FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______ TO ______
COMMISSION FILE NO. 0-22545
DSI TOYS, INC.
(Exact name of Registrant as specified in its charter)
TEXAS 74-1673513
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1100 WEST SAM HOUSTON PARKWAY NORTH
HOUSTON, TEXAS 77043
(Address of principal executive offices) (Zip Code)
Registrant's telephone number including area code: (713) 365-9900
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
As of August 10, 2000, 9,066,365 shares of common stock par value $.01 per
share, of DSI Toys, Inc. were outstanding.
<PAGE>
TABLE OF CONTENTS
PAGE
PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
Consolidated Balance Sheet as of June 30, 2000 and
December 31, 1999.................................................1
Consolidated Statement of Operations for the Three Months and
Six Months Ended June 30, 2000 and July 31, 1999..................2
Consolidated Statement of Cash Flows for the Six Months Ended
June 30, 2000 and July 31, 1999...........................3
Consolidated Statement of Shareholders' Equity......................5
Notes to Consolidated Financial Statements..........................6
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS...............................................9
PART II - OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS..................................................14
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS................14
Item 6. EXHIBITS AND REPORTS ON FORM 8-K...................................14
Signatures.................................................................15
i
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
DSI TOYS, INC.
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
JUNE 30, 2000 DECEMBER 31, 1999
--------------- ---------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current Assets:
Cash .................................................................................. $ 558,539 $ 478,970
Restricted cash ....................................................................... 150,000 150,000
Accounts receivable, net .............................................................. 7,695,163 3,408,059
Inventories ........................................................................... 8,093,136 5,695,240
Prepaid expenses ...................................................................... 1,743,388 1,383,644
Deferred income taxes ................................................................. 1,031,109 314,000
--------------- ---------------
Total current assets ............................................................. 19,271,335 11,429,913
Property and equipment, net .............................................................. 2,820,409 2,000,215
Deferred income taxes .................................................................... 902,000 902,000
Other assets ............................................................................. 865,855 695,237
Goodwill, net ............................................................................ 10,011,222
--------------- ---------------
$ 33,870,821 $ 15,027,365
=============== ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable and accrued liabilities .............................................. $ 9,320,392 $ 3,769,286
Current portion of long-term debt ..................................................... 4,498,183 1,313,787
Current portion of long-term debt due to a related party .............................. 1,581,372
Income taxes payable .................................................................. 310,022 428,727
--------------- ---------------
Total current liabilities ........................................................ 15,709,969 5,511,800
Long-term debt ........................................................................... 5,459,386 2,393,236
Long-term debt due to a related party .................................................... 5,042,536
Deferred income taxes .................................................................... 133,340 133,340
--------------- ---------------
Total liabilities ................................................................ 26,345,231 8,038,376
Shareholders' equity:
Preferred stock, $.01 par value, 5,000,000 shares authorized,
none issued or outstanding
Common stock, $.01 par value, 35,000,000 shares authorized,
9,066,365 and 8,719,000 shares issued; 9,066,365 and 8,533,157 shares outstanding .. 90,664 87,190
Additional paid-in capital ............................................................ 5,173,465 4,934,919
Common stock warrants ................................................................. 102,500 102,500
Accumulated other comprehensive loss .................................................. (2,576) (12,626)
Retained earnings ..................................................................... 2,161,537 3,436,401
--------------- ---------------
7,525,590 8,548,384
Less: Treasury stock, 185,843 shares, at cost ......................................... -- (1,559,395)
--------------- ---------------
Total shareholders' equity ....................................................... 7,525,590 6,988,989
--------------- ---------------
$ 33,870,821 $ 15,027,365
=============== ===============
</TABLE>
See accompanying notes to consolidated financial statements.
1
<PAGE>
DSI TOYS, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
---------------------------------- ----------------------------------
JUNE 30, 2000 JULY 31, 1999 JUNE 30, 2000 JULY 31, 1999
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Net Sales .............................................. $ 13,582,505 $ 14,646,943 $ 20,496,967 $ 18,574,638
Cost of goods sold ..................................... 9,598,816 11,128,461 14,908,115 13,987,652
--------------- --------------- --------------- ---------------
Gross profit ........................................... 3,983,689 3,518,482 5,588,852 4,586,986
Selling, general and administrative expenses ........... 3,620,945 3,045,873 6,961,575 4,745,771
--------------- --------------- --------------- ---------------
Operating income (loss) ................................ 362,744 472,609 (1,372,723) (158,785)
Interest expense ....................................... (403,762) (133,761) (673,745) (252,990)
Other income ........................................... 44,305 34,707 54,495 44,084
--------------- --------------- --------------- ---------------
Income (loss) before income taxes ...................... 3,287 373,555 (1,991,973) (367,691)
Benefit from (provision for) income taxes .............. (1,238) (158,367) 717,109 84,594
--------------- --------------- --------------- ---------------
Net income (loss) ...................................... $ 2,049 $ 215,188 $ (1,274,864) $ (283,097)
=============== =============== =============== ===============
BASIC EARNINGS PER SHARE
Earnings (loss) per share .......................... $ 0.00 $ 0.03 $ (0.14) $ (0.04)
=============== =============== =============== ===============
Weighted average shares outstanding ................ 9,066,365 7,826,635 9,040,256 6,975,365
=============== =============== =============== ===============
DILUTED EARNINGS PER SHARE
Earnings (loss) per share .......................... $ 0.00 $ 0.03 $ (0.14) $ (0.04)
=============== =============== =============== ===============
Weighted average shares outstanding ................ 9,158,392 7,986,090 9,040,256 6,975,365
=============== =============== =============== ===============
</TABLE>
See accompanying notes to consolidated financial statements.
