FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31,1998
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: 333-60991
AKI, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-378585
State or other jurisdiction of (I.R.S. Employer
incorporation or organization Identification No.)
1815 East Main Street
Chattanooga, TN 37404
(Address of principal executive offices) (Zip Code)
(423) 624-3301
(Registrant's telephone number, including area code)
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 (X) Yes ( ) No
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. (X) Yes ( ) No
AKI, Inc. meets the requirements set forth in General Instruction H(1)(a) and
(b) of Form 10-Q and is therefore filing this form with reduced disclosure
format.
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date. As of February 10, 1999, 1,000
shares of common stock, $.01 par value, were outstanding.
<PAGE>
AKI, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Condensed Balance Sheet
- June 30, 1998
- December 31, 1998 (unaudited)
Consolidated Condensed Statements of Operations
- October 1, 1997 through December 15, 1997
(Predecessor) (unaudited)
- December 16, 1997 through December 31, 1997
(Successor) (unaudited)
- Three months ended December 31, 1998
(Successor) (unaudited)
- July 1, 1997 through December 15, 1997
(Predecessor)
- December 16, 1997 through December 31, 1997
(Successor) (unaudited)
- Six months ended December 31, 1998
(Successor) (unaudited)
Consolidated Condensed Statements of Cash Flows
- July 1, 1997 through December 15, 1997
(Predecessor)
- December 16, 1997 through December 31, 1997
(Successor) (unaudited)
- Six months ended December 31, 1998
(Successor) (unaudited)
Consolidated Condensed Statement of Changes in
Stockholder's Equity
- Six months ended December 31, 1998
(unaudited)
Notes to Consolidated Condensed Financial Statements
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Part II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
AKI, INC. AND SUBSIDIARIES
(a wholly-owned subsidiary of AKI I Holding Corp.)
CONSOLIDATED CONDENSED BALANCE SHEET
(dollars in thousands, except share information)
June 30, December 31,
1998 1998
-------------- --------------
(unaudited)
ASSETS
Current assets
Cash and cash equivalents................... $ 1,641 $ 7,151
Accounts receivable, net.................... 13,577 17,557
Inventory................................... 2,078 4,738
Income tax refund receivable................ 5,155 -
Prepaid expenses............................ 378 145
Deferred income taxes....................... 827 827
------------- -----------
Total current assets.................... 23,656 30,418
Property, plant and equipment, net.......... 18,936 19,083
Goodwill, net............................... 151,842 149,916
Intangible assets, net...................... 7,289 6,925
Debt issuance costs, net.................... 5,272 5,630
Deferred income taxes....................... 3,869 3,302
Other assets................................ 200 202
------------- -----------
Total assets............................ 211,064 215,476
============= ===========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities
Current portion of capital
lease obligations.......................... $ 609 656
Current portion of other notes payable...... 1,330 -
Accounts payable, trade..................... 4,140 4,444
Accrued income taxes........................ 100 1,127
Accrued interest............................ 168 6,248
Accrued expenses............................ 4,464 4,017
------------ ----------
Total current liabilities............... 10,811 16,492
Long-term portion of capital
lease obligations.......................... 1,489 1,702
Revolving credit line....................... - -
Senior notes................................ 115,000 115,000
Deferred income taxes....................... 4,143 3,242
------------- ----------
Total liabilities....................... 131,443 136,436
------------- ----------
Stockholder's equity
Preferred stock, $0.01 par, 8,700
shares authorized; no shares
issued or outstanding at
June 30, 1998 and December 31, 1998
(unaudited)................................ - -
Common stock, $0.01 par, 1,000 shares
authorized; 1,000 shares issued and
outstanding at June 30, 1998 and
December 31, 1998(unaudited)............... - -
Additional paid-in capital.................. 100,862 100,862
Accumulated deficit......................... (5,454) (6,151)
Accumulated other comprehensive income...... (57) 59
Carryover basis adjustment.................. (15,730) (15,730)
------------- ----------
Total stockholder's equity.............. 79,621 79,621
------------- ----------
Total liabilities and
stockholder's equity................... $ 211,064 $ 215,476
============= ==========
The accompanying notes are an integral part of these financial statements.
<PAGE>
<TABLE>
<CAPTION>
AKI INC. AND SUBSIDIARIES
(a wholly owned subsidiary of AKI Holding Corp.)
