
used for diluted earnings per share ......... 3,512,856 3,590,647 4,319,432 3,700,000 3,700,000
========= ========= ========= ========= =========
</TABLE>
For the 1996 and 1995 calculation of shares outstanding, the 3,700,000
shares includes the 857,144 shares that the Company bought back from the
private investors in 1997 (see Note 2A).
M. Reclassification -- Certain amounts in the 1996 and 1995 financial
statements have been reclassified to conform to the 1997 presentation.
N. New Authoritative Pronouncements
In June 1997, SFAS 130, "Reporting Comprehensive Income," was issued. SFAS
130 established new standards for reporting comprehensive income and its
components and is effective for fiscal years beginning after December 15, 1997.
The Company expects that comprehensive income will not differ materially from
net income.
In June 1997, the Financial Accounting Standards Board issued SFAS 131,
"Disclosure About Segments of an Enterprise and Related Information." SFAS 131
changes the standards for reporting financial results by operating segments,
related products and services, geographical areas and major customers. The
Company must adopt SFAS 131 no later than December 31, 1998. The Company
believes that the effect of adoption will not be material.
F-10
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
Summary of Significant Accounting Policies and Reorganization -- (Continued)
In June 1998, the Financial Accounting Standards Board issued SFAS 133,
(Accounting for Derivative Instruments and Hedging Activities." This statement
established accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts, and for
hedging activities. It requires recognition of all derivatives as either assets
of liabilities on the balance sheet and measurement of those instruments at
fair value. If certain conditions are met, a derivative may be designated
specifically as (a) a hedge of the exposure to changes in fair value of a
recognized asset or liability or an unrecognized firm commitment (a fair
hedge), (b) a hedge of the exposure to variable cash flows of a forecasted
transaction (a cash hedge), or (c) a hedge of the foreign currency exposure of
a net investment in a foreign operation, an unrecognized firm commitment, an
available-for-sale security, or a foreign-currency-denominated forecasted
transaction. The Company does not anticipate having each of these types of
hedges, but will comply with requirements of SFAS 133 when adopted.
This statement is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. The Company will adopt SFAS 133 beginning
January 1, 2000. The effect of adopting SFAS 133 is not expected to be
material.
Note 1. Parent Corporation
Prior to June 30, 1996, the telemarketing, order fulfillment, data
processing, and administrative function of Perfectly Safe, Inc. were provided
by Duncan Hill, which also provided those services, as applicable, to its other
operating subsidiaries. Duncan Hill allocated the cost of its services,
including rent, to its operating subsidiaries on a direct cost basis, as
applicable, or on a pro rata basis determined by the percentage of total assets
of the various operating subsidiaries, exclusive of the assets of Duncan Hill.
Management believes this is a reasonable basis of cost allocation and that
these expenses would not have been materially different had the Company been on
a stand-alone basis.
As of June 30, 1996, the Company purchased from Duncan Hill the assets
used by Duncan Hill to perform the telemarketing, order fulfillment, data
processing, and administrative functions. The Company commenced the performance
of these functions as of June 30, 1996, except for the payroll and accounting
functions, which Duncan Hill continued to provide through December 31, 1996.
Duncan Hill charged the Company for its allocated portion of these expenses on
the basis of total assets, which management believes to be a reasonable basis
of cost allocation. Management believes that, had the Company been on a
stand-alone basis, these expenses would not be materially different.
Subsequent to December 31, 1996, the Company provides services to Duncan
Hill and Duncan Hill's other subsidiary, as requested, on an actual cost basis.
Actual costs are those direct costs that can be charged on a per order or per
hour basis, plus general and administrative costs allocated on a pro rata basis
by dividing the total assets of the operating entity requesting services by the
sum of the total assets of all operating entities of Duncan Hill and the
operating entity requesting services.
Note 2. Stockholders' Equity
A. Common Stock
In connection with the reorganization effective June 30, 1996, the Company
issued to its parent, Duncan Hill Co., Ltd., 2,400,000 shares of Common Stock
at a value of $.125 per share. Commencing October 1996, the Company sold an
aggregate of 1,300,000 shares of Common Stock to eight private investors for
the aggregate purchase price of $162,500. These 3,700,000 shares of
unregistered securities were issued by the Company at its inception. There were
no underwriting discounts and commissions paid in connection with the issuance
of any said securities.
In June 1997, the Company repurchased 857,144 of the shares sold to five
of the eight private investors at a repurchase price of $.125 per share. The
Company's repurchase payment was in the form of promissory notes totaling
$107,143. These notes were paid off in July 1997 with the proceeds of the
public offering.
F-11
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
Note 2. Stockholders' Equity -- (Continued)
In July 1997, the Company completed an initial public offering (see Note
7) in which 600,000 common shares were issued.