2
<PAGE>
DSI TOYS, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
------------------------------------
JUNE 30, 2000 JULY 31, 1999
--------------- ---------------
<S> <C> <C>
Cash flows from operating activities:
Net loss ............................................................................. $ (1,274,864) $ (283,097)
Adjustments to reconcile net loss to net cash
used by operating activities:
Depreciation and amortization .................................................... 731,808 269,503
Amortization and write-off of
debt discount and issuance costs .............................................. 13,985 20,072
Amortization of goodwill ......................................................... 256,662
Provision for doubtful accounts .................................................. (25,210) 11,044
Loss (gain) on abandonment or sale of equipment .................................. 32,173 (989)
Deferred income taxes ............................................................ (717,109) (270,898)
Changes in assets and liabilities:
Accounts receivable ........................................................... (3,338,703) (5,760,580)
Inventories ................................................................... (2,360,127) (3,550,232)
Income taxes receivable/payable ............................................... (118,705) 195,477
Prepaid expenses .............................................................. (510,302) 70,956
Accounts payable and accrued liabilities ...................................... 2,458,475 3,494,279
--------------- ---------------
Net cash used by operating activities ....................................... (4,851,917) (5,804,465)
Cash flows from investing activities:
Cash used for acquisition of Meritus ................................................. (884,034)
Capital expenditures ................................................................. (835,445) (550,467)
Proceeds from sale of equipment ...................................................... 3,787
Decrease (increase) in other assets .................................................. (195,998) 120,864
--------------- ---------------
Net cash used in investing activities ....................................... (1,915,477) (425,816)
Cash flows from financing activities:
Net borrowings under revolving lines of credit ....................................... 3,011,566 1,535,560
Net borrowings on long-term debt ..................................................... 3,172,888 19,095
Borrowings of long-term debt due to related party .................................... 5,000,000
Payments of assumed Meritus debt ..................................................... (4,382,541)
Net proceeds from issuance of common stock ........................................... 4,918,330
Debt and stock issue refunds (costs) ................................................. 35,000 (85,433)
--------------- ---------------
Net cash provided by financing activities ................................... 6,836,913 6,387,552
Effect of exchange rate changes on cash .................................................. 10,050 (10,402)
--------------- ---------------
Net increase in cash ..................................................................... 79,569 146,869
Cash and cash equivalents, beginning of period ........................................... 478,970 554,197
--------------- ---------------
Cash and cash equivalents, end of period ................................................. $ 558,539 $ 701,066
=============== ===============
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
DSI TOYS, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS (CONTINUED)
(UNAUDITED)
SIX MONTHS ENDED
----------------------------------
JUNE 30, 2000 JULY 31, 1999
---------------- ----------------
Supplemental disclosure of cash flow
information:
Acquisition of Meritus:
Property, plant and equipment acquired .... $ (748,730)
Accounts receivable and other assets
acquired ................................ (838,564)
Liabilities assumed ....................... 7,475,172
Note payable issued to the seller ......... 1,690,000
Common stock issued (including treasury
shares) ................................. 1,801,415
Goodwill resulting from Meritus acquisition (10,263,327)
---------------- ----------------
Net cash paid for Meritus acquisition ..... $ (884,034)
================ ================
See accompanying notes to consolidated financial statements.
4
<PAGE>
DSI TOYS, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(UNAUDITED)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
---------------------------------- PAID-IN
SHARES AMOUNT CAPITAL WARRANTS
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Balance, January 31, 1999 8,719,000 $ 87,190 $ 21,162,568 $ 102,500
Comprehensive income:
Net income ..........
Foreign currency
translation adj ...
net of tax ........
Comprehensive income: .
Issuance of 2,458,491
common shares from
the treasury ...... (15,479,229)
Options exercised ..... (518,189)
Stock issuance cost ... (230,231)
--------------- --------------- --------------- ---------------
Balance, December 31, 1999 8,719,000 $ 87,190 $ 4,934,919 $ 102,500
Comprehensive loss:
Net loss ............
Foreign currency
translation adj ...
net of tax ........
Comprehensive loss: ...
Issuance of 347,365
common shares and
185,843 shares from
the treasury ...... 347,365 3,474 238,546
--------------- --------------- --------------- ---------------
Balance, March 31, 2000 .. 9,066,365 $ 90,664 $ 5,173,465 $ 102,500
Comprehensive loss:
Net loss ............
Foreign currency
translation adj ...
net of tax ........
Comprehensive loss: ...
--------------- --------------- --------------- ---------------
Balance, June 30, 2000 .. 9,066,365 $ 90,664 $ 5,173,465 $ 102,500
=============== =============== =============== ===============
</TABLE>
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
COMPREHENSIVE RETAINED TREASURY
INCOME EARNINGS STOCK TOTALS
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Balance, January 31, 1999 $ 14,296 $ 2,155,410 $ (22,660,592) $ 861,372
Comprehensive income:
Net income .......... 1,280,991 1,280,991
Foreign currency
translation adj ...
net of tax ........ (26,922) (26,922)
---------------
Comprehensive income: . 1,254,069
Issuance of 2,458,491
common shares from
the treasury ...... 20,479,229 5,000,000
Options exercised ..... 621,968 103,779
Stock issuance cost ... (230,231)
--------------- --------------- --------------- ---------------
Balance, December 31, 1999 $ (12,626) $ 3,436,401 $ (1,559,395) $ 6,988,989
Comprehensive loss:
Net loss ............ (1,276,913) (1,276,913)
Foreign currency
translation adj ...