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(dollars in thousands)
Predecessor Successor Predecessor Successor
----------------- ------------------------------------ ----------------- --------------------------------------
October 1, 1997 December 16, 1997 Three Months July 1, 1997 December 16, 1997 Six Months
through through Ended through through Ended
December 15, 1997 December 31, 1997 December 31, 1998 December 15, 1997 December 31, 1997 December 31, 1998
----------------- ----------------- ----------------- ----------------- ----------------- -----------------
(unaudited) (unaudited) (unaudited) (unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C>
Net sales...... $ 13,258 $ 2,791 $ 20,437 $ 35,186 $ 2,791 $ 44,461
Cost of goods
sold.......... 9,187 1,978 13,660 22,809 1,978 29,081
----------------- ----------------- ----------------- ----------------- ----------------- -----------------
Gross profit.. 4,071 813 6,777 12,377 813 15,380
Selling,
general and
administrative
expenses...... 2,387 483 3,294 5,703 483 6,409
Amortization of
goodwill and
other
intangibles... 258 177 1,152 568 177 2,303
----------------- ----------------- ----------------- ----------------- ----------------- -----------------
Income from
operations... 1,426 153 2,331 6,106 153 6,668
Other expenses
(income):
Interest
expense to
stockholder(s)
and affiliate 913 739 - 2,143 739 -
Interest
expense to
others,net... 282 20 3,244 503 20 6,454
Management
fees and
other,net.... 80 - 62 226 - 125
----------------- ----------------- ----------------- ----------------- ----------------- -----------------
Income (loss)
before
income taxes 151 (606) (975) 3,234 (606) (89)
Income tax
expense
(benefit)..... 154 (163) (5) 1,441 (163) 786
----------------- ----------------- ----------------- ----------------- ----------------- -----------------
Net income
(loss)....... $ (3) $ (443) $ (970) $ 1,793 $ (443) $ (697)
================= ================= ================= ================= ================= =================
The accompanying notes are an integral part of these financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
AKI, INC. AND SUBSIDIARIES
(a wholly-owned subsidiary of AKI Holding Corp.)
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(dollars in thousands)
Predecessor Successor
----------------- -------------------------------------
July 1, 1997 December 16, 1997 Six Months
through through Ended
December 15, 1997 December 31, 1997 December 31, 1998
----------------- ------------------ -----------------
(unaudited) (unaudited)
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)......................... $ 1,793 $ (443) $ (1,903)
Adjustments to reconcile net income
(loss) to net cash provided
by operating activities:
Depreciation and amortization of
goodwill and other intangibles........ 2,456 349 4,374
Amortization of debt discount........... 233 6 -
Amortization of debt issuance costs..... 101 157 285
Deferred income taxes................... (460) (163) (334)
Other................................... (18) (19) 116
Changes in operating assets and
liabilities:
Accounts receivable................... 1,153 (366) (3,980)
Inventory............................. 69 189 (2,660)
Prepaid expenses, deferred charges
and other assets.................... (62) (273) (425)
Income taxes.......................... 699 - 6,182
Accounts payable and accrued expenses. (1,036) (6,472) 5,937
----------------- ------------------ -----------------
Net cash provided by (used in)
operating activities................ 4,928 (7,035) 8,798
----------------- ------------------ -----------------
Cash flows from investing activities:
Purchases of equipment.................... (807) (91) (1,657)
Payments for acquisitions, net of cash
acquired................................ - (134,153) -
----------------- ------------------ -----------------
Net cash used in investing
activities.......................... (807) (134,244) (1,657)
----------------- ------------------ -----------------
Cash flows from financing activities:
Payments under capital leases
for equipment........................... (249) (24) (301)
Net proceeds (repayments) on
line of credit.......................... 2,362 (6,700) -
Proceeds from issuance of senior increasing
rate notes, net of offering costs........ - 119,735 -
Proceeds from issuance of common stock..... - 76,000 -
Redemption of preferred stock.............. - (8,678) -
Repayment of loans payable to stockholder.. (1,851) (36,649) -
Repayment of other notes payable........... (50) - (1,330)
Dividends paid on preferred stock.......... (155) (128) -
----------------- ------------------ -----------------
Net cash provided by (used in)
financing activities.................. 57 143,556 (1,631)
----------------- ------------------ -----------------
Net increase in cash and cash
equivalents.................................. 4,178 2,277 5,510
Cash and cash equivalents, beginning of period. 303 - 1,641
----------------- ------------------ -----------------
Cash and cash equivalents, end of period....... $ 4,481 $ 2,277 $ 7,151
================= ================== =================
The accompanying notes are an integral part of these financial statements.
