UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the thirteen week period ended November 27, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to _________
Commission File Number 333-44969-01
DESA HOLDINGS CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 22-2940760
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
2701 Industrial Drive, Bowling Green, KY 42101
(Address of principal executive offices) (Zip Code)
(270) 781-9600
(Registrant's telephone number, including area code)
Indicate by check 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 January 11, 2000, there were 15,552,547 shares of Registrant's Common
Stock, $.01 par value per share, and 90,604 shares of the Registrant's Nonvoting
Common Stock, $.01 par value per share, outstanding.
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DESA HOLDINGS CORPORATION
FORM 10-Q
November 27, 1999
INDEX
Page
<S> <C> <C>
PART I Financial Information
Item 1. Consolidated Financial Statements (Unaudited)
Consolidated Balance Sheets - November 27, 1999 and February 27, 1999 3
Consolidated Statements of Operations - Thirteen and Thirty-nine Week
ended November 27, 1999 and November 28, 1998 4
Consolidated Statements of Stockholders' Equity (Deficit) 5
Consolidated Statements of Cash Flows - Thirty-nine Weeks
ended November 27, 1999 and November 28, 1998 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 13
Item 3. Quantitative and Qualitative Disclosures About Market Risk 18
PART II Other Information
Item 6. Exhibits and Reports on Form 8-K 20
Signatures 21
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2
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<TABLE>
<CAPTION>
DESA HOLDINGS CORPORATION
CONSOLIDATED BALANCE SHEETS
November 27, February 27,
1999 1999
-------------- --------------
(in thousands) (in thousands)
ASSETS (Unaudited)
- ------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 573 $ 888
Accounts receivable, net 88,308 30,390
Inventories:
Raw materials 788 986
Work-in-process 13,790 6,376
Finished goods 46,017 37,891
----------- -----------
60,595 45,253
Deferred tax assets 2,137 2,137
Other current assets 1,919 1,321
----------- -----------
Total current assets 153,532 79,989
Property, plant and equipment:
Land 390 390
Buildings and improvements 6,051 6,173
Machinery and equipment 37,769 34,527
Furniture and fixtures 668 725
----------- -----------
44,878 41,815
Less accumulated depreciation 29,943 26,182
----------- -----------
14,935 15,633
Goodwill, net 94,445 81,882
Deferred tax assets 598 598
Other assets 23,148 25,250
----------- -----------
Total assets $ 286,658 $ 203,352
=========== ===========
Liabilities and stockholders' equity (deficit)
Current liabilities:
Accounts payable $ 48,474 $ 25,232
Accrued interest 8,412 3,075
Other accrued liabilities 29,855 10,732
Current portion of long-term debt 27,544 13,307
----------- -----------
Total current liabilities 114,285 52,346
Long-term debt 285,766 285,138
Other liabilities 14,880 599
----------- -----------
Total liabilities 414,931 338,083
Commitments
Series C redeemable preferred stock, $.01 par value; authorized--
40,000 shares; issued and outstanding-- 21,180 shares at November 27,
1999 and 19,990 shares at February 27, 1999 (liquidation preference -
$22,224,000 at November 27, 1999 and $20,371,000 at February 27, 1999) 18,591 17,207
Stockholders' equity (deficit):
Common stock, $.01 par value; authorized-- 50,000,000 shares; issued and
outstanding-- 15,552,547 shares at November 27, 1999 and 15,548,692 shares
at February 27, 1999 155 155
Nonvoting common stock, $.01 par value; authorized-- 3,000,000
shares; issued and outstanding-- 90,604 shares at November 27, 1999
and February 27, 1999 1 1
Capital in excess of par value 98,009 97,984
Carryover predecessor basis adjustment (32,309) (32,309)
Accumulated deficit (210,966) (216,742)
Accumulated other comprehensive loss (1,754) (1,027)
----------- -----------
Total stockholders' equity (deficit) (146,864) (151,938)
----------- -----------
Total liabilities and stockholders' equity (deficit) $ 286,658 $ 203,352
=========== ===========
See accompanying notes
</TABLE>
3
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<CAPTION>
DESA HOLDINGS CORPORATION
Consolidated Statements of Operations
(in thousands)
(Unaudited)
Thirteen Weeks Ended Thirty-nine Weeks Ended
Nov 27, Nov 28, Nov 27, Nov 28,
1999 1998 1999 1998
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Net sales $156,763 $134,679 $317,480 $250,849
Cost of sales 100,983 87,055 210,783 166,996
-------- -------- -------- --------
Gross profit 55,780 47,624 106,697 83,853
Operating costs and expenses:
Selling 25,363 19,570 54,557 40,323
General and administrative 4,252 3,762 11,300 9,726
Other 1,613 1,712 4,677 3,850
-------- -------- -------- --------
31,228 25,044 70,534 53,899
-------- -------- -------- --------
Operating profit 24,552 22,580 36,163 29,954
Interest expense 7,589 7,559 21,551 20,796
-------- -------- -------- --------
Income before provision for income taxes 16,963 15,021 14,612 9,158
Provision for income taxes 7,727 6,808 6,788 4,188
-------- -------- -------- --------
Net Income 9,236 8,213 7,824 4,970
Less dividends and accretion on preferred stock 699 627 2,047 1,830
-------- -------- -------- --------
Income applicable to common stockholders $ 8,537 $ 7,586 $ 5,777 $ 3,140
======== ======== ======== ========
</TABLE>
4
See accompanying notes
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<CAPTION>
DESA Holdings Corporation
Consolidated Statements of Stockholders' Equity (Deficit)
(in thousands)
(Unaudited)
Carryover Cumulative
Nonvoting Capital in Predecessor Other Total
Common Common Excess of Basis Accumulated Comprehensive Stockholders'
Stock Stock Par Value Adjustment Deficit Loss Deficit
-------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at
February 27, 1999 $155 $1 $97,984 ($32,309) ($216,742) ($1,027) ($151,938)
Comprehensive income:
Net Income 7,824 7,824
Foreign currency
translation adjustment (727) (727)
------------
Comprehensive income 7,097
------------
Accretion of preferred stock (194) (194)
Dividends on preferred stock (1,853) (1,853)
Issuance of common stock 25 25
-------------------------------------------------------------------------------------- ------------
Balance at
November 27, 1999 $155 $1 $98,009 ($32,309) ($210,966) ($1,754) ($146,864)
====================================================================================== ============
</TABLE>
See accompanying notes
5
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<CAPTION>
DESA HOLDINGS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)
Thirty-nine Weeks Ended
Nov 27, Nov 28,
1999 1998
----------- -----------
<S> <C> <C>
Cash flows from operating activities
Net income $ 7,824 $ 4,970
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation 3,767 2,957
Amortization 4,478 3,511
Deferred income taxes -- (15)
Equity in undistributed earnings of joint venture (158) (117)
(Increase) decrease in operating assets:
Accounts receivable, net (57,918) (58,457)
Inventories (15,342) (7,674)
Other current assets (598) (570)
Increase (decrease) in operating liabilities:
Accounts payable 23,242 23,896
Accrued interest 5,417 1,074
Other accrued liabilities 11,990 (272)
Income taxes payable 6,470 2,759
Other liabilities 161 146
-------- --------
Net cash used in operating activities $(10,667) $(27,792)
-------- --------
Investing activities
Capital expenditures (3,069) (3,645)
Dividends received from joint venture 139 123
Net cash paid for acquisition of businesses -- (39,635)
Other (825) (986)
-------- --------
Net cash used in investing activities $ (3,755) $(44,143)
-------- --------
Financing activities
Increase in working capital loan 17,762 32,657
Decrease in note payable (202) --
Principal payments of term loans (2,775) (1,725)
Issuance of common stock 25 12,076
Increase in acquisition loans -- 30,000
Payment of preferred stock expenses -- (96)
Payment of debt financing costs (703) (1,193)
-------- --------
Net cash provided by financing activities 14,107 71,719
Effect of exchange rates on cash -- 4
-------- --------
Decrease in cash and cash equivalents for the period (315) (212)
Cash and cash equivalents at beginning of period 888 794
-------- --------
Cash and cash equivalents at end of period $ 573 $ 582
======== ========
</TABLE>
See accompanying notes
6
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DESA HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. Basis of Presentation
The interim consolidated financial statements for the periods presented herein
have not been audited by independent public accountants. In the opinion of
management of DESA Holdings Corporation (the "Company" or "Holdings"), all
adjustments (consisting only of normal recurring accruals) considered necessary
to present fairly the results of operations for the periods have been included.
Interim results are not necessarily indicative of results for a full year. Sales
of the Company's zone heating products follow seasonal patterns that affect the
Company's results of operations including inventory levels, accounts receivable
levels and debt levels during the year.