In July 1997, the Company issued 70,000 unregistered restricted shares,
which represented $245,000 of the $2,066,829 purchase cost of The Natural Baby
Catalog (see Note 5).
B. Preferred Stock
The Board of Directors has the authority, without further action by the
stockholders, to issue up to 10,000,000 shares of Preferred Stock in one or
more series and to fix the rights, references, privileges, and restrictions
thereof, including dividend rights, conversion rights, voting rights, terms of
redemption, liquidation preferences, and the number of shares constituting any
series or the designation of such series.
During January 1997, the Company issued 5,000,000 shares of Series A
Preferred Stock, $.001 par value to Duncan Hill as part of the reorganization
(See Note A). The holders of the Series A Preferred Stock are entitled to one
vote for each share held of record on all matters submitted to a vote of the
stockholders.
The Series A Preferred Stock is not subject to redemption and has no
conversion rights or rights to participate in dividend payments. In the event
of any voluntary or involuntary liquidation, dissolution or winding up of the
affairs of the Company, each share of Series A Preferred Stock has a
liquidation preference of $.001 per share.
C. Warrants
In conjunction with the public offering discussed in Note 7, the Company
issued 2,400,000 Class A warrants. Each warrant entitles the holder to purchase
one share of common stock at a price of $5.00 for a period of four years
commencing one year after the date of the Company's prospectus. The Company may
redeem the Warrants at a price of $.05 per Warrant, at any time after they
become exercisable, upon not less than 30 days' prior written notice, if the
closing bid price of the Common Stock has been at least $14.40 per share for 20
consecutive trading days ending on the fifth day prior to the date on which the
notice of redemption is given.
Note 3. Note Payable -- Line of Credit
Kids Stuff, Inc. has an $800,000 line of credit from United Bank with an
open term which is payable on demand, bearing interest payable monthly at the
bank's prime lending rate plus 1%, for an effective rate of 9.5% at December
31, 1997, and had a balance of $732,000 at September 30, 1998 (unaudited), and
$671,000 at December 31, 1997. The line is secured by assets of the company, as
well as the assets of Duncan Hill and another Duncan subsidiary, Havana Group,
Inc., formerly E. A. Carey of Ohio, Inc. The repayment of the facility is
guaranteed by Mr. Miller, the Company's Chief Executive Officer. The credit
facility is currently being rewritten by the bank. A condition of renewal is
that the Company maintains a zero balance on the credit line for a period of
thirty consecutive days during the course of each year. The bank has agreed to
waive this requirement until a new loan package has been negotiated. The
weighted average interest rate for the years ended December 31, 1997, 1996, and
1995 was 9.4%, 9.3%, and 9.7%, respectively. Due to the current nature of the
liability, the carrying amount of the line approximates fair value.
F-12
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
Note 4. Long-Term Debt -- Related Parties
A. Long-term debt -- related parties consists of the following:
<TABLE>
<CAPTION>
September 30, December 31,
---------------------- -------------
1998 1997 1996
-------- ----------- -------------
(Unaudited)
<S> <C> <C> <C>
Note Payable -- Duncan Hill Company (parent company),
unsecured and payable in four annual principal payments
plus interest at 8.0%, matures June 2000. The initial
installment was for $66,858 and the three remaining
installments are for $100,000. (Duncan Hill has retired
this note as payment against an inter-company debt
owed to the Company by Duncan Hill) ..................... $ -- $300,000 $366,858
Note Payable -- (bridge lenders) -- The entire principal
plus interest at 8.0%, was paid off during 1997 ......... -- -- 125,000
Note Payable -- (bridge lenders) -- The entire principal
plus interest at 8.0%, was paid off during 1997 ......... -- -- 75,000
----- -------- --------
-- 300,000 566,858
Less current portion ..................................... -- 100,000 266,858
----- -------- --------
$ -- $200,000 $300,000
===== ======== ========
</TABLE>
Note 5. Acquisition of The Natural Baby Catalog
In July 1997, the Company acquired the net assets and operations of The
Natural Baby Catalog, a mail order retailer of children's clothing and toys.
The purchase was funded with the net proceeds of an initial public offering.