<PAGE>
AKI INC. AND SUBSIDIARIES
(a wholly-owned subsidiary of AKI Holding Corp.)
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (Continued)
(dollars in thousands)
Predecessor Successor
----------------- -------------------------------------
July 1, 1997 December 16, 1997 Six Months
through through Ended
December 15, 1997 December 31, 1997 December 31, 1998
----------------- ------------------ -----------------
(unaudited) (unaudited)
<S> <C> <C> <C>
Supplemental information:
Cash paid (received) during the period for:
Interest to stockholder(s)................ $ 1,146 $ - $ -
Interest, other........................... 459 3 89
Income taxes.............................. 1,222 - (5,062)
Significant non-cash activities:
Assets acquired under capital lease......... $ - $ - $ 561
The accompanying notes are an integral part of these financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
AKI INC. AND SUBSIDIARIES
(a wholly-owned subsidiary of AKI Holding Corp.)
CONSOLIDATED CONDENSED STATEMENT OF CHANGES IN STOCKHOLDER'S EQUITY
(dollars in thousands)
Accumulated
Common Stock Additional Other Carryover
-------------------- Paid-in Retained Comprehensive Basis
Shares Dollars Capital Earnings Income Adjustment Total
------- ------- ------------ ---------- --------------- ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Balances, June 30, 1998................ 1,000 $ - $ 100,862 $ (5,493) $ (57) $ (15,730) $79,621
Net income (unaudited)................. (697) (697)
Other comprehensive income, net of tax:
Foreign currency translation
adjustment (unaudited).............. 116 116
--------
Comprehensive income (unaudited)....... (581)
------- ------- ------------ ---------- --------------- ----------- --------
Balances, December 31, 1998 (unaudited) 1,000 $ - $ 100,862 $ (6,151) $ 59 $ (15,730) $79,040
======= ======= ============ ========== =============== =========== ========
The accompanying notes are an integral part of these financial statements.
</TABLE>
<PAGE>
AKI, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of AKI Holding Corp.)
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(dollars in thousands, except share information)
1. BASIS OF PRESENTATION
On November 4, 1993, Arcade Holding Corporation (the "Predecessor") was
organized for the purpose of acquiring all the issued and outstanding
capital stock of Arcade, Inc. Arcade, Inc. manufacturers and distributes
cosmetics sampling products from its Chattanooga, Tennessee facilities, and
distributes products in Europe through its French subsidiary, Arcade Europe
S.A.R.L. This acquisition was accounted for as a purchase transaction
whereby the purchase cost was allocated to the fair value of the net assets
acquired.
Acquisition of Arcade Holding Corporation
DLJ Merchant Banking Partners II, L.P. and certain related investors
(collectively, "DLJMBII") and certain members of the Predecessor organized
AHC I Acquisition Corp. ("Acquisition Corp.") and AHC I Merger Corp.
("Merger Corp.") for purposes of acquiring the Predecessor. Merger Corp.
was organized as a wholly-owned subsidiary of Acquisition Corp. and was
initially capitalized by Acquisition Corp. with an equity contribution of
$78,363, comprised of $76,000 of cash and $2,363 of non-cash consideration
in the form of an option to purchase Senior Preferred Stock of Acquisition
Corp. Immediately following this equity contribution, Merger Corp. issued
$123,500 of senior increasing rate notes ("Bridge Loans") to an entity that
has an ownership interest in Acquisition Corp. The Bridge Loans had a
stated maturity of December 15, 1998 and had an interest rate equal to the
greater of (i) 10% per annum and (ii) a daily floating rate of prime plus
2.25% plus an additional percentage amount equal to (a) 1.0% from and
including the interest payment date on June 15, 1998 or (b) 1.5% from and
including the interest payment date on September 15, 1998. Merger Corp.
received cash proceeds from the issuance of the Bridge Loans of $119,735,
net of $3,765 of associated debt issuance costs paid to an entity that has
an ownership interest in Acquisition Corp.