The unaudited consolidated financial statements have been prepared by the
Company in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Certain information and footnote disclosures normally included
in the financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations.
The consolidated balance sheet presented as of February 27, 1999, has been
derived from the consolidated financial statements that have been audited by the
Company's independent auditors. The consolidated financial statements and notes
thereto included herein should be read in conjunction with the consolidated
financial statements and notes thereto included in the Company's Annual Report
on Form 10-K.
2. Summary of Significant Accounting Policies
Consolidation
The accompanying consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiary, DESA International, Inc. ("DESA") and
all of its wholly-owned subsidiaries, including DESA Industries of Canada, Inc.,
DESA Europe BV, DESA Industries of V.I., Inc., and Heath Company Limited. All
significant intercompany accounts and transactions have been eliminated. DESA's
50% interest in a joint venture is accounted for using the equity method.
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 reported period. Actual
results can differ from those estimates.
7
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DESA HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Summarized Financial Information of DESA International, Inc
DESA International, Inc. is the issuer of the 9 7/8% Senior Subordinated Notes.
The Company has not presented separate financial statements and other
disclosures concerning DESA International, Inc. because management has
determined that such information is not material to holders of the Senior
Subordinated Notes.
The following summarized consolidated financial information is being provided
for DESA International, Inc. as of November 27, 1999 and February 27, 1999 and
for the thirteen and thirty-nine weeks ended November 27, 1999 and November 28,
1998.
Summarized consolidated balance sheet information (in thousands):
November 27, February 27,
1999 1999
---------------------------------
Assets
Current assets $ 261,612 $ 187,892
Net fixed assets 14,935 15,633
Goodwill, net 93,332 80,744
Deferred tax assets 598 598
Other assets 23,148 25,250
----------------------------
$ 393,625 $ 310,117
============================
Liabilities and stockholders' deficit
Current liabilities $ 113,176 $ 51,939
Long-term debt 153,750 153,000
9 7/8% Senior Subordinated Notes 130,000 130,000
Other liabilities 14,880 599
Stockholders' deficit (18,181) (25,421)
----------------------------
$ 393,625 $ 310,117
============================
Summarized consolidated statements of operations information (in thousands):
<TABLE>
<CAPTION>
Thirteen Weeks Ended Thirty-nine Weeks Ended
November 27, November 28, November 27, November 28,
1999 1998 1999 1998
------------------------------ ------------------------------
<S> <C> <C> <C> <C>
Net Sales $ 156,763 $ 134,679 $ 317,480 $ 250,849
Income before income taxes 16,963 15,021 14,612 9,158
Net income 9,236 8,213 7,824 4,970
</TABLE>
8
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DESA HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Impact of Recently Issued Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" ("FAS 133"). FAS 133 must first be applied in the first
quarter of fiscal years that begin after June 15, 2000. FAS 133 will require
Holdings to recognize all derivatives on the consolidated balance sheets at fair
value. Derivatives that are not hedges must be adjusted to fair value through
income. If the derivative is a hedge, depending on the nature of the hedge,
changes in the fair value of derivatives will either be offset against the
change in fair value of the hedged assets, liabilities or firm commitments
through earnings or recognized in other comprehensive income until the hedged
item is recognized in earnings. The ineffective portion of a derivatives change
in fair value will immediately be recognized in earnings. Management does not
believe that FAS 133 will have a significant effect on the earnings and
financial position of the Company. The Company expects to adopt FAS 133
beginning in the first quarter of fiscal 2002 which begins in March 2001.
3. Financing Arrangements
Outstanding borrowings consist of the following (in thousands):
November 27, February 27,
1999 1999
--------------------------
9 7/8% Senior Subordinated Notes due 2007 (A) $130,000 $130,000
NationsBank and various banks Term A Loan (B) 42,600 44,875
NationsBank and various banks Term B Loan (C) 48,250 48,750
NationsBank and various banks Working Capital Loan
Commitment (D) 40,444 22,682
NationsBank and various banks Acquisition Loan (E) 20,000 20,000
NationsBank and various banks Acquisition B Loan (F) 30,000 30,000
Note payable related to acquisition of Heath (G) 2,016 2,138
-------- --------
Total outstanding borrowings 313,310 298,445
Less current portion of long-term debt 27,544 13,307
-------- --------
Total long-term debt $285,766 $285,138
======== ========
(A) The Senior Subordinated Notes are payable on December 15, 2007 and
accrue interest at a rate of 9.875% per annum. Interest is payable
semi-annually on June 15 and December 15, commencing on June 15, 1998.
The Senior Notes can be redeemed prior to the mandatory redemption date
based upon the occurrence of certain events, as defined. DESA is the
issuer of the Senior Subordinated Notes, which are fully and
unconditionally guaranteed by Holdings.
(B) The Term A Loan is payable in quarterly installments through November
26, 2003, and accrues interest at the prime rate plus 2.00% or LIBOR
plus 3.00% at the option of the Holdings. As of November 27, 1999 the
interest rate was 8.75%. Interest is payable on a quarterly basis under
the prime rate option or at the end of each LIBOR period. Once repaid,
the Term A Loan may not be reborrowed.
(C) The Term B Loan is payable in quarterly installments through November
26, 2004, and accrues interest at the prime rate plus 2.25% or LIBOR
plus 3.25% at the option of Holdings. As of November 27, 1999 the
interest rate was 9.00%. Interest is payable on a quarterly basis under
the prime rate option or at the end of each LIBOR period. Once repaid,
the Term B Loan may not be reborrowed.
9
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DESA HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(D) The Working Capital Loan Commitment is payable at any time at the
option of Holdings prior to November 26, 2003, and accrues interest at
the prime rate plus 2.00% or LIBOR plus 3.00%, at the option of
Holdings. As of November 27, 1999 $.7 million was accruing interest at
a rate of 10.50% with the balance accruing interest at rates between
8.41% and 8.44%. Interest is payable on a quarterly basis under the
prime rate option or at the end of each LIBOR period. Holdings can
utilize letters of credit under the Working Capital Loan Commitment up
to $10 million. As of November 27, 1999, letters of credit of
$3,333,000 are outstanding under the Working Capital Loan Commitment.
Borrowings are generally limited to specific percentages of eligible
trade receivables and inventory. Holdings pays commitment fees of 1/2
of 1% per annum on the daily unutilized Working Capital Loan
Commitment.
(E) The Acquisition Loan is payable in quarterly installments commencing in
February 2000 and extending through November 26, 2003, and accrues
interest, which is payable quarterly, at the prime rate plus 2.25% or
LIBOR plus 3.25% at the option of Holdings. As of November 27, 1999 the
interest rate was 9.41%. Once repaid, the Acquisition Loan may not be
reborrowed.
(F) The Acquisition B Loan is payable in quarterly installments commencing
in February 2000 and extending through November 26, 2003 and accrues
interest, which is payable quarterly, at the prime rate plus 2.25% or
LIBOR plus 3.25% at the option of Holdings. As of November 27, 1999 the
interest rate was 9.35%. Once repaid, the Acquisition B Loan may not be
reborrowed.
(G) The note payable is due on December 31, 2008 and accrues interest,
which is payable semi-annually beginning June 30, 1998, at a rate of
7.5% per annum. Holdings may elect, upon written notice, to defer any
interest payments, in which event such interest payments shall
effectively convert to principal and accrue interest at a rate of 7.5%
per annum. In fiscal 2000, $80,000 of interest payments were deferred
and were converted into principal.
In accordance with the terms of the Credit Facility, the ability of DESA to
incur additional indebtedness is limited, as defined. At November 27, 1999, DESA
can incur additional indebtedness of $31.2 million.
4. Comprehensive Income
Comprehensive income consisted of the following (in thousands):
<TABLE>
<CAPTION>
Thirteen Weeks Ended Thirty-nine Weeks Ended
November 27, November 28, November 27, November 28,
1999 1998 1999 1998
----------------------------------------------------------
<S> <C> <C> <C> <C>
Net income $ 9,236 $ 8,213 $ 7,824 $ 4,970
Net change in foreign currency
translation adjustment (425) 131 (727) (406)
------- ------- ------- -------
Comprehensive income $ 8,811 $ 8,344 $ 7,097 $ 4,564
======= ======= ======= =======
</TABLE>
As of November 27, 1999 and November 28, 1998 the cumulative other comprehensive
loss consisted solely of the Company's foreign currency translation adjustment.
10
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DESA HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
5. Segment Information
The Company is organized into two primary product categories: (a) zone heating
products, which include indoor room heaters, hearth products and outdoor
heaters, and (b) specialty products, which include specialty tools and home
security products.
Corporate expenses include corporate headquarters staff, a modest portion of the
cost of certain support functions, including accounting, management information
systems, human resources and treasury and the amortization of deferred financing
costs.