net of tax ........ (12,036) (12,036)
---------------
Comprehensive loss: ... (1,288,949)
Issuance of 347,365
common shares and
185,843 shares from
the treasury ...... 1,559,395 1,801,415
--------------- --------------- --------------- ---------------
Balance, March 31, 2000 .. $ (24,662) $ 2,159,488 $ 7,501,455
Comprehensive loss:
Net loss ............ 2,049 2,049
Foreign currency
translation adj ...
net of tax ........ 22,086 22,086
---------------
Comprehensive loss: ... 24,135
--------------- --------------- --------------- ---------------
Balance, June 30, 2000 .. $ (2,576) $ 2,161,537 $ 7,525,590
=============== =============== =============== ===============
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
DSI TOYS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of DSI Toys,
Inc. and its wholly-owned subsidiaries (the "Company") have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q. Accordingly, they do not
include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements and should be read in
conjunction with the financial statements and notes thereto appearing in the
Company's Annual Report on Form 10-K for the fiscal year ended December 31,
1999.
In the opinion of the Company's management, all adjustments necessary for a
fair presentation of the results of operations for all periods reported have
been included. Such adjustments consist only of normal recurring items.
Management also believes that the Statement of Operations' three month and six
month comparisons of the calendar quarter and six months' period ending June 30,
2000 to its prior year fiscal quarter and six months period ending July 31, 1999
is not misleading. Recasting of the prior year information to the calendar
quarter ending June 30, 1999 would not be cost effective and would not produce
any materially different comparative operating results.
The impact of the Company's change in its fiscal year-end is, however,
apparent in the net sales and net income numbers for the quarter ending June 30,
2000. It is anticipated that this change in fiscal year-end effect on net sales
and net income will not be as evident in the third quarter, and should be
completely negated by year-end. This impact is due to the fact that July,
historically the first high volume shipping month for the Company, was in the
second quarter of fiscal 1999, and is now part of the third quarter of fiscal
2000. Thus the quarter ending July 31, 1999 was comprised of two months (May and
June) with historically higher than average manufacturing and development costs,
coupled with one month (July) of high volume "seasonal" shipping. In comparison,
the quarter ending June 30, 2000 is comprised of three months when manufacturing
and development costs are at their peak, and with no months of "seasonal"
shipping. "See Item 2 - Seasonality."
The results of operations for the three months and six months ended June
30, 2000 are not necessarily indicative of the results expected for the full
year ending December 31, 2000.
2. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following:
JUNE 30 DECEMBER 31
2000 1999
---------------- ----------------
Trade receivables............ $ 9,774,946 $ 5,405,587
Provisions for:
Discounts and markdowns.... (1,018,533) (728,910)
Return of defective goods.. (900,250) (1,082,408)
Doubtful accounts.......... (161,000) (186,210)
---------------- ----------------
Accounts receivable, net..... $ 7,695,163 $ 3,408,059
================ ================
6
<PAGE>
3. SEGMENT INFORMATION
Financial information for the six months ended June 30, 2000 and July 31,
1999 is as follows:
<TABLE>
<CAPTION>
UNITED STATES HONG KONG CONSOLIDATED
------------------------ ------------------------- ----------------------
<S> <C> <C> <C>
Six months ended June 30, 2000:
Net sales............................ $ 5,602,113 $ 14,894,854 $ 20,496,967
Operating income (loss).............. (3,872,176) 2,499,453 (1,372,723)
Total assets at June 30, 2000........ 23,326,849 10,543,972 33,870,821
Six months ended July 31, 1999:
Net sales............................ $ 5,016,759 $ 13,557,879 $ 18,574,638
Operating income (loss).............. (545,287) 386,502 (158,785)
Total assets at July 31, 1999........ 12,472,927 8,807,883 21,280,810
</TABLE>
4. BUSINESS COMBINATION
On January 7, 2000, the Company acquired by way of a merger all of the
issued and outstanding stock of Meritus Industries, Inc. ("Meritus") in exchange
for (i) 600,000 unregistered shares of the Company's common stock, less 66,792
shares of the Company's common stock, which shares were initially held by the
Company and payable to Walter and Susan Reiling ("the Reilings") upon
satisfaction of certain post-closing conditions as set forth in the Closing and
Holdback Agreement between the parties; (ii) $884,034 in cash; and (iii) the
Company's Subordinated Secured Promissory Note for $1,690,000 paid to the
Reilings, who were the sole shareholders of Meritus. Based upon the final
accounting at the end of the holdback period (June 7, 2000) the post-closing
conditions were not satisfied and none of the held back (66,792) shares will be
paid to the Reilings. The market value of the shares issued was $1,801,415 and
was satisfied by the issuance of 347,365 shares of new stock and 185,843 shares
in treasury stock. The note, bearing interest at 10.0375% per annum, requires
quarterly principal and interest payments beginning April 1, 2000, and matures
on January 7, 2005. Contemporaneously with the merger, the Company satisfied
approximately $4.4 million of Meritus' debt.
The acquisition was accounted for utilizing the purchase method; therefore
the Company recorded the acquired assets at their estimated fair market value.
Goodwill generated by the transaction is being amortized over 20 years using the
straight-line method.