On December 15, 1997, Merger Corp. acquired all of the equity interests
of the Predecessor (the "Acquisition") for a total cost of $197,730 which
consisted of $138,634 cash paid for equity interests and direct acquisition
costs, $2,363 in non-cash consideration in the form of an option to
purchase Senior Preferred Stock of Acquisition Corp. used to retire 1,370
options of the Predecessor and the assumption of $56,733 in debt, preferred
stock and related accrued interest and dividends, including a capital lease
obligation. Included in the cost of the acquisition was $19,342 related to
the purchase and retirement of 11,201 options of the Predecessor and $2,022
paid for acquisition expenses to an entity that has an ownership interest
in Acquisition Corp. Merger Corp. then merged with and into the Predecessor
and the combined entity assumed the name AKI, Inc. ("AKI," the "Successor"
or the "Company)". Subsequent to the Acquisition, Acquisition Corp.
contributed $1 of cash and all of its ownership interest in AKI to AKI
Holding Corp. ("Holding").
<PAGE>
AKI, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of AKI Holding Corp.)
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(dollars in thousands, except share information)
1. BASIS OF PRESENTATION (Continued)
The Acquisition was accounted for using the purchase method of
accounting. In accordance with the consensus reached by the Emerging Issues
Task Force of the Financial Accounting Standards Board in Issue 88-16,
"Basis of Leveraged Buyout Transactions," the purchase price allocation
required an adjustment for the continuing interest attributable to
management's ownership interest in the Predecessor carried over in
connection with the Acquisition. As a result, a reduction in stockholder's
equity of $15,730 was recorded which represents the difference between the
fair value of the Company's assets and the related book value attributable
to the interest of the continuing shareholders' investment in the
Predecessor. The remaining purchase price has been allocated to assets and
liabilities based upon estimates of their respective fair value as
determined by management and third-party appraisals and goodwill of
approximately $153,929. Goodwill is being amortized on a straight-line
basis over 40 years.
In connection with the Acquisition, the Company repaid the outstanding
balance and related interest of the Predecessor's loans payable to a
shareholder of $37,374, the outstanding balance and related interest of the
Predecessor's line of credit of $6,278 and the outstanding balance and
related dividends on the Predecessor's preferred stock of $8,806.
Acquisition of fragrance sampling business of Minnesota Mining and
Manufacturing Company
On June 22, 1998, the Company acquired the fragrance sampling business
of Minnesota Mining and Manufacturing Company ("3M") for approximately
$7,250 in cash and the assumption of liabilities totaling $182 (the "3M
Acquisition"). The only tangible assets acquired were approximately $143 of
equipment. The acquisition was accounted for using the purchase method of
accounting and result in the recognition of intangible assets, primarily a
non-compete agreement, totaling $7,289 which are being amortized on a
straight-line basis over a period of 10 years.
Refinancing of Bridge Loans
On June 25, 1998, the Company completed a private placement of $115,000
of Senior Notes (the "Notes.") The Notes are general, unsecured obligations
of the Company and bear interest at 10.5% per annum, payable semi-annually
on January 1 and July 1. The Notes mature on July 1, 2008. The placement of
the Notes yielded the Company net proceeds of $109,502 after deducting
offering expenses of $5,498, including certain costs that were incurred
subsequent to June 30, 1998. These offering expense also include $3,450 of
underwriting fees paid to an affiliate of the stockholder. The Notes
contain customary covenants including restrictions on the declaration and
payment of dividends and limitations on the incurrence of additional
indebtedness.
<PAGE>
AKI, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of AKI Holding Corp.)
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(dollars in thousands, except share information)
1. BASIS OF PRESENTATION (Continued)
Contemporaneous with the Notes offering, Holding completed a private
offering of $50,000 of Senior Discount Debentures (the "Debentures"). The
Debentures do not accrue or pay interest until July 1, 2003 and were issued
with an original issuance discount of $24,038. The original issuance
discount is being accreted from issuance through July 1, 2003 at an
effective rate of 13.5% per annum. After July 1, 2003, the Debentures will
accrue interest at a rate of 13.5% per annum, payable semi-annually,
commencing January 1, 2004. The Debentures are general, unsecured
obligations of Holding.
With the proceeds of the Debentures offering, Holding contributed
$22,499 of cash to the Company. No additional shares were issued to Holding
as a result of this contribution. On June 25, 1998, the Company used the
proceeds from the contribution from Holding, together with the proceeds of
the Notes offering, to repay the Bridge Loans, without penalty
(collectively, the "Refinancing"). In conjunction with the Refinancing, the
Company recorded a non-cash interest charge of $1,795 for the unamortized
portion of the debt issuances costs associated with the Bridge Loans.