Identifiable assets are those assets of the Company that are identified with the
operations in each product segment. Corporate assets include primarily cash,
deferred income taxes and deferred financing costs. Operating results and other
financial data for the two business segments for the periods ended November 27,
1999 and November 28, 1998 are presented below (in thousands):
<TABLE>
<CAPTION>
Zone Heating Specialty General
Products Products Corporate Total
---------------------------------------------------------------
<S> <C> <C> <C> <C>
Thirteen weeks ended November 27, 1999
Net sales $104,275 $ 52,488 -- $156,763
Operating profit (loss) 19,161 6,863 $ (1,472) 24,552
Depreciation and amortization 2,069 478 419 2,966
Identifiable assets 176,370 96,496 13,792 286,658
Capital expenditures 190 231 -- 421
Thirteen weeks ended November 28, 1998
Net sales 95,852 38,827 -- 134,679
Operating profit (loss) 17,776 6,047 (1,243) 22,580
Depreciation and amortization 2,113 432 466 3,011
Identifiable assets 153,978 93,345 17,047 264,370
Capital expenditures 568 268 3 839
<CAPTION>
Zone Heating Specialty General
Products Products Corporate Total
---------------------------------------------------------------
<S> <C> <C> <C> <C>
Thirty-nine weeks ended November 27, 1999
Net sales $175,143 $142,337 -- $317,480
Operating profit (loss) 22,943 16,836 $ (3,616) 36,163
Depreciation and amortization 4,927 2,080 1,238 8,245
Identifiable assets 176,370 96,496 13,792 286,658
Capital expenditures 1,945 1,096 28 3,069
Thirty-nine weeks ended November 28, 1998
Net sales 148,000 102,849 -- 250,849
Operating profit (loss) 20,819 12,381 (3,246) 29,954
Depreciation and amortization 3,891 1,358 1,219 6,468
Identifiable assets 153,978 93,345 17,047 264,370
Capital expenditures 3,059 517 69 3,645
</TABLE>
11
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DESA HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
6. Prior Period Acquisitions
On August 19, 1998, the Company consummated two acquisitions. The Company
acquired by merger Fireplace Manufacturers, Inc. ("FMI") for a net cash
purchase price of $25,805,000. The purchase price includes non-compete
agreements with certain executives of FMI covering a three year period for
aggregate payments of $3,050,000. The Company also acquired certain of the
assets of Universal Heating, Inc. ("UHI") through Desa U. S. Inc., which then
merged into DESA, for a cash purchase price of $12,634,000, including
non-compete payments of $1,998,000. The Company financed the two acquisitions
through borrowings of $26,363,500 under the Credit Facility (Term Loan B) and
the issuance of Common Stock for $12,075,500.
The Company accounted for such acquisition using the purchase method. The
following summarizes the fair value of the assets acquired and liabilities
assumed at August 19, 1998 for the two acquisitions (in thousands):
Current assets $ 4,450
Property, plant and equipment 1,201
Other assets 15,734
Goodwill 34,234
Current liabilities (3,060)
Long Term liabilities (14,120)
--------
$ 38,439
12
<PAGE>
DESA HOLDINGS CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This quarterly report on Form 10-Q of Desa Holdings Corporation (the "Company"),
which includes its consolidated subsidiaries unless the context indicates
otherwise, contains statements that constitute forward looking statements within
the meaning of Section 21E of the Securities Exchange Act of 1934, as amended.
Those statements appear in a number of places in this report and include
statements regarding the strategies, plans, beliefs or current expectations of
the Company and its management and other statements that are not historical
facts. Readers are cautioned that any such forward looking statements are not
guarantees of future performance and involve risks and uncertainties, and that
actual results may differ materially from those set forth in such forward
looking statements as a result of various factors. Such factors include, but are
not limited to, the Company's vulnerability to adverse general economic and
industry conditions because of its leverage, the Company's ability to obtain
future financing on acceptable terms, the Company's ability to integrate
acquired companies and to complete acquisitions on satisfactory terms, the
demand and price for the Company's products relative to production costs, the
seasonality of the Company's business and uncertainties regarding the resolution
of Year 2000 problems. The Company undertakes no obligation to release publicly
the results of any revisions to these forward looking statements that may be
made to reflect errors or circumstances that occur after the date hereof.
The following discussion of the Company's results of operations and financial
condition for the thirteen and thirty-nine week periods ended November 27, 1999
and November 28, 1998, should be read in conjunction with the consolidated
financial statements of the Company and the notes thereto contained herein, as
well as for the fiscal year ended February 27, 1999, included in the Company's
Annual Report on Form 10-K.
Overview
The Company is organized into two primary product categories: (a) zone heating
products, which include indoor room heaters, hearth products and outdoor
heaters, and (b) specialty products, which include specialty tools and home
security products. The Company records sales upon shipment of products to its
customers. Net sales constitute gross sales net of an accrual for returns and
allowances and cash discounts.
Sales of the Company's zone heating products follow seasonal patterns that
affect the Company's results of operations. Demand for the Company's zone
heating products has been historically highest in the third quarter, as
consumers prepare for winter. Consequently, the Company's net sales and
Company's fiscal operating profit have also been historically highest during the
Company's fiscal third quarter. Management believes that the Company's results
of operations will continue to follow this pattern; there can be no assurance,
however, that third quarter results will always surpass those of the first and
second quarters, or that any improvement shown will be as great as that shown in
previous years. In particular, unusually warm weather in the fall may reduce
demand for zone heating products.
The Company's net sales and operating profit of zone heating products in its
current fiscal year may be adversely affected by warm weather during the
preceding winter, which can result in higher inventory carryover by the
Company's customers. Last winter was unusually warm and, consequently, net sales
and operating profit of zone heating products were below normal levels; however
net sales and operating profits of zone heating products were above the prior
year results.
Sales of the Company's specialty products do not follow a significant seasonal
pattern and are not affected by weather patterns. Historically, these sales have
followed a relatively level quarterly pattern.
13
<PAGE>
Results of Operations
Thirteen Week Period Ended November 27, 1999, Compared to the Thirteen Week
Period Ended November 28, 1998
Net sales. Net sales in the thirteen weeks ended November 27, 1999, ("third
quarter 2000") were $156.8 million, an increase of 16% or $22.1 million compared
to the thirteen weeks ended November 28, 1998 ("third quarter 1999"). Zone
heating products had net sales of $104.3 million in third quarter 2000, an
increase of 9% or $8.4 million from the third quarter 1999. This increase is
primarily due to increased outdoor heating and hearth product sales volumes.
Specialty products had net sales of $52.5 million in the third quarter 2000, an
increase of 35% or $13.7 million over third quarter 1999, due to an increased
market demand for generators related to the concern of year 2000 computer
problems.
Cost of Sales. Cost of sales for third quarter 2000 of $101.0 million, an
increase of $13.9 million or 16% from third quarter 1999, was attributable to
the higher net sales for the period. Cost of sales was 64.4% of net sales in
third quarter 2000 compared to 64.6% for third quarter 1999.
Selling, General and Administrative Expenses. For third quarter 2000, selling,
general and administrative expenses were $31.2 million, an increase of $6.2
million or 25% from third quarter 1999 and are primarily attributable to the net
sales increase. As a percentage of net sales, selling, general and
administrative expenses were 20% for third quarter 2000 compared to 19% in third
quarter 1999. The change is the result of increased customer sales program costs
and increased shipping costs due to start-up inefficiencies related to a new
distribution center for heating products.
Operating Profit. Operating profit was $24.6 million for third quarter 2000
compared to an operating profit of $22.6 million for third quarter 1999, an
improvement of $2.0 million or 9%. Operating profit attributable to zone heating
products was $19.2 million for third quarter 2000, an increase of $1.4 million
or 8% from third quarter 1999. This is a result of the increased sales and
higher factory overhead absorption offset by higher shipping costs and selling
costs associated with the sales increase. Specialty products operating profit
was $6.9 million for the third quarter 2000, an increase of $.8 million or 14%
over third quarter 1999. This increase is attributable to the higher level of
specialty products sales and their related contribution margins.
EBITDA. EBITDA for the third quarter 2000 was $27.5 million, an increase of $1.9
million or 8% from third quarter 1999. EBITDA is defined as income before income
taxes plus interest expense and depreciation as well as amortization expense
associated with intangibles and deferred charges. EBITDA is presented because it
is a widely accepted financial indicator of a leveraged company's ability to
service and/or incur indebtedness and because management believes that EBITDA is
a relevant measure of the Company's ability to generate cash without regard to
the Company's capital structure or working capital needs. However, EBITDA should
not be considered as an alternative to net income as a measure of a company's
operating results or to cash flows from operating activities as a measure of
liquidity as defined by generally accepted accounting principles.