Commensurate with the merger, the Company borrowed $5,000,000 from MVII,
LLC, a California limited liability company controlled by E. Thomas Martin
("MVII"), evidenced by a promissory note dated January 7, 2000. The note bears
interest at a rate of prime plus 2%, matures on July 1, 2004, and is
subordinated to senior debt of the Company. The proceeds from the note were used
for the payment of the Meritus debt discussed above.
7
<PAGE>
PRO FORMA RESULTS OF OPERATIONS
Presented below is a pro forma statement of operations for the fiscal
quarter and six months' period ending July 31, 1999. The pro forma reflects the
combined operations of the Company and Meritus as if the merger of the Company
and Meritus occurred on February 1, 1999.
<TABLE>
<CAPTION>
THREE MONTHS ENDED JULY 31, 1999
--------------------------------------------------------------------
DSI MERITUS COMBINED
(UNAUDITED) (UNAUDITED) (UNAUDITED)
-------------------- -------------------- --------------------
<S> <C> <C> <C>
Net sales .................................................. 14,646,943 $ 6,206,585 $ 20,853,528
Net income ................................................. 215,188 18,342 233,530
Basic earnings/loss per share
Earnings per share ....................................... $ 0.03 $ 0.03
==================== ====================
Weighted average shares outstanding ...................... 7,826,635 8,379,843
==================== ====================
Diluted earnings/loss per share
Earnings per share ...........,,,,,....................... $ 0.03 $ 0.03
==================== ====================
Weighted average shares outstanding ...................... 7,986,090 8,379,843
==================== ====================
<CAPTION>
SIX MONTHS ENDED JULY 31, 1999
--------------------------------------------------------------------
DSI MERITUS COMBINED
(UNAUDITED) (UNAUDITED) (UNAUDITED)
-------------------- -------------------- --------------------
<S> <C> <C> <C>
Net sales .................................................. $ 18,574,638 $ 7,563,549 $ 26,138,187
Net income ................................................. (283,097) (1,121,718) (1,404,815)
Basic earnings/loss per share
Loss per share ........................................... $ (0.04) (0.19)
==================== ====================
Weighted average shares outstanding ...................... 6,975,365 7,508,573
==================== ====================
Diluted earnings/loss per share
Loss per share ........................................... $ (0.04) $ (0.19)
==================== ====================
Weighted average shares outstanding ...................... 6,975,365 7,508,573
==================== ====================
</TABLE>
8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT
OF 1995: STATEMENTS IN THIS REPORT THAT ARE NOT HISTORICAL FACTS, INCLUDING
STATEMENTS ABOUT PLANS AND EXPECTATIONS REGARDING PRODUCTS AND OPPORTUNITIES,
DEMAND AND ACCEPTANCE OF NEW AND EXISTING PRODUCTS, CAPITAL RESOURCES AND FUTURE
FINANCIAL CONDITION AND RESULTS ARE FORWARD-LOOKING. FORWARD-LOOKING STATEMENTS
INVOLVE RISKS AND UNCERTAINTIES, WHICH MAY CAUSE THE COMPANY'S ACTUAL RESULTS IN
FUTURE PERIODS TO DIFFER MATERIALLY AND ADVERSELY FROM THOSE EXPRESSED. THESE
UNCERTAINTIES AND RISKS INCLUDE, BUT ARE NOT LIMITED TO, CHANGING CONSUMER
PREFERENCES, LACK OF SUCCESS OF NEW PRODUCTS, LOSS OF THE COMPANY'S CUSTOMERS,
COMPETITION, AND OTHER FACTORS DISCUSSED IN THIS REPORT AND FROM TIME TO TIME IN
THE COMPANY'S FILINGS WITH THE SECURITIES AND EXCHANGE COMMISSION, INCLUDING THE
COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDING DECEMBER 31,
1999.
EXCEPT AS OTHERWISE INDICATED, REFERENCES TO THE "COMPANY" REFER TO DSI
TOYS, INC. AND ITS WHOLLY OWNED SUBSIDIARIES, DSI (HK) LIMITED, MERITUS
INDUSTRIES LIMITED, RSP PRODUCTS LIMITED, AND ELITE DOLLS LIMITED (COLLECTIVELY,
"DSI (HK)"). THE TERMS "FISCAL YEAR" AND "FISCAL" REFER TO THE COMPANY'S FISCAL
YEAR, WHICH IS THE YEAR ENDING DECEMBER 31 OF THE CALENDAR YEAR MENTIONED. THE
COMPANY CHANGED ITS FISCAL YEAR FROM A JANUARY 31 YEAR-END TO A DECEMBER 31
YEAR-END DURING 1999. THEREFORE, REFERENCES TO FISCAL YEARS 1998 AND PRIOR REFER
TO THE COMPANY'S FISCAL YEAR ENDED JANUARY 31 OF THE FOLLOWING CALENDAR YEAR
MENTIONED. ACCORDINGLY, A REFERENCE TO FISCAL 1998 IS A REFERENCE TO THE PERIOD
ENDING JANUARY 31, 1999. A REFERENCE TO FISCAL 1999 IS A REFERENCE TO THE ELEVEN
MONTH PERIOD ENDING DECEMBER 31, 1999.
The impact of the Company's change in its fiscal year-end is apparent in
the net sales and net income numbers for the quarter ending June 30, 2000. It is
anticipated that this change in fiscal year-end effect on net sales and net
income will not be as evident in the third quarter, and should be completely
negated by year-end. This impact is due to the fact that July, historically the
first high volume shipping month for the Company, was in the second quarter of
fiscal 1999, and is now part of the third quarter of fiscal 2000. Thus the
quarter ending July 31, 1999 was comprised of two months (May and June) with
historically higher than average manufacturing and development costs, coupled
with one month (July) of high volume "seasonal" shipping. In comparison, the
quarter ending June 30, 2000 is comprised of three months when manufacturing and
development costs are at their peak, and with no months of "seasonal" shipping.