Interim financial statements
The interim consolidated condensed balance sheet at December 31, 1998,
the interim consolidated condensed statement of operations for the period
from October 1, 1997 through December 15, 1997, the interim consolidated
condensed statement of operations for the period from December 16, 1997
through December 31, 1997, the interim consolidated condensed statements of
operations for the three and six months ended December 31, 1998, the
interim consolidated condensed statement of cash flows for the period from
October 1, 1997 through December 15, 1997, the interim consolidated
condensed statement of cash flows for the period from December 16, 1997
through December 31, 1997, the interim consolidated condensed statement of
cash flows for the six months ended December 31, 1998 and the interim
consolidated condensed statement of changes in stockholder's equity for the
six months ended December 31, 1998 are unaudited, and certain information
and footnote disclosure related thereto, normally included in the financial
statements prepared in accordance with generally accepted accounting
principles, have been omitted. In the opinion of management, the unaudited
interim consolidated condensed financial statements were prepared following
the same policies and procedures used in preparation of the audited
financial statements and all adjustments, consisting only of normal
recurring adjustments to fairly present the financial position, results of
operations and cash flows with respect to the interim consolidated
condensed financial statements, have been included. The results of
operations for the interim periods are not necessarily indicative of the
results for the entire year.
<PAGE>
AKI, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of AKI Holding Corp.)
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(dollars in thousands, except share information)
1. BASIS OF PRESENTATION (Continued)
The accompanying unaudited interim consolidated condensed financial
statements as of December 31, 1998 and for the three and six months then
ended and for the period from December 16, 1997 through December 31, 1997,
present the financial position and results of operations of the Company on
the basis of accounting described above and, accordingly, are not
comparable with the audited financial statements for the period from July
1, 1997 through December 15, 1997, nor with the unaudited consolidated
condensed financial statements for the period from October 1, 1997 through
December 15, 1997.
Unaudited pro forma results for the Company assuming the Acquisition,
the 3M Acquisition and the Refinancing had occurred as of July 1, 1997 are
presented below:
Unaudited Pro Forma Results for the
Three Months Ended Six Months Ended
December 31, 1997 December 31, 1997
_________________ _________________
Net sales $ 18,383 $ 43,099
Income from operations 197 3,558
Interest expense 3,267 6,516
Net loss 2,297 2,658
<PAGE>
AKI, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of AKI Holding Corp.)
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(dollars in thousands, except share information)
2. INVENTORY
The following table details the components of inventory:
June 30, 1998 December 31, 1998
------------- -----------------
(unaudited)
Raw materials
Paper $ 556 $ 1,069
Other raw materials 786 2,098
------------- ----------------
Net raw materials 1,342 3,167
Work in process 736 1,571
------------- ----------------
Net inventory $ 2,078 $ 4,738
============ ================
3. SUBSEQUENT EVENTS
On February 1, 1999, the former president and chief executive officer
terminated his employment with the Company. Under the terms of his
employment agreement, the Company is required to pay $500 as severance. The
Company will record a charge in this amount during its fiscal third quarter
of 1999.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
General
The sales of AKI, Inc. and its subsidiaries (the "Company") are derived
from the sale of sampling products to cosmetics and consumer products
companies. Substantially all of the Company's sales are made directly to
its customers while a small portion are made through advertising agencies.
Each customer's sampling program is unique and pricing is negotiated based
on estimated costs plus a margin. While the Company and its customers
generally do not enter into long-term contracts, the Company has had
long-standing relationships with the majority of its customer base. The
introduction of the Company's new products, such as BeautiSeal, PowdaTouch
and LiquaTouch, has affected the Company's results of operations for
certain of the periods discussed below.