Interest Expense. Interest expense for third quarter 2000 was $7.6 million, the
same as third quarter 1999. The comparable level is a result of slightly lower
levels of borrowing and offset by increased interest rates in conjunction with
Amendment and Waiver No. 4 made to the Credit Facility on May 25, 1999.
Income Tax. The income tax rate was 46% for third quarter 2000 and is comparable
to the third quarter 1999 rate of 45%.
Net Income. Net income was $9.2 million for third quarter 2000 compared to net
income of $8.2 million for third quarter 1999, an improvement of $1.0 million.
This improvement is attributable to higher sales volume in both zone heating and
specialty products.
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Thirty-nine Week Period Ended November 27, 1999, Compared to the Thirty-nine
Week Period Ended November 28, 1998
Net sales. Net sales in the thirty-nine weeks ended November 27, 1999, ("year to
date 2000") were $317.5 million, an increase of 27% or $66.6 million compared to
the thirty-nine weeks ended November 28, 1998 ("year to date 1999"). Zone
heating products had net sales of $175.1 million in year to date 2000, an
increase of 18% or $27.1 million from the year to date 1999. This increase is
primarily due to the acquisition of Fireplace Manufacturers, Inc. ("FMI"),
increased outdoor heating and fireplace product demand.
Specialty products had net sales of $142.3 million in year to date 2000, an
increase of 38% or $39.5 million over year to date 1999, due to an increased
market demand for generators related to the fear of year 2000 computer problems
partially offset by a decrease in demand for specialty products due to higher
customer inventory levels.
Cost of Sales. For year to date 2000, cost of sales was $210.8 million, an
increase of $43.8 million or 26% from year to date 1999, attributable to the
higher net sales for the period. Cost of sales was 66% of net sales in year to
date 2000 compared to 67% for year to date 1999. This decrease is because of
lower manufacturing overhead per unit of zone heating products, primarily
resulting from higher year to date production levels and cost reduction programs
this year compared to a year ago.
Selling, General and Administrative Expenses. For year to date 2000, selling,
general and administrative expenses were $70.5 million, an increase of $16.6
million or 31% from year to date 1999, and are primarily attributable to the net
sales increase. As a percentage of net sales, selling, general and
administrative expenses were 22% for year to date 2000 compared to 22% in year
to date 1999. This comparable level, as a percentage of net sales, is associated
with proportional increases in selling expenses and increased volume, which
absorbed more of the fixed expenses in the engineering and administration areas.
The volume related improvements are offset by inefficiencies encountered with
the set-up of a new distribution facility for zone heating products.
Operating Profit. Operating profit was $36.2 million for year to date 2000
compared to $30.0 million for year to date 1999, an improvement of $6.2 million
or 21%. Operating profit attributable to zone heating products was $22.9 million
for year to date 2000, an increase of $2.1 million from year to date 1999. This
is a result of the increased sales and higher factory overhead absorption offset
by higher selling costs and shipping costs associated with the sales increase.
Specialty products operating profit was $16.8 million for year to date 2000, an
increase of $4.5 million or 36% over year to date 1999. This increase is
attributable to increased sales of specialty products and their related
contribution margins.
EBITDA. EBITDA for year to date 2000 was $44.4 million, an increase of $8.0
million or 22% over year to date 1999 of $36.4 million. EBITDA is defined as
income before income taxes plus interest expense and depreciation as well as
amortization expense associated with intangibles and deferred charges. EBITDA is
presented because it is a widely accepted financial indicator of a leveraged
company's ability to service and/or incur indebtedness and because management
believes that EBITDA is a relevant measure of the Company's ability to generate
cash without regard to the Company's capital structure or working capital needs.
However, EBITDA should not be considered as an alternative to net income as a
measure of a company's operating results or to cash flows from operating
activities as a measure of liquidity as defined by generally accepted accounting
principles.
Interest Expense. Interest expense for year to date 2000 was $21.6 million, an
increase of $.8 million or 4% compared to year to date 1999. The increase is
associated with higher levels of borrowing and increased interest rates in
conjunction with Amendment and Waiver No. 4 made to the Credit Facility on May
25, 1999.
Income Tax. The income tax rate was 46% for year to date 2000 is comparable to
the rate for year to date 1999 of 46%.
Net Income. Net income was $7.8 million for year to date 2000 compared to $5.0
million for year to date 1999, an improvement of $2.8 million or 57%. This
improvement is primarily attributable to higher sales volume in both zone
heating and specialty products.
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Liquidity and Capital Resources
The Company's primary cash needs have been for working capital, capital
expenditures and debt service requirements. The Company's sources of liquidity
have been cash flows from operations and borrowings under its revolving credit
facilities. The Company's business is subject to a pattern of seasonal
fluctuation. The Company's needs for working capital and the corresponding debt
levels tend to peak in the second and third fiscal quarters. The amount of sales
generated during the second and third fiscal quarters generally depends upon a
number of factors, including the level of retail sales for heating products
during the prior winter and current fall weather conditions affecting the level
of sales of heating products, general economic conditions, and other factors
beyond the Company's control.
Net cash used in operating activities for the year to date 2000 was $10.7
million compared to net cash used of $27.8 million for the year to date 1999.
This decrease in cash used of $17.1 million reflects the higher accrued
liabilities balance of $29.9 million, compared to $10.7 million in year to date
1999, offset by a higher inventory balance of $60.6 million, compared to $45.3
million in year to date 1999.
Net cash used in investing activities was $3.8 million for the year to date
2000, compared to $44.1 million for the year to date 1999. This lower cash used
for investing activities reflects the acquisition of FMI and Universal Heating,
Inc. ("UHI") in 1999. Net cash provided by financing activities for the year to
date 2000 was $14.1 million, compared to $71.7 million for the year to date
1999. The difference reflects a decrease in the working capital loan utilization
of $14.9 million, the prior year's issuance of Common Stock of $12.1 million,
and bank loans associated with the acquisitions of UHI and FMI of $30.0 million.
The Credit Facility provides for commitments in an aggregate amount of up to
$215.9 million. Borrowings outstanding under the Credit Facility were $181.3
million on November 27, 1999. Outstanding letters of credit and foreign currency
contracts established to facilitate merchandise purchases were $3.3 million and
$5.1 million, respectively, on November 27, 1999. The Company had the ability to
incur additional indebtedness of $31.2 million at November 27, 1999 under the
Credit Facility. The Company is in compliance with all its covenants under the
Credit Facility.
The Company expects that capital expenditures during fiscal 2000 will be
approximately $5.5 million. Capital expenditures are expected to be funded from
internally generated cash flows and by borrowings under the Credit Facility.
Management believes that cash flow from operations and availability under the
Credit Facility will provide adequate funds for the Company's foreseeable
working capital needs, planned capital expenditures and debt service
obligations. Additionally, the Company reviews potential acquisitions and
relationships from time to time and may be required to seek additional debt to
fund any acquisition. The Credit facility requires a Clean-Up Period, as
defined, under the Working Capital Loan Commitment, for a period of 30
consecutive days occurring between January 1 and May 30 in each calendar year
commencing January 1, 1998. During the Clean-Up Period, the sum of Working
Capital advances, Letter of Credit advances and Swing Line loan advances
outstanding shall not exceed $30,000,000 for any Clean-Up Period. As of November
27, 1999, approximately $10.4 million of working capital borrowings have been
classified as current as a result of the Clean-Up requirement. Such amount may
be reborrowed after compliance of the Clean-Up Period. The Company's ability to
fund its operations, make planned capital expenditures, make scheduled debt
payments, make desired acquisitions, finance indebtedness and remain in
compliance with all of the financial covenants under its debt agreements depends
on its future operating performance and cash flow, which in turn, are subject to
prevailing economic conditions and to financial, business and other factors,
some of which are beyond its control.
Year 2000
The Company is currently reviewing its computer and operational systems to
identify and determine the extent to which any such systems have experienced
potential errors and failures as a result of the "Year 2000" problem. As of the
date of this filing, January 11, 2000, the Company has not experienced any
significant business disruptions as a result of the Year 2000 problem either
directly because of it's own computer systems or indirectly because of it's
suppliers or customers. However, there can be no assurance that the Company will
not be affected by Year 2000
16
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problems that have not yet occurred. The Company will continue to monitor the
issue and work to resolve any issues that may arise.
The Year 2000 problem is a result of computer programs being written using two
digits, rather than four digits, to identify years. The Year 2000 presented
several potential risks to the Company (i) that the Company's internal systems
may not have functioned properly, (ii) that suppliers computer systems may not
have functioned properly and, consequently, deliveries of required parts would
have been delayed, (iii) that customers' computer systems may not have
functioned properly and, consequently, orders or payments for the Company's
products may have been delayed, and (iv) that the Company's bank's computer
systems could have malfunctioned, disrupting the Company's orderly posting of
deposits, funds transfers and payments. The occurrence of any one or more of
these events could have had a material adverse effect on the Company's financial
condition and results of operations.