Thus, the decreases in net sales reported herein in "Three Months Ended June 30,
2000, Compared to the Three Months Ended July 31, 1999" and "Six Months Ended
June 30, 2000 Compared to Six Months Ended July 31, 1999" are all affected in
magnitude by this shift in reporting periods. "See Item 2 - Seasonality."
GENERAL
The following discussion and analysis should be read in conjunction with
the financial statements and related notes contained elsewhere herein.
The Company designs, develops, markets and distributes toys and children's
consumer electronics. Core product categories are (i) juvenile audio products,
including walkie-talkies, pre-teen audio products and musical toys; (ii) girls'
toys, including dolls, play sets and accessories; and (iii) boys' toys,
including construction sets, radio control vehicles, and western and military
toys. Historically, the majority of the Company's sales have been made to
customers based in the United States. All of the Company's international sales
are denominated in United States dollars. Therefore, the Company is not subject
to exchange rate risk with respect to international sales.
On January 7, 2000, the Company acquired Meritus Industries, Inc.
("Meritus"), a privately held toy manufacturer by way of merger. Pursuant to the
terms of the merger, the Company acquired all of the issued and outstanding
stock of Meritus in exchange for (i) 600,000 unregistered shares of the
Company's common stock, less 66,792 shares of the Company's common stock, which
shares were initially held by the Company and are payable to Walter and Susan
Reiling ("the Reilings"), upon satisfaction of certain post-closing conditions
as set forth in a Closing and Holdback Agreement between the parties; (ii)
$884,034 in cash; and (iii) the Company's Subordinated Secured Promissory Note
for $1,690,000 paid to the Reilings, who were the sole shareholders of Meritus.
Based upon the final accounting at the end of the holdback period (June 7, 2000)
the post-closing conditions were not
9
<PAGE>
satisfied and none of the held back (66,792) shares will be paid to the
Reilings. Contemporaneously with the merger, the Company satisfied approximately
$4.4 million of Meritus' debt.
Commensurate with the acquisition of Meritus, the Company borrowed
$5,000,000 from MVII, LLC, a California limited liability company controlled by
E. Thomas Martin ("MVII"), evidenced by a promissory note dated January 7, 2000.
The note bears interest at a rate of prime plus 2%, matures on July 1, 2004, and
is subordinated to senior debt of the Company. The proceeds from the note were
used in satisfaction of the Meritus debt discussed above.
As a result of its merger with Meritus, the Company acquired three
wholly-owned Hong Kong subsidiaries, Meritus Industries Limited, RSP Products
Limited, and Elite Dolls Limited, which are engaged in the Company's doll
manufacturing operations. The Company is in the process of consolidating the
three newly-acquired subsidiaries with DSI (HK) Limited.
As a result of the transactions consummated in connection with the merger
with Meritus, MVII's share ownership is approximately 61% of the Company's
outstanding shares of Common Stock.
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated certain income
and expense items expressed as a percentage of net sales:
PERCENT OF NET SALES
--------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
--------------------- ---------------------
June 30, July 31, June 30, July 31,
2000 1999 2000 1999
-------- -------- -------- --------
Net sales ....................... 100% 100.0% 100% 100.0%
Costs of goods sold ............. 70.7 76.0 72.7 75.3
-------- -------- -------- --------
Gross profit .................... 29.3 24.0 27.3 24.7
Selling, general and
administrative expenses ....... 26.7 20.8 34.0 25.5
-------- -------- -------- --------
Operating income (loss) ......... 2.6 3.2 (6.7) (0.8)
Interest expense ................ (2.9) (0.9) (3.3) (1.4)
Other income .................... 0.3 0.2 .3 0.2
-------- -------- -------- --------
Income (loss) before income taxes 0.0 2.5 (9.7) (2.0)
Benefit from (provision for)
income taxes .................. 0.0 1.1 3.5 0.5
-------- -------- -------- --------
Net income (loss) ............... 0.0% 1.4% (6.2)% (1.5)%
======== ======== ======== ========
THREE MONTHS ENDED JUNE 30, 2000, COMPARED TO THE THREE MONTHS ENDED JULY 31,
1999 NET SALES.
Net sales for the three months ended June 30, 2000 decreased $1 million,
or 6.6%, to $13.6 million, from $14.6 million in the second quarter of 1999.
Sales in the 2000 quarter included $2.3 million in sales of Meritus items.
Excluding these Meritus items, net sales decreased $3.2 million, or 22.2%, from
the second quarter of 1999. The total decrease was due primarily to decreased
sales in juvenile audio, partially offset by increased sales of girls' toys.
"See Item 2 - Introduction and Note 1 to Consolidated Financial Statements."
Net sales of juvenile audio products during the second quarter ended June
30, 2000 decreased $3.3 million, or 35.5%, to $6.0 million, from $9.3 million in
the second quarter of 1999. This decrease was due primarily to a reduction in
sales of walkie-talkies, due to a product line transition, and lower sales of
musical keyboards and guitars.
Net sales of girls' toys increased $3.7 million, or 285%, to $5.0 million
during the second quarter ended June 30, 2000 from $1.3 million in the second
quarter in 1999. Meritus items contributed $2.3 million of this increase.