The acquisition has been accounted for as a purchase and, accordingly, the
operating results of the acquired company have been included in the Company's
financial statements since the date of acquisition. The aggregate purchase
price is comprised of the following:
<TABLE>
<CAPTION>
<S> <C>
Cash paid to former owners and to pay off debt of
The Natural Baby Company ...................................................... $ 1,444,831
Costs of acquisition ........................................................... 276,998
Issuance of 70,000 Kids Stuff unregistered common shares to the former owners of
The Natural Baby Company ...................................................... 245,000
Note payable ................................................................... 100,000
-----------
Total purchase price ....................................................... $ 2,066,829
===========
</TABLE>
The purchase price was allocated to the net assets acquired based on fair
values as follows:
<TABLE>
<CAPTION>
<S> <C>
Accounts receivable ................................................... $ 29,297
Inventory ............................................................. 474,769
Deferred catalog costs ................................................ 185,587
Prepaid expenses ...................................................... 3,544
Property and equipment ................................................ 24,331
Customer list ......................................................... 505,000
Accounts payable assumed .............................................. (296,211)
-----------
Net assets acquired ............................................... 926,317
Excess of the purchase price over fair market value of assets acquired 1,140,512
-----------
Total purchase price .............................................. $ 2,066,829
===========
</TABLE>
The excess of the aggregate purchase price over the fair market value of
net assets acquired of $1,140,512 were recorded as goodwill.
F-13
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
Note 5. Acquisition of The Natural Baby Catalog -- (Continued)
The following unaudited pro forma results of operations for the years
ended December 31, 1997, 1996, and 1995 assume the acquisition occurred as of
January 1, 1995:
1997 1996 1995
------------ ------------ -------------
Sales ....................... 13,954,877 13,090,210 10,952,806
Net income .................. 298,835 37,009 (324,259)
Earnings per share .......... .08 .01 (.09)
Note 6. Income Tax
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standard No. 109, Accounting for Income Taxes.
Deferred income taxes reflect the effects of temporary differences between
the carrying amount of assets and liabilities for financial reporting purposes.
Deferred tax assets (liabilities) consisted of the following at December 31,
1997 and 1996:
1997 1996
------------ ------------
Deferred tax assets:
Net operating loss carryforward ......... $ 122,529 $ 174,883
Inventory obsolescence .................. 37,796 --
---------
Total deferred tax assets ............... 160,325 174,883
Valuation allowance ..................... (62,573) (80,544)
--------- ---------
Net deferred tax asset .................. 97,752 94,339
Deferred tax liabilities:
Deferred catalog expense ................ (88,261) (94,339)
Amortization ............................ (4,586) --
--
Depreciation ............................ (4,905) --
--
Total deferred tax liabilities .......... (97,752) (94,339)
--------- ---------
Net deferred income taxes ............... $ -- $ --
========= =========
The Company's ability to recognize deferred tax assets is dependent on
generating future regular taxable income. In accordance with the provisions of
SFAS 109, management has provided a valuation allowance.
The Company had net operating loss carryforwards of approximately $360,000
as of December 31, 1997 for tax purposes. The loss carryforwards expire in the
year 2011. Tax net operating losses of the Predecessor incurred prior to July
1996 reverted to the parent company in the reorganization.
Note 7. Public Offering
In July 1997, the Company completed an initial public offering in which
300,000 units were sold for $2,619,890, net of issuance costs of $980,110. Each
unit consisted of two common shares and eight redeemable Class A warrants, and
sold for $12 per unit. The common stock and warrants are separately
transferable.
The proceeds of the public offering were used to acquire net assets and
operations of The Natural Baby Catalog, to pay on accounts payable, to repay
indebtedness to bridge lenders, to repay indebtedness to the Company's parent,
Duncan Hill, to consolidate the operations of The Natural Baby Catalog, and for
general corporate purposes.
F-14
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
Note 8. Employment Agreement
The Company has entered into separate five-year employment agreements with
William L. Miller and Jeanne E. Miller, effective January 1, 1997, pursuant to
which Mr. Miller is to serve as Chief Executive Officer of the Company and Mrs.
Miller is to serve as its Executive Vice President. The employment agreements
provide for an annual base salary of $125,000 for Mr. Miller and $90,000 for
Mrs. Miller, subject to annual review for increase by the Company. The
employment agreements also provide for the eligibility of these executives to
receive annual cash bonuses under the Company's Incentive Compensation Plan.
Each of Mr. Miller and Mrs. Miller were granted under their respective
employment agreements an option to purchase 100,000 shares of the Company's
Common Stock, which will vest 25% on each of the first four anniversary dates
commencing January 1, 1998, regardless of whether the executive is employed on
such dates by the Company. The vested options will be immediately exercisable
and will expire ten years from the date of the agreement. The exercise price of
the options shall be $5.00 per share, subject to downward adjustments in the
exercise price if the Company meets certain performance goals.
The Company accounts for employee stock options under APB 25 and,
accordingly, no compensation cost has been recognized. If the Company had
elected to recognize compensation cost consistent with the fair-value based
method prescribed by SFAS 123, the Company's net income would have been reduced
by approximately $330,000 or $.09 per share for the year ended December 31,
1997.
For purposes of the pro forma disclosures presented above, the Company
computed the fair values of options granted using the Black-Scholes option
pricing model assuming no dividends, 45% volatility, an expected life of 50% of
the ten-year option terms, and a risk-free interest rate of 6.3%.