17
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
Market risks relating to the Company's operations result primarily from changes
in interest rates. The Company also has limited foreign currency risk associated
with its Canadian, European, and Hong Kong operations. A portion of the
Company's operations consists of purchasing and sales activities in foreign
jurisdictions. The Company manufactures its products in the United States,
purchases products in Europe, China, and Japan and sells the products primarily
in the United States, Canada, and Europe. As a result, the Company's financial
results could be affected by factors such as changes in foreign currency
exchange rates or weak economic conditions in the foreign markets in which the
Company operates. The Company employs established policies and procedures to
manage its exposure to fluctuations in interest rates and the value of the
foreign currencies. Interest rate and foreign currency transactions are used
only to the extent considered necessary to meet the Company's objectives. The
Company does not utilize derivative financial instruments for trading or other
speculative purposes. There have been no material changes in the market risk to
which the Company is exposed since the end of the Company's preceding fiscal
year.
Interest Rate Risk
The Company's interest rate risk management objective is to limit the impact of
interest rate changes on its earnings and cash flow and to lower its overall
borrowing cost. To achieve its objectives, the Company regularly evaluates the
amount of its variable rate debt as a percentage of its aggregate debt. The
Company manages its exposure to interest rate fluctuations in its variable rate
debt through interest rate swap agreements. These agreements effectively convert
interest rate exposure from variable rates to fixed rates of interest without
the exchange of the underlying principal amounts. In fiscal 1999, the Company
entered into interest rate swap agreements with Nations Bank to manage its
exposure to interest rate fluctuations. The interest rate swap agreements
provide for payment by the Company of fixed rates of interest based on three
month LIBOR (4.75% at November 27, 1999). Notional principal amounts of these
agreements total $125 million, of which $75 million terminated in November 1999
and $50 million terminates in August 2001. The agreements terminating in August
2001 may be canceled at the option of Nations Bank in February 2000. The
notional amounts are used to measure the interest to be paid or received and do
not represent the amount of exposure to credit loss. Net proceeds to the Company
of $420,193 were recorded as adjustments to interest expense in year to date
2000.
The following table summarizes the carrying amounts and estimated fair values
the Company's remaining financial instruments at February 27, 1999 and February
28, 1998 (bracketed amount represents an asset):
November 27, 1999 February 27, 1999
Carrying Fair Value Carrying Fair Value
Amount Amount
(in thousands)
Bank debt $ 181,294 $ 181,294 $ 166,307 $ 166,307
Senior subordinated notes 130,000 91,000 130,000 102,700
Note payable 2,016 2,016 2,138 2,138
Interest rate swap agreements -- (319) -- (438)
Based on the average outstanding amount of variable rate indebtedness of the
Company in FY 2000 a one percentage point change in the interest rates for the
Company's variable rate debt would have impacted the Company's year to date 2000
interest expense by an aggregate of approximately $1.4 million, after giving
effect to the Company's interest rate swap agreements.
Foreign Currency Exchange Rate Risk
The Company does not conduct a significant portion of its manufacturing or sales
activity in foreign markets. The Company's reported financial results could be
affected, however, by factors such as changes in foreign currency exchange rates
in the markets where it operates. When the U.S. dollar strengthens against such
foreign currencies, the reported U.S. dollar value of local currency operating
profits generally decreases; when the U.S. dollar weakens against such foreign
currencies, the reported U.S. dollar value of local currency operating profits
generally increases. The Company utilizes foreign exchange forward contracts to
mitigate the short-term effect of movements in currency exchange rates on the
Company's foreign currency based inventory purchases. The Company regularly
hedges by entering into foreign exchange forward contracts, approximately 85% to
95% of its budgeted (future) net
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foreign currency purchase transactions over a period of 4 quarters. Gains and
losses related to qualifying hedges of foreign currency risk exposure are
recorded when the related inventory is purchased. Because the Company does not
have significant foreign operations, the Company does not believe it is
necessary to enter into any other derivative financial instruments to reduce its
exposure to foreign currency exchange rate risk.
19
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PART II Other Information
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10 Employment agreement, dated as of November 10, 1999
between the Company and W. Michael Clevy
27 Financial Data Schedule
(b) Reports on Form 8-K
The Company filed a report on Form 8-K dated November 15, 1999 reporting under
item 5 the resignation of its Chief Executive Officer and President and election
of a replacement therefore. On the same report, the Company also reported the
resignation of its Chief Operating Officer and the election of a Chief Financial
Officer. The Company filed no other reports on Form 8-K during the period for
which this report is made.
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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.
DESA HOLDINGS CORPORATION
By:
Dated: January 11, 2000 /s/ Stephen L. Clanton
Stephen L. Clanton
Chief Financial Officer
(Principal Financial Officer)
Dated: January 11, 2000 /s/ Edward G. Patrick
Edward G. Patrick
Vice President of Finance and Treasurer
Dated: January 11, 2000 /s/ Scott M. Nehm
Scott M. Nehm
Vice President and Controller
(Chief Accounting Officer)
21
EXHIBIT 10
EMPLOYMENT AGREEMENT
THIS EMPLOYMENT AGREEMENT is made as of the 10th day of
November 1999 between Desa International, Inc. whose principal place of business
is located at 2701 Industrial Drive, Bowling Green, Kentucky 42101 (hereinafter
called the "Corporation"), and W. MICHAEL CLEVY (hereinafter called the
"Employee"), residing at 9104 Heritage Drive, Brentwood, Tennessee 37027 and
2175 South Berry's Chapel Road, Franklin, Tennessee
37069.
W I T N E S S E T H
The Corporation, as directed by the Board of Directors,
desires to secure the services of the Employee in an executive capacity for a
period commencing on November 10, 1999 (the "Effective Date"), on the terms and
conditions hereinafter set forth, and the Employee is willing to accept
employment on such terms and conditions.
In consideration of the premises and of the mutual agreements
hereinafter set forth, the parties hereto have agreed and do hereby agree as
follows:
1. Employment. The Corporation hereby employs the Employee in
the capacity of President and Chief Executive Officer (with the duties,
responsibilities and authority as are normal for such offices and as further
defined by the current By-Laws of the Corporation, a copy of which has been
provided to the Employee), reporting only to the Board of Directors of the
Corporation, and the Employee hereby accepts and agrees to serve the
Corporation, its divisions, and subsidiaries, if any, on a full time basis, and
to perform such duties of an executive nature, including any reasonable business
travel incident thereto, as Employee is directed by the Board of Directors to
perform on behalf of the Corporation, for a period commencing on the Effective
Date and ending on the third anniversary of the Effective Date (as the same may
be renewed as provided in the next sentence, the "Employment Period"), unless
earlier terminated in accordance with Section 8 of this Agreement. Unless the
Board of Directors shall give written notice of termination of the Agreement in
person to the
<PAGE>
Employee at least six (6) months prior to its termination, this Agreement shall
automatically renew for successive one year terms. Employee shall have such
powers and duties as may be from time to time prescribed by the Board of
Directors. Employee's rights, duties and responsibilities shall be commensurate
with his position. Prior to the close of each fiscal year during the term
hereof, the Board of Directors shall establish and deliver to Employee written
performance goals for the Employee for the succeeding fiscal year (the
"Performance Goals"). Employee's performance of his duties hereunder, including
the determination of whether the Performance Goals have been achieved, shall be
subject to review only by the Board of Directors. Such a review shall be
conducted in good faith at least annually. Employee agrees to serve without
additional compensation, if elected or appointed thereto, in one or more offices
and as a director of the Corporation's parent, Desa Holdings Corporation
("Holdings") and any of the Corporation's subsidiaries, provided, however, that
the Employee shall not be required to serve as an officer or director of any
subsidiary if such service would expose him to adverse financial, legal or other
consequences; and provided, further, that Employee acknowledges that the
Corporation shall not be deemed to be in breach of this Section 1 or of the
final sentence of Section 8 if Employee declines to serve as an officer or
director of any subsidiary.
Employee shall not be required to relocate his residence, and
the corporate headquarters of the Corporation will be moved, on a decision by
the Employee, to a location in the Nashville, Tennessee area selected by the
Employee and reasonably acceptable to the Board of Directors.