Excluding these Meritus items, net sales of girls toys in the second quarter of
2000 were $2.7 million, a
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108% increase from the second quarter of 1999. The increased sales for the
second quarter were also driven by sales of the SWEET FAITH(R)and HUSH LI'L
BABY(TM) dolls.
Net sales of boys' toys decreased $900,000, or 30%, to $2.1 million in the
second quarter ended June 30, 2000, from $3.0 million in the second quarter of
1999. The decrease was primarily due to a decrease in sales of western guns and
boys generic military and remote control cars from the second quarter of 1999.
Net sales of products in other categories during the second quarter ended
June 30, 2000 decreased $450,000, or 45%, to $550,000 during the second quarter
ended June 30, 2000 from $1.0 million in the second quarter of 1999. The
decrease was due primarily to reduced sales of hand held games in the second
quarter of 2000 as compared to the second quarter of 1999.
International net sales for the three months ended June 30, 2000 decreased
$1.5 million, or 38%, to $2.4 million, from $3.9 million in the second quarter
of 1999. The decrease was due primarily to decreased sales in Canada and France.
GROSS PROFIT. Gross profit increased $500,000, or 13%, to $4.0 million for
the second quarter ended June 30, 2000, from $3.5 million in the second quarter
of 1999. Gross profit as a percentage of net sales increased to 29% in the
second quarter ended June 30, 2000 from 24% in the second quarter of fiscal
1999. The gross profit dollar increase reflects the change in product mix from
the previous period. The increase in gross profit as a percentage of sales
reflects the emphasis on proprietary products in the second quarter of 2000
versus the second quarter of 1999.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased to $3.6 million in the second quarter ended
June 30, 2000 compared with $3.0 million for the second quarter 1999, an
increase of $600,000. The increase was primarily due to additional expenses,
including those associated with the Meritus merger, such as salaries,
professional fees and goodwill amortization.
INTEREST EXPENSE. Interest expense during the second quarter ended June
30, 2000, increased to $404,000 from $134,000 in the second quarter of 1999 due
to borrowings associated with the Meritus merger.
SIX MONTHS ENDED JUNE 30, 2000, COMPARED TO THE SIX MONTHS ENDED JULY 31, 1999
NET SALES.
Net sales for the six months ended June 30, 2000 increased $1.9 million,
or 11%, to $20.5 million, from $18.6 million in the comparable period of 1999.
This increase included $4.2 million in sales of Meritus items. Excluding these
Meritus items, net sales decreased $2.2 million, or 12%, from the first six
months of 1999. The total increase was due to increased sales of girls' toys,
offset by decreases in other categories, primarily juvenile audio. "See
Item 2 - Introduction and Note 1 to Consolidated Financial Statements."
Net sales of juvenile audio products during the first six months ended
June 30, 2000 decreased $3.6 million, or 32%, to $7.8 million, from $11.4
million compared to the comparable period of 1999. This decrease was due
primarily to a reduction in sales of walkie-talkie, due to a product line
transition, and lower sales of musical keyboards and guitars.
Net sales of girls' toys increased $7.0 million, or 412%, to $8.7 million
during the first six months ended June 30, 2000 from $1.7 million in the first
six months in 1999. Meritus items contributed $4.2 million of this increase.
Excluding these Meritus items, net sales of girls toys in the first six months
of 2000 were $4.5 million, a 264% increase from the first six months of 1999.
The increased sales for the first quarter were also driven by sales of the SWEET
FAITH(R) and HUSH LI'L BABY(TM) dolls.
Net sales of boys' toys decreased $1 million, or 25%, to $3 million in the
first six months ended June 30, 2000, from $4.0 million in the first six months
of 1999. The decrease was primarily due to a decrease in sales of the remote
control gyrocycle, and western and novelty guns from the first six months of
1999.
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Net sales of products in other categories during the first six months
ended June 30, 2000 decreased $400,000, or 29%, to $1.0 million from $1.4
million in the first six months of 1999. The decrease was due primarily to
reduce sales of hand-held games in the first quarter of 2000 as compared to the
first quarter of 1999.
International net sales for the six months ended June 30, 2000 decreased
$1.2 million, or 26%, to $3.5 million, from $4.7 million in the first six months
ended July 31, 1999. The decrease was due primarily to decreased sales to
Canada, France, South Africa and Spain.
GROSS PROFIT. Gross profit increased $1.0 million, or 22%, to $5.6 million
for the first six months ended June 30, 2000, from $4.6 million in the first six
months of 1999. Gross profit as a percentage of net sales increased to 27.3% in
the first six months ended June 30, 2000 from 24.7% in the first six months of
fiscal 1999. The gross profit dollar increase reflects the increased sales
volume for the six month period. The increase in gross profit as a percentage of
sales reflects the emphasis on proprietary products in 2000 versus 1999.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased to $7.0 million in the first six months ended
June 30, 2000 compared with $4.7 million for the first six months of fiscal
1999, an increase of $2.3 million. The increase was primarily due to additional
expenses, including those associated with the Meritus merger, such as salaries,
professional fees and goodwill amortization, as well as increased marketing and
travel expenses for toy line promotions.
INTEREST EXPENSE. Interest expense during the first six months ended June
30, 2000, increased to $674,000 from $253,000 in the first six months of 1999
due to borrowings associated with the Meritus merger.
LIQUIDITY AND CAPITAL RESOURCES
Historically, the Company has funded its operations and capital
requirements with cash generated from operations and borrowings. The Company's
primary capital needs have consisted of acquisitions of inventory, financing
accounts receivable and capital expenditures for product development.