The Acquisition
DLJ Merchant Banking Partners II, L.P. and certain related investors
(collectively, "DLJMBII") and certain members of the Company's management
organized AHC I Acquisition Corp. ("Acquisition Corp.") and AHC I Merger
Corp. ("Merger Corp.") for purposes of acquiring Arcade Holding Corporation
(the "Predecessor"). On December 15, 1997, Merger Corp. acquired all of the
equity interests of the Predecessor (the "Acquisition") for $205.7 million
(including related fees, expenses and cash for working capital). Included
in the total cost of the Acquisition were approximately $6.2 million in
non-cash costs comprised of (i) the assumption of a promissory note issued
by the Predecessor in connection with the 1995 acquisition of Scent Seal,
Inc. and certain capital lease obligations and (ii) the exchange of stock
options to acquire common stock in the Predecessor by the Predecessor's
chief executive officer for an option to acquire preferred stock in
Acquisition Corp. To provide the $199.5 million of cash necessary to fund
the Acquisition, including the equity purchase price and the retirement of
all previously existing preferred stock and debt of the Predecessor not
assumed, (i) the Merger Corp. issued $123.5 million Senior Increasing Rate
Notes (the "Bridge Notes") to Scratch & Sniff Funding, Inc., an affiliate
of DLJMBII and Acquisition Corp. and (ii) Acquisition Corp. received $76.0
million from debt and equity (common and preferred) financings, including
equity investments by certain stockholders of the Predecessor, which was
contributed to Merger Corp. Immediately following the Acquisition, Merger
<PAGE>
Corp. merged with and into the Predecessor and the combined entity assumed
the name AKI, Inc. Acquisition Corp. then contributed its $1 of cash and
all of its ownership interest in AKI, Inc. to AKI Holding Corp. ("Holding")
for 1,000 shares of Holding's common stock.
The Bridge Notes were subsequently repaid on June 25, 1998 from the
proceeds of the Company's issuance of $115.0 million of Senior Notes (the
"Notes") and from a capital contribution (the "Equity Contribution") from
Holding. On June 25, 1998, Holding issued and sold Senior Discount
Debentures (the "Debentures") totalling $50.0 million in aggregate
principal amount at maturity for gross proceeds of $26.0 million, the
majority of which were used to fund a capital contribution to the Company.
The Acquisition was accounted for using the purchase method of
accounting and resulted in the recognition of $153.9 million of goodwill
and a significant increase in amortization expense.
Results of Operations
The discussion of results of operations for the three months ended
December 31, 1998 compared to the three months ended December 31, 1997
compares the results of operations of the Company for the three months
ended December 31, 1998 with the combination of the results of operations
of the Predecessor for the period October 1, 1997 through December 15,
1997, the date of Acquisition, with the results of operations of the
Company for the period December 16, 1997 to December 31, 1997. For purposes
of the following discussion, the results of operations for the six months
ended December 31, 1997 reflect the combination of the results of
operations of the Predecessor for the period July 1, 1997 through December
15, 1997, the date of the Acquisition, with the results of operations of
the Company for the period December 16, 1997 through December 31, 1997.
Because of the effects of purchase accounting applied in the Acquisition
and the additional interest expense associated with the debt incurred to
finance the Acquisition, the results of operations of the Company are not
comparable in all respects to the results of operations of the Predecessor.
<PAGE>
Three Months Ended December 31, 1998 Compared to Three Months Ended
December 31, 1997
Net Sales. Net sales for the three months ended December 31, 1998,
increased $4.4 million , or 27.5%, to $20.4 million as compared to $16.0
million for the three months ended December 31, 1997. The increases were
primarily attributable to the $2.9 million growth of the Company's European
revenues and the addition of business in connection with the 3M Acquisition
(as defined). Other increases were attributable to increases in domestic
sales of cosmetic sampling products and sales of consumer product samples,
partially offset by decreases in certain fragrance industry sampling.
Gross Profit. Gross profit for the three months ended December 31,
1998, increased $1.9 million, or 38.8%, to $6.8 million as compared to $4.9
million for three months ended December 31, 1997. Gross profit as a
percentage of net sales increased to 33.3% in the three months ended
December 31, 1998, from 30.6% in the three months ended December 31, 1997.
The increase in gross profit and gross profit as a percentage of net sales
is primarily attributable to the increase in net sales discussed above and
reductions in raw materials costs, offset by a decrease in certain
fragrance samples volume and pricing and increased costs associated with
the outsourcing of European production.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for the three months ended December 31, 1998,
increased $0.4 million, or 13.8% to $3.3 million as compared to $2.9
million for the three months ended December 31, 1997. The increase in
selling, general and administrative expenses was primarily due to changes
in executive compensation following the Acquisition and increased sales
commissions related to the increase in net sales offset partially by
reduced advertising expenditures and staff reductions. As a result of these
factors, selling, general and administrative expenses as a percent of net
sales decreased to 16.2% in the three months ended December 31, 1998 from
18.1% in the three months ended December 31, 1997.