2. Employment Service. During the Employment Period, the
Employee shall devote his business time, energy and skill (reasonable vacations
and reasonable absences because of sickness and other personal necessity
excepted) to render services for the Corporation or its divisions and
subsidiaries, if any, and in the promotion of their collective interests. During
the Employment Period, the Employee shall not engage in any other
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business activities, duties, or pursuits which interfere with his employment
hereunder or detrimentally affect the performance of his employment services
hereunder. Upon the reasonable request of the Corporation, the Employee shall
cease any business, activities, duties or pursuits detrimentally affecting the
Employee's performance of his duties hereunder or interfering with his
employment hereunder. This provision shall not be deemed to prohibit the
Employee from engaging in a reasonable amount of activities in trade
associations and professional organizations or participating in private
investments provided such activities do not interfere with Employee's employment
hereunder or materially adversely affect the performance of Employee's duties
hereunder. During the Employment Period and subject to Section 11 hereof, the
Employee shall not own or hold any securities in, or be employed by or render
any consulting or similar services to, any company directly or indirectly
competing with the business of the Corporation or any division or subsidiary
thereof, as such business is constituted on the date of determination, in an
amount which, in the reasonable judgment of the Corporation, would result in a
conflict of interest. For purposes of this Section 2, ownership of less than
five percent (5%) of the issued and outstanding stock of a corporation, the
securities of which are listed upon a national securities exchange or regularly
included in a national list of over-the-counter securities as it may be from
time to time published in a newspaper of general publication, shall not be
deemed to create a conflict of interest.
3. Compensation.
(a) From and after the Effective Date, the Employee shall be
entitled to receive by way of remuneration for his services a salary of not less
than Four Hundred Forty-Five Thousand Dollars ($445,000) per year, payable in
bimonthly installments ("Regular Remuneration"). Salary, bonus and all other
payments to Employee pursuant to the Agreement shall be subject to withholding
and other applicable taxes. Annual increases in Regular Remuneration will be at
the discretion of the Board of Directors of the Corporation; provided, however,
that in the absence of adverse factors, circumstances or information
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relating to Employee's performance of his duties or the Corporation, the general
principle by which the Board will be guided in setting Employee's Regular
Remuneration shall be to achieve general parity with executives having similar
responsibilities for similarly situated businesses. In addition, the Board of
Directors of the Corporation shall review Employee's Regular Remuneration no
less frequently than annually beginning one year after the Effective Date,
taking into account increases in the profitability of the Corporation or
increased responsibilities occasioned by growth in the size and complexity of
the Corporation's business, whether caused by growth in existing business
operations or by acquisition or creation of additional operations, and such
other factors as the Board of Directors deems appropriate, in order to determine
whether Employee's then-effective Regular Remuneration is adequate.
(b) For each fiscal year (and for partial fiscal years under
certain circumstances, as provided hereinbelow) during the Employment Period, a
cash executive bonus pool (the "EBP") will be established for the Employee if
the Corporation achieves (as determined by the Board of Directors) in excess of
90% of the EBITDA target for such year as set forth in the Corporation's annual
management plan, as approved by the Board of Directors (the "Annual EBITDA
Target"). Such bonus pool will equal 0.0% of Employee's Regular Remuneration if
the Corporation has achieved 90% of the Annual EBITDA Target for such year and
will increase on a linear basis at 5.0% of Employee's Regular Remuneration for
each 1% of Annual EBITDA Target in excess of 90%, up to 50% of Employee's
Regular Remuneration if the Corporation has achieved 100% of the Annual EBITDA
Target. If the Corporation has achieved more than 100% of the Annual EBITDA
Target, the bonus pool will increase on a linear basis at 2.5% of Employee's
Regular Remuneration for each 1% of Annual EBITDA Target in excess of 100%.1 The
calculation of the EBP for each full fiscal year shall be determined promptly
after the delivery of the audited, consolidated financial
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1 Thus, for example, if in a given year the Corporation's actual EBITDA exceeds
the Annual EBITDA Target by 20%, the Employee's EBP for that year will be 100%
of his Regular Remuneration.
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statements of Holdings, and EBP bonus payments shall be paid as soon as
practicable after such determination. In the event that the Corporation or
Holdings disposes of a material operating subsidiary or division or separately
identifiable business unit, the EBP shall be reviewed by the Board of Directors
and revised to the extent necessary to provide Employee with a bonus plan that
is substantially equivalent in format and provides a substantially equivalent
benefit in light of such disposition. Employee acknowledges that in the event of
such a disposition, the bonus payable under the EBP may decrease. In the event
that the Corporation or Holdings acquires, directly or indirectly, the stock or
substantially all of the assets of another corporation or other entity, or any
division or separately identifiable business unit thereof, the EBP will be
amended by mutual agreement of Employee and the Corporation, as directed by the
Board of Directors, to adjust the EBITDA targets and bonus pool to reflect the
effects of such transaction on the Corporation. With respect to any EBP bonus to
which Employee may be entitled for a portion of a fiscal year pursuant to
Section 7, 8 or 9 below, such EBP for such portion of the fiscal year shall be
determined in the same manner set forth hereinabove as if the Employee had been
employed for the full fiscal year; provided, however, that (i) the applicable
EBITDA target shall be the Corporation's annual management plan for the portion
of such fiscal year as Employee was employed by the Corporation (fiscal year to
date through the month end preceding the Employee's termination of employment),
(ii) the bonus pool will be proportionate to the percentage of the year during
which the Employee was employed by the Corporation, and (iii) for fiscal year
2000 only, the applicable EBITDA target shall be the full fiscal year's target
measured against full fiscal year results (with the bonus pool to be
proportionate as set forth in clause (ii) above). The calculation of the EBP and
payment of any EBP bonus owing on account of a portion of a fiscal year shall be
completed as soon as reasonably practicable after the employment termination
event giving rise thereto.
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(c) In addition to the compensation payable to the Employee
as set forth hereinabove, the Employee shall be entitled to receive certain
stock options, the fundamental terms of such options in respect of the Employee
are outlined on Exhibit A hereto.
4. Expenses and Fringe Benefits.
(a) The Employee shall be reimbursed for the
business-related expenses incurred by the Employee in the performance of his
duties hereunder.
(b) The Employee shall also be entitled to receive the
Fringe Benefits set forth on Exhibit B hereto. The Corporation agrees that,
without the Employee's written consent, it will not make any material changes in
such benefits which would materially adversely affect the Employee's right to
receive or eligibility to participate in such benefit plans or the amounts,
timing or terms of such benefits; provided, however, the Corporation shall not
be in breach of this provision if it institutes an alternative benefits plan or
program with substantially equivalent benefits.
5. Trade Secrets and Confidentiality. The Employee agrees that
he will not at any time, while he is employed by the Corporation or for two (2)
years after termination of such employment, knowingly divulge to any person,
firm or corporation any confidential or privileged information received by him
during the course of his employment, or prior to the date hereof, with regard to
the financial, business or other affairs of the Corporation, its predecessors,
its officers, directors, or stockholders, or any subsidiary, customer or
supplier of the Corporation, and all such information shall be kept confidential
and shall not, in any manner be revealed to anyone except as may otherwise be
required by law and provided further that nothing herein shall be construed to
prohibit the Employee from divulging information in the ordinary course of the
business of the Corporation. The Employee further agrees, while he is employed
by the Corporation or for two (2) years after termination of such employment,
that he will not knowingly divulge to any person, firm or corporation, either
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during the term of this Agreement or thereafter, or make known either directly
or through another, to any person, firm or corporation, any trade secret or
confidential knowledge or privileged procedures of the Corporation except as may
be otherwise required by law and provided further that nothing herein shall be
construed to prohibit the Employee from divulging (i) information in the
ordinary course of the business of the Corporation or (ii) information which was
or has become or hereafter becomes generally available to the public. Any breach
of the terms of this paragraph or of Section 11 hereof shall be a material
breach of this Agreement.
6. Property of the Corporation. The Corporation shall be
entitled to the sole benefit and exclusive ownership of any trademarks, trade
names, marketing or advertising concept or strategy, any design patents, or any
inventions or improvements in plant, machinery, processes, or other things used
in the business of the Corporation that may be developed, made, or discovered by
the Employee while he is in the service of the Corporation, and the Employee
shall do all acts and things necessary or required to give the Corporation the
benefit of this Section. The Employee agrees that he will not use any property
of the Corporation except in furtherance of his duties hereunder.