The seasonal nature of the toy business results in complex working capital
needs. The Company's working capital needs, which the Company generally
satisfies through short-term borrowings, are greatest in the first two quarters.
To manage these working capital requirements, the Company maintains credit
facilities secured principally by accounts receivable and inventory. The Company
currently has a line of credit facility with State Street Bank and Trust Company
- Hong Kong Branch (the "Hong Kong Credit Facility") and a revolving credit
facility with Sunrock Capital Corp. (the "Revolver"). At July 31, 2000 the
Company had additional eligible borrowing capacity of $1.1 million in the
aggregate under the Revolver and the Hong Kong Credit Facility.
The Company's operating activities used net cash of $4.9 million during
the first six months of fiscal year 2000, consisting primarily of increases in
accounts receivable, inventory and accounts payable. Net cash used in investing
activities was $1.9 million and was primarily the result of capital expenditures
and the acquisition of Meritus. Net cash provided in financing activities was
$6.8 million including $3.0 million in net borrowings under revolving lines of
credit and net borrowings of long-term debt of $8.2 million, offset by the
payment of $4.4 million in debt assumed in the Meritus acquisition. The
Company's working capital at June 30, 2000 was $3.5 million and unrestricted
cash was $558,000, and the Company's working capital at July 31, 1999 was $3.1
million and unrestricted cash was $701,000.
The Company believes that available borrowings under the Revolver and the
Hong Kong Credit Facility, which was $1.1 million at July 31, 2000, together
with cash from operations will be sufficient to meet the Company's operating
cash requirements, fund the Company's anticipated capital expenditures and fund
scheduled debt service for the foreseeable future. In the event the Company's
operations do not generate sufficient cash flow and borrowing capacity to meet
the Company's requirements, the Company would be required to look to alternative
financial resources, such as issuing additional debt and equity securities. "See
Item 2 - Seasonality."
The Company has projected approximately $900,000 for capital expenditures,
consisting primarily of purchases of tools and molds for fiscal 2000.
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On January 7, 2000, the Company acquired all of the issued and outstanding
stock of Meritus in exchange for (i) 600,000 unregistered shares of the
Company's common stock, less 66,792 shares of the Company's common stock, which
shares were initially held by the Company and payable to Walter and Susan
Reiling ("the Reilings") upon satisfaction of certain post-closing conditions as
set forth in the Closing and Holdback Agreement between the parties; (ii)
$884,034 in cash; and (iii) the Company's Subordinated Secured Promissory Note
for $1,690,000 paid to the Reilings, who were the sole shareholders of Meritus.
Based upon the final accounting at the end of the holdback period (June 7, 2000)
the post-closing conditions were not satisfied and none of the held back
(66,792) shares will be paid to the Reilings. The note, bearing interest at
10.0375% per annum, requires quarterly principal and interest payments beginning
April 1, 2000. Contemporaneously with the merger, the Company satisfied
approximately $4.4 million of Meritus' debt.
The Company borrowed $5 million from MVII which is evidenced by a
promissory note dated January 7, 2000. The note bears interest at a rate of
prime plus 2%, matures on July 1, 2004 and is subordinate to the Revolver. The
proceeds from the note were used for the payment of Meritus' debt, described
above.
In addition, the Company is obligated to make future minimum royalty
payments under certain of its license agreements. As of June 30, 2000, the
Company was required to pay guaranteed royalties under these licenses of
$268,000, $291,000 and $150,000 per year from 2000 through 2002, respectively.
As part of the Company's strategy, the Company will continue to evaluate
potential acquisitions of other toy businesses or product lines that the Company
believes would complement its existing business.
SEASONALITY
The retail toy industry is very seasonal with the Christmas holiday season
representing over two-thirds of total annual retail toy sales. The Company has
experienced this seasonal pattern in its net sales. To accommodate this peak
selling season, holiday toy lines are introduced early in the first calendar
quarter. Retailers generally commit to their holiday season purchases during the
first two calendar quarters and those orders are generally shipped to the
retailers' distribution centers on a scheduled basis from May through October.
During fiscal 1999, 80% of the Company's net sales were made during the
Company's second and third fiscal quarters (May through October), generally in
connection with retail sales for the Christmas holiday season. As a result of
the seasonality of the Company's business, the Company expects that it will
incur a loss in the first quarter and fourth quarter of each fiscal year, even
in years in which the Company is profitable for the entire year.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is involved in various legal proceedings and claims incident
to the normal conduct of its business. The Company believes that such legal
proceedings and claims, individually and in the aggregate, are not likely to
have a material adverse effect on its financial position or results of
operations. The Company maintains product liability and general liability
insurance in amounts it believes to be reasonable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its annual meeting of shareholders on May 23, 2000. At
that meeting, the Shareholders were presented with proposals with respect to (i)
the election of directors whose three-year terms expire in 2003, (ii) the
adoption and approval of a proposal to amend the Company's Stock Option Plan to
increase from 900,000 to 1,200,000 the aggregate number of shares of the Company
Stock reserved for issuance under the Plan and related conforming changes, and
(iii) the approval and retaining of PricewaterhouseCoopers LLP as the
independent public accounting firm for the fiscal year ending December 31, 2000
to perform audits and other services. The results of the vote of the
shareholders at its annual meeting are set forth below with respect to each of
the proposals presented.