Note 9. Incentive Plans
A. Incentive Compensation Plan
During 1997, the Company adopted an Incentive Compensation Plan (the
"Plan"). The Plan is designed to motivate employee participants to achieve the
Company's annual strategic goals. Eligibility for participation in the Plan is
limited to the Chief Executive Officer and the Executive Vice President of the
Company, and such other employees of the Company as may be designated by the
Board of Directors from time to time. For each fiscal year of the Company, the
Board will establish a bonus pool not to exceed 10% of the Company's operating
income. The amount of such pool with respect to any year shall be determined
subsequent to the end of that year upon the determination of the Company's
operating income for that year. Each participant in the Plan is eligible to
receive from the bonus pool an annual award of up to 50% of the participant's
base salary. There were no awards in 1997 or the first nine months of 1998.
B. Stock Incentive Plan
During 1997, the Company adopted a Stock Incentive Plan (Incentive Plan).
Under the Incentive Plan, the Compensation Committee of the Board of Directors
may grant stock incentives to key employees and the directors of the Company
pursuant to which a total of 400,000 shares of Common Stock may be issued;
provided, however, that the maximum amount of Common Stock with respect to
which stock incentives may be granted to any person during any calendar year
shall be 20,000 shares, except for a grant made to a recipient upon the
recipients initial hiring by the Company, in which case the number shall be a
maximum of 40,000 shares. These numbers are subject to adjustment in the event
of a stock split and similar events. Stock incentive grants may be in the form
of options, stock appreciation rights, stock awards or a combination thereof.
No stock incentives were granted under the Incentive Plan in 1997 or the first
nine months of 1998.
Note 10. Prior Period Adjustment
During 1996, the Company changed its accounting principle utilized
regarding internally-generated customer lists and development costs. Prior to
the change, the Company capitalized and amortized these costs over
F-15
<PAGE>
KIDS STUFF, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
Note 10. Prior Period Adjustment -- (Continued)
their estimated useful life. The Company now expenses these costs as incurred.
Additionally, the Company has adjusted its financial statements to eliminate
goodwill associated with its 1990 acquisition of the Perfectly Safe Catalog
business because the transaction would be deemed to have been between
affiliated parties. The January 1, 1995 retained earnings and the related 1995
Statement of Income have been restated for the effect of the following
adjustments:
<TABLE>
<CAPTION>
1995 Net Income (Loss)
---------------------------
Retained
Earnings Amount Per Share
-------------- -------------- ----------
<S> <C> <C> <C>
As previously reported ..................................... $ 234,503 $ (163,232) $(.05)
Elimination of internally-generated customer lists, develop-
ment costs and goodwill ................................... (765,251) (336,660) (.09)
Elimination of the related deferred tax liability .......... 136,700 (37,100) (.01)
---------- ---------- -----
As adjusted ................................................ $ (394,048) $ (536,992) $(.15)
========== ========== =====
</TABLE>
F-16
<PAGE>
================================================================================
No dealer, salesman or other person has been authorized to give any
information or to make any representations not contained in this Prospectus in
connection with the offer made in this Prospectus and, if given or made, such
information or representations must be relied upon as having been authorized by
the Company or the Underwriters. This Prospectus does not constitute an offer
to sell or a solicitation of an offer to buy any security other than the
securities offered by this Prospectus, or an offer to sell or a solicitation of
an offer to buy any securities by anyone in any jurisdiction in which such
offer of solicitation is not authorized or is unlawful. Neither the delivery of
this Prospectus nor any sale made hereunder shall, under any circumstances,
create any implication that the information herein contained is correct as of
any time subsequent to the date hereof.
-----------------------------------
TABLE OF CONTENTS
Page
---------
Prospectus Summary ........................... 3
Risk Factors ................................. 7
Use of Proceeds .............................. 10
Dividend Policy .............................. 15
Management's Discussion and Analysis of
Financial Condition and Results of
Operation ................................. 16
Market Information ........................... 23
Business ..................................... 24
Management ................................... 32
Principal Stockholders ....................... 39
Certain Transactions ......................... 40
Description of Securities .................... 41
Unregistered Shares Eligible for Immediate and
Future Sale ............................... 45
Underwriting ................................. 46
Legal Matters ................................ 49
Experts ...................................... 49
Available Information ........................ 49
Index to Financial Statements ................ F-1
================================================================================
<PAGE>
================================================================================
400,000 Units
Kids Stuff, Inc.
Units, each Unit consisting
of one share of
Series 1 Preferred Stock
and two Preferred Warrants
PROSPECTUS
FAIRCHILD FINANCIAL
GROUP, INC.
February , 1999
================================================================================