7. Death or Disability. If the Employee dies during the
Employment Period, all obligations of the Corporation under this Agreement
(other than obligations for accrued Regular Remuneration hereunder) shall cease,
except that the Employee's estate shall be entitled (i) to continue to receive
the Regular Remuneration set forth in Paragraph 3(a) hereof for a period of
twelve (12) months after death, and (ii) to the Employee's EBP bonus for the
portion of the fiscal year prior to his death as determined pursuant to Section
3(c) as and when such bonus is otherwise payable in accordance with such Section
3(c). If during the Employment Period, the Employee shall become physically or
mentally disabled to the extent that he is, in the reasonable opinion of a
recognized medical expert selected by the Corporation, unable to continue the
proper performance of his duties hereunder for a
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continuous period of one hundred eighty (180) days, the Employee's employment
hereunder shall thereupon cease and terminate; provided, that (i) the
Corporation's obligation under Paragraph 3(a) hereof with respect to Regular
Remuneration shall continue in full force and effect for twelve (12) months
after determination of disability (such remuneration to be offset by any amounts
received by the Employee from insurance or other benefits provided by the
Corporation other than pursuant to this Agreement), and (ii) the Employee shall
be entitled to his EBP bonus for the portion of the fiscal year prior to his
termination of employment as determined pursuant to Section 3(c) as and when
such bonus is payable in accordance with Section 3(c).
8. Termination of Services. The Board of Directors of the
Corporation shall have the right on behalf of the Corporation to terminate the
Employee's employment for Cause (as hereinafter defined in clauses (a) and (b)
of this sentence) during the Employment Period (a) immediately upon and the
Corporation shall have no further obligation hereunder after the conviction or
admission of Employee of a felony or a crime involving moral turpitude under the
laws of any state in the United States or the federal laws of the United States,
or fraud, misappropriation or embezzlement of the assets of the Corporation or
any subsidiary thereof; or (b) upon not less than thirty (30) days' written
notice specifying in reasonable detail (i) any failure by Employee to fulfill
his duties and responsibilities set out in Sections 1 and 2 of this Agreement
(other than due to death or disability), or failure to perform in accordance
with the Performance Goals in any material respect as determined by the Board of
Directors, which has not been cured within 60 days after Employee's receipt of
written notice of such failure; or (ii) the intentional or knowing breach by
Employee of his obligations under Sections 5, 6, or 11 of this Agreement. If
Cause as defined in clause (b) of the preceding sentence continues to exist 60
days after written notice, Employee's employment hereunder shall immediately
cease and terminate, and the Corporation shall have no further obligations
hereunder. The Employee may voluntarily leave the employ of the Corporation at
any time,
-8-
<PAGE>
but the Corporation shall have no further obligations hereunder. The Board of
Directors of the Corporation shall have the right to terminate the Employee's
employment without Cause at any time, effective immediately. If the Corporation
terminates the Employee's employment without Cause prior to expiration of the
Employment Period, the Corporation shall pay Employee (i) for the remainder of
the Employment Period (but in no event for less than 12 months) Regular
Remuneration which shall continue to be payable in installments in accordance
with Section 3 hereof; (ii) for the remainder of the Employment Period (but in
no event for less than 12 months) all damages for loss of Fringe Benefits or
benefits under any "employee benefit plan" (as defined in Section 3 of ERISA)
sponsored by the Corporation which the Employee would have received if the
Corporation had not terminated the Employee without Cause; provided, however,
that in lieu thereof, the Corporation shall have the right to continue providing
Fringe Benefits (or substantially equivalent benefits) to the Employee for such
period, if reasonably acceptable to Employee; (iii) legal fees and expenses, if
any, incurred as a result of such termination; and (iv) his share of the EBP for
the portion of the fiscal year in which such termination occurs as determined
pursuant to Section 3(c) as and when such bonus is otherwise payable in
accordance with Section 3(c). Employee shall not be required to mitigate the
amount of any payment due him under this Section by seeking employment or
otherwise; provided, however, that compensation and benefits received by
Employee after termination without Cause will offset Employee's termination
benefits and damages payable under this Section 8 on account of such termination
without Cause. The Corporation shall use its best efforts to maintain all
employee benefit plans and programs in which the Employee was entitled to
participate immediately prior to his termination without Cause. If such
participation cannot be maintained with the exercise of the Corporation's best
efforts, Employee shall be entitled to receive an amount necessary to provide
the Employee and his dependents equivalent benefits for the remainder of the
Employment Period. For purposes of this Section, termination without Cause shall
include, but not be limited to: (i)
-9-
<PAGE>
any material change in Employee's duties as President and Chief Executive
Officer or assignment of the Employee to duties materially inconsistent with the
position of President and Chief Executive Officer; (ii) any removal of the
Employee from or any failure to re-elect the Employee to any of the positions
indicated in Section 1 hereof; (iii) a reduction in the Employee's salary or
Fringe Benefits, or adverse change in the terms of participation or benefits
under the EBP provided, that no termination without Cause shall be deemed to
have occurred if the Corporation provides benefits that are substantially
equivalent to the Fringe Benefits provided at the time of determination; or (iv)
any breach of this Agreement by the Corporation which is not cured by the
Corporation within thirty (30) days after receiving written notice of such
breach.
9. Change in Control or Sale of the Corporation. If the
Corporation shall undergo a Change in Control (as hereinafter defined) or a Sale
of the Corporation (as hereinafter defined, and, in such event, the Corporation
fails to obtain the assumption of this Agreement by any successor to the
Corporation under Section 14 hereof prior to the date of such succession) during
the Employment Period, Employee shall be entitled to receive for the remainder
of the Employment Period (but in no event for less than 12 months) (i) all
future installments due for Regular Remuneration, which shall continue to be
payable in installments in accordance with Section 3 hereof; (ii) all damages
for loss of Fringe Benefits or benefits pursuant to any employee benefit plan
sponsored by the Corporation which the Employee would have received if there had
been no Change in Control or Sale of the Corporation, and (iii) his
proportionate share of the EBP for the portion of the fiscal year in which such
Change in Control or Sale of the Corporation occurs, as determined according to
Section 3(b). The obligations of the Corporation in the preceding sentence shall
not apply to any Change in Control or Sale of the Corporation in which the
Employee receives a realized return on his personal investment in equity
securities of Holdings (including, without limitation, any such investment made
pursuant to either Section 3(c) or Section 12 hereof) equal to three times the
-10-
<PAGE>
cost of such investment. For purposes hereof, a realized return shall mean the
(i) cash, (ii) market value of registered, publicly traded and tradeable
securities not subject to transfer restrictions or restrictions under Rule 144
under the Securities Act of 1933 , as amended, and/or (iii) fair value (as
determined by the Board of Directors of the Corporation acting in good faith) of
all other securities, in each case received by Employee in any Change of Control
or Sale of the Corporation transaction. Employee shall not be required to
perform further duties hereunder and shall not be required to mitigate his
damages in the event a Change in Control or Sale of the Corporation shall occur
during the Employment Period. A Change in Control shall be deemed to have
occurred if: (i) Holdings shall own less than 90% of all the issued and
outstanding voting securities of the Corporation; or (ii) a sale of
substantially all the assets of the Corporation; provided, that no Change in
Control shall be deemed to have occurred in the event that, subsequent to such
transaction, Employee continues to be employed by the successor entity under
terms, conditions and for compensation substantially identical to the terms of
this Agreement. A "Sale of the Corporation" shall be deemed to have occurred if
(i) the "JWC Holders" and their Affiliates, the "Management Holders" and the
"Other Holders" (as such quoted terms are defined in the Desa Holdings
Corporation Amended and Restated Stockholders Agreement dated as of October 9,
1998) (collectively, the "Control Group") shall cease to own of record and
beneficially an amount of Voting Securities of Holdings equal to at least 50% of
the amount of Voting Securities (other than by virtue of sales pursuant to an
initial public offering or a reverse stock split of such Voting Securities) of
Holdings; (ii) any Person or related group (as defined in Rule 13(d) under the
Exchange Act of 1934, as amended (the "Exchange Act")), excluding the Control
Group, shall be or become the "beneficial owner" (as defined in Rules 12(d)-3
and 13(d)-5 under the Exchange Act), directly or indirectly, of a greater
percentage of the outstanding Voting Securities of Holdings than is owned
beneficially by the Control Group and the Control Group no longer has the right
to seat a majority of the directors of Holdings; (iii) all or
-11-
<PAGE>
substantially all of the assets of Holdings are sold or otherwise transferred
for value, other than to a lender in a secured transaction and other than in a
transaction following which the Control Group owns of record and beneficially at
least 50% of the Voting Securities of the acquiring Person; or (iv) (in the
event of a merger or consolidation) Holdings is merged or consolidated with or
into another entity and, as a result thereof, the Control Group holds,
beneficially and of record, less than 50% of the Voting Securities of the
surviving entity. As used herein, "Affiliate" means as to any Person, any other
Person which, directly or indirectly, is in control of, is controlled by, or is
under common control with, such Person; provided, that, as to the JWC Holders,
the term Affiliate shall include the partners, officers, directors and employees
of J.W. Childs Associates, L.P., their spouses, children, and other members of
their immediate family and trusts, family limited partnerships and other estate
planning vehicles created for the benefit of such persons. As used in the
preceding sentence, "control" of a Person means the power, directly or
indirectly, either to (i) vote 51% or more of the Voting Securities of such
Person or (ii) direct or cause the direction of the management and policies of
such Person, whether by contract or otherwise. As used herein, "Person" means an
individual, partnership, corporation, business trust, joint stock company,
trust, unincorporated association, joint venture, any nation or government, any
state or other political subdivision thereof, any entity exercising executive,
legislative, judicial, regulatory or administrative functions of or pertaining
to government, or other entity of whatever nature. As used herein, "Voting
Securities" means common equity securities (or equivalent partnership or joint
venture interests) having the right to vote generally in matters coming before
common equity holders.