(i) Messrs. M.D. Davis, Joseph N. Matlock and Walter S. Reiling were the
nominees for the class of directors whose three-year terms will expire in
2003. Shares of the Company's Common Stock with respect to the election of
such directors were voted as follows: with respect to Mr. Davis, the
number of votes that were cast for his election were 8,669,548 and the
number of votes withheld were 8,336; with respect to Mr.Matlock, the
number of votes that were cast for his election were 8,669,548 and the
number of votes withheld were 8,336; and with respect to Mr. Reiling, the
number of votes that were cast for his election were 8,669,548 and the
number of votes withheld were 8,336. Messrs. Davis, Matlock and Reiling
were elected for terms expiring on the date of the annual meeting of
shareholders in 2003.
(ii) With respect to the proposal to amend the Company's Stock Option Plan (a)
to increase from 900,000 to 1,200,000 the aggregate number of shares of
Common Stock of the Company reserved for issuance under the Plan and (b)
to make certain conforming changes, shares of the Company's Common Stock
were voted as follows: the number of votes cast for such proposal was
8,598,864 number of votes cast against was 56,305 and the number of votes
abstaining was 22,715.
(iii) With respect to the proposal to retain PricewaterhouseCoopers LLP as the
independent public accounting firm for the fiscal year ending December 31,
2000 to perform audits and other services. Shares of the Company's Common
Stock were voted as follows: the number of votes cast for such proposal
was 8,668,576, the number of votes cast against was 6,308, and the number
of votes abstaining was 3,000.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The information required by this Item 6(a) is set forth in the Index to
Exhibits accompanying this quarterly report and is incorporated herein by
reference.
(b) Reports Submitted on Form 8-K.
None.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DSI Toys, Inc.
Dated: August 14, 2000 /s/ MICHAEL J. LYDEN
-------------------------------------------------
Michael J. Lyden
President and Chief Executive Officer
Dated: August 14, 2000 By: /s/ ROBERT L. WEISGARBER
-------------------------------------------------
Robert L. Weisgarber
Chief Financial Officer
(Principal Financial and Accounting Officer)
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INDEX TO EXHIBITS
2.1 Articles/Certificate of Merger of Meritus Industries, Inc. into the
Company, dated January 7, 2000 (filed as Exhibit 2.2 to the Company's Form
8-K dated January 7, 2000), incorporated herein by reference.
3.1 Amended and Restated Articles of Incorporation of the Company. (1)
3.1.1 Amendment to Amended and Restated Articles of Incorporation of the Company
(filed as Exhibit 3.1.1 to the Company's Form 10-Q for the quarterly
period ended April 30, 1999), incorporated herein by reference.
3.2 Amended and Restated Bylaws of the Company. (1)
3.3 Amendment to Amended and Restated Bylaws of the Company. (1)
10.1 Agreement and Plan of Merger between Meritus Industries, Inc. et al. and
the Company, dated October 7, 1999 (filed as Exhibit 10.45 to the
Company's Form 10-Q for the quarterly period ended October 31, 1999),
incorporated herein by reference.
10.2 Closing and Holdback Agreement dated January 7, 2000, by and between the
Company and Meritus Industries, Inc., et al. (filed as Exhibit 2.3 to the
Company's Form 8-K dated January 7, 2000), incorporated herein by
reference.
10.3 Shareholders' and Voting Agreement dated January 7, 2000, by and among the
Company, MVII, LLC and Walter S. and Susan Reiling (filed as Exhibit 10.1
to the Company's Form 8-K dated January 7, 2000), incorporated herein by
reference.
10.4 Limited Irrevocable Proxy dated January 7, 2000, between MVII, LLC and
Walter S. and Susan Reiling (filed as Exhibit 10.2 to the Company's Form
8-K dated January 7, 2000), incorporated herein by reference.
10.5 Registration Rights Agreement dated January 7, 2000, by and between the
Company and Walter S. and Susan Reiling (filed as Exhibit 10.3 to the
Company's Form 8-K dated January 7, 2000), incorporated herein by
reference.
10.6 Subordinated Secured Promissory Note dated January 7, 2000, from the
Company to Walter S. and Susan Reiling (filed as Exhibit 10.4 to the
Company's Form 8-K dated January 7, 2000), incorporated herein by
reference.
10.7 Promissory Note dated January 7, 2000, from the Company to MVII, LLC
(filed as Exhibit 10.5 to the Company's Form 8-K dated January 7, 2000),
incorporated herein by reference.
10.8 Amendment No. 2 dated January 7, 2000, to Loan and Security Agreement, by
and between Sunrock Capital Corp. and the Company (filed as Exhibit 10.6
to the Company's Form 8-K dated January 7, 2000), incorporated herein by
reference.
10.9 Employment Agreement dated January 7, 2000, by and between the Company and
Beth Reiling (filed as Exhibit 10.7 to the Company's Form 8-K dated
January 7, 2000), incorporated herein by reference.
10.10 Employment Agreement dated January 7, 2000, by and between the Company and
Joseph Reiling (filed as Exhibit 10.8 to the Company's Form 8-K dated
January 7, 2000), incorporated herein by reference.
10.11 Amendment No. 2 to DSI Toys, Inc. 1997 Stock Option Plan.*
10.12 Amendment No. 3 dated July 14, 2000, to Loan and Security Agreement, by
and between Sunrock Capital Corp. and the Company.*
27 Financial Data Schedule. *
16
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INDEX TO EXHIBITS, CONTINUED
99.1 DSI Toys, Inc. Audit Committee of the Board of Directors, Charter, adopted
by the Board of Directors on May 23, 2000. *
(1) Filed as a part of the Registrant's Registration Statement on Form S-1
(No. 333-23961) and incorporated herein by reference.
* Filed herewith
17