10. Coordination of Rights. In the event that Employee suffers
termination of Employment without Cause and a Change in Control or Sale of the
Corporation also occurs, Section 8 shall be disregarded and Section 9 shall
apply.
-12-
<PAGE>
11. Covenant Not to Compete; Non-Solicitation, etc.
(a) While employed by the Corporation and for a period of
two years following termination of employment, the Employee will not, directly
or indirectly as an individual or as part of a partnership or other business
association, or otherwise, compete with the business of the Corporation or its
subsidiaries in North America or in any other jurisdiction in which the
Corporation or a subsidiary thereof conducts substantial business, nor will he
enter the employ of, or act as an agent for or as a director, consultant, or
officer of, any person, firm, partnership or corporation engaged in a line of
business in North America or in any other jurisdiction in which the Corporation
or a subsidiary thereof conducts substantial business that is directly or
indirectly in competition with the business of the Corporation or its
subsidiaries as the same is being conducted at such termination of employment.
(b) The Employee further agrees that he will not, at any
time during or within two years after the termination of employment under this
Agreement, however caused, solicit, interfere with, employ, endeavor to entice
away from the Corporation, or any subsidiary of the Corporation, any customer,
supplier or employee.
(c) With respect to any issues as to the enforceability of
the foregoing provisions, the Employee agrees that the foregoing are reasonable
in terms of scope and duration and both parties agree that a court making a
determination on the issue of validity, legality or enforceability of the
foregoing, may modify the duration or scope of the provisions of this Section 11
and/or delete or modify specific words or phrases ("blue penciling"), and in its
reduced or blue-penciled form, the foregoing shall be enforceable and enforced.
The Employee agrees that in the event of a breach of the foregoing provisions of
this Section 11 or the provisions of Section 5, the remedy of damages would be
inadequate and the Corporation may apply to any court of competent jurisdiction
to enjoin any violation, as well as seek all other legal remedies available upon
ten days notice to Employee, provided that
-13-
<PAGE>
Employee shall not have cured such breach within 30 days after receiving written
notice of such breach.
12. Stock Purchase. Within 30 days after the Effective Date,
the Employee will acquire shares of common stock of Holdings at a valuation for
such shares of $6.50 per share for an aggregate investment of $3,000,000.
Contemporaneously, the Employee will execute the Desa Holdings Corporation
Amended and Restated Stockholders Agreement dated as of October 9, 1998 as a
"Management Holder" as defined therein. Employee will pay for such stock
purchase on the Effective Date by cash in the amount of $1,500,000 and a
promissory note in principal amount of $1,500,000 (the "Note"). The Note shall
bear interest, payable at maturity, at 8.5% per annum and shall mature nine and
one-half years after the Effective Date; provided, however, that any proceeds
from the sale of any Holdings common stock acquired by Employee pursuant to this
Section 12 shall be applied proportionately to reduce the Note.
13. Non-Waiver of Rights. The failure to enforce at any time
any of the provisions of this Agreement or to require at any time performance by
the other party of any of the provisions hereof shall in no way be construed to
be a waiver of such provisions or to affect the validity of this Agreement, or
any part hereof, or the right of either party thereafter to enforce each and
every provision in accordance with the terms of this Agreement.
14. Invalidity of Provisions. The invalidity or
unenforceability of any particular provision of this Agreement shall not affect
the other provisions hereof, and this Agreement shall be construed in all
respects as if such invalid or unenforceable provisions were omitted.
15. Assignment. This Agreement shall be binding upon and shall
inure to the benefit of the Corporation and any successor to the Corporation
under the provisions of this Agreement. For the purpose of this Agreement the
term "successor" shall mean any person, firm, corporation, or other business
entity which at any time, whether by merger,
-14-
<PAGE>
purchase, liquidation or otherwise, shall acquire all or substantially all of
the assets or business of the Corporation. This Agreement is personal to the
Employee and is not assignable by the Employee.
16. Choice of Law. This Agreement shall in all respects be
governed by and construed in accordance with the laws of the State of Delaware.
17. Entire Agreement. This Agreement embodies the entire
agreement of the parties respecting the matters within its scope, superseding
any and all prior agreements or understandings with respect to the subject
hereof and may be modified only in a writing signed by the party against whom
enforcement is sought. The headings contained in this Agreement have been
inserted solely for the convenience of the parties and shall be of no force or
effect in the construction or interpretation of the provisions of this
Agreement.
18. Notices. All notices required or made pursuant to this
Agreement shall be made, and shall be deemed to have been duly given when sent
by, certified mail, return receipt requested, to the addresses set forth above
or such other addresses later designated in writing by either of the parties.
IN WITNESS WHEREOF, the Corporation has caused this Agreement
to be executed on its behalf by an officer of the Corporation thereunto duly
authorized, and the Employee has hereunto signed this Agreement, all as of the
date first written above.
DESA INTERNATIONAL, INC.
By:/s/ Adam L. Suttin
Title: Vice President
EMPLOYEE
/s/ W. Michael Clevy
W. MICHAEL CLEVY
-15-
<PAGE>
EXHIBIT A
TO EMPLOYMENT AGREEMENT
NON-QUALIFIED STOCK OPTIONS
KEY PROVISIONS
At the Effective Date, Employee will be granted non-qualified options
to acquire, at $6.50 per share, an aggregate number of shares of common stock of
Holdings equal to four percent (4%) of the outstanding common stock and common
stock equivalents of Holdings, on a fully diluted basis. Employee's options
shall be subject to anti-dilution protections for the first $100 million
(measured by gross proceeds) of all issuances and sales by Holdings of
additional equity securities.
The above options will vest 40% on the first anniversary of the
Effective Date, and 20% on each subsequent anniversary of the Effective Date,
until fully vested. Unvested options shall be subject to accelerated vesting in
the case of a Change in Control or Sale of the Corporation.
Each option shall expire, unless earlier exercised or terminated, nine
years and six months from the date of grant.
In the case of termination of Employee's employment for Cause or his
voluntary resignation, his stock options shall terminate at the time of
termination of employment.
In the case of termination of Employee's employment without Cause,
options which have vested at the time of termination of employment shall
terminate on the 91st day after the date of employment termination, and options
which have not vested shall terminate immediately. If Employee's employment is
terminated due to death or disability, options which have vested at the time of
termination/resignation shall terminate on the 181st day after the date of
employment termination or death and may be exercised during such period by the
Employee or his legal representative or estate, as the case may be, and options
which have not vested shall terminate immediately.
<PAGE>
EXHIBIT B
TO EMPLOYMENT AGREEMENT
FRINGE BENEFITS FOR EXECUTIVES
The following fringe benefits as they exist and are administered on the
Effective Date of this Agreement:
1. Health and welfare plan coverage as provided to the Corporation's key
executives
2. Vacation (up to 30 days per year)
3. Use of Company Car of Employee's choice
4. Office Facilities and Services, including, but not limited to,
secretarial services, telephone, cellular telephone, computer,
printers, internet connection, subscriptions, and professional
associations
5. Travel and Entertainment
6. Group Life Insurance
7. Disability Insurance
8. Country Club Dues
9. Section 401(k) Plan
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> FEB-26-2000
<PERIOD-END> NOV-27-1999
<CASH> 573
<SECURITIES> 0
<RECEIVABLES> 89,845
<ALLOWANCES> (1,537)
<INVENTORY> 60,595
<CURRENT-ASSETS> 153,532
<PP&E> 44,878
<DEPRECIATION> 29,943
<TOTAL-ASSETS> 286,658
<CURRENT-LIABILITIES> 114,285
<BONDS> 285,766
18,591
0
<COMMON> 156
<OTHER-SE> (147,020)
<TOTAL-LIABILITY-AND-EQUITY> 286,658
<SALES> 317,480
<TOTAL-REVENUES> 317,480
<CGS> 210,783
<TOTAL-COSTS> 210,783
<OTHER-EXPENSES> 70,534
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 21,551
<INCOME-PRETAX> 14,612
<INCOME-TAX> 6,788
<INCOME-CONTINUING> 7,824
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,824
<EPS-BASIC> 0
<EPS-DILUTED> 0
</TABLE>