Income from Operations. Income from operations for the three months
ended December 31, 1998 increased $0.7 million, or 43.8%, to $2.3 million
<PAGE>
as compared to $1.6 million for the three months ended December 31, 1997.
Income from operations as a percentage of net sales increased to 11.3% in
the three months ended December 31, 1998, from 10.0% in the three months
ended December 31, 1997, principally as a result of the factors described
above, offset by the increase in amortization of goodwill and other
intangibles resulting from the Acquisition and the 3M Acquisition.
Interest Expense. Interest expense for the three months ended December
31, 1998, increased $1.2 million, or 60.0% to $3.2 million, as compared to
$2.0 million for the three months ended December 31, 1997. Interest expense
as a percentage of net sales increased to 15.7% in the three months ended
December 31, 1998 from 12.5% in the three months ended December 31, 1997.
The increase in interest expense is a result of the recapitalization of the
Company in connection with the Acquisition.
Management Fees and Other, Net. Management fees and other, net for the
three months ended December 31, 1998, were approximately $62,000,
substantially unchanged from the three months ended December 31, 1997.
Income Tax Benefit. The income tax benefit for the three months ended
December 31, 1998 was unchanged from the three months ended December 31,
1997.
EBITDA. EBITDA for the three months ended December 31, 1998, increased
$1.5 million, or 50.0%, to $4.5 million as compared to $3.0 million for the
three months ended December 31, 1997, principally as a result of the
factors described above. EBITDA is income from operations plus depreciation
and amortization of goodwill and other intangibles.
Six Months Ended December 31,1998 Compared to Six Months Ended December 31,
1997.
Net Sales. Net sales for the six months ended December 31, 1998,
increased $6.5 million, or 17.1%, to $44.5 million as compared to $38.0
million for the six months ended December 31, 1997. The increases were
primarily attributable to the $4.3 million growth of the Company's European
revenues and the addition of business in connection with the 3M
<PAGE>
Acquisition. Other increases were attributable to increases in domestic
sales of cosmetic sampling products, partially offset by decreases in
certain fragrance industry sampling.
Gross Profit. Gross profit for the six months ended December 31, 1998,
increased $2.2 million, or 16.7%, to $15.4 million as compared to $13.2
million for the six months ended December 31, 1997. Gross profit as a
percentage of net sales decreased to 34.6% in the six months ended December
31, 1998, from 34.7% in the six months ended December 31, 1997. The
increase in gross profit is primarily attributable to the increase in net
sales discussed above. The decrease in gross profit as a percentage of net
sales is due to a decrease in certain fragrance samples volume and pricing,
changes in product sales mix, increased costs associated with the
outsourcing of European production and increased costs associated with the
initial production runs of certain customer products, offset by reductions
in raw materials costs.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for the six months ended December 31, 1998,
increased $0.2 million, or 3.2% to $6.4 million as compared to $6.2 million
for the six months ended December 31, 1997. The increase in selling,
general and administrative expenses was primarily due to changes in
executive compensation following the Acquisition and costs associated with
the transition of the 3M Acquisition offset partially be reduced
advertising expenditures, staff reductions and realized gains from foreign
currency transactions in Europe. As a result of these factors, selling,
general and administrative expenses as a percent of net sales decreased to
14.4% in the six months ended December 31, 1998 from 16.3% in the six
months ended December 31, 1997.
Income from Operations. Income from operations for the six months ended
December 31, 1998, increased $0.4 million, or 6.3%, to $6.7 million as
compared to $6.3 million for the six months ended December 31, 1997. Income
from operations as a percentage of net sales decreased to 15.1% in the six
months ended December 31, 1998, from 16.6% in the six months ended December
31, 1997, principally as a result of the increase in amortization of
goodwill and other intangibles resulting from the Acquisition and the 3M
Acquisition and the factors described above.
<PAGE>
Interest Expense. Interest expense for the six months ended December
31, 1998, increased $3.1 million, or 91.2% to $6.5 million as compared to
$3.4 million for the six months ended December 31, 1997. Interest expense
as a percentage of net sales increased to 14.6% in the six months ended
December 31, 1998 from 8.9% in the six months ended December 31, 1997. The
increase in interest expense is a result of the recapitalization of the
Company in connection with the Acquisition.
Management Fees and Other, Net. Management fees and other, net for the
six months ended December 31, 1998, were $0.1 million as compared to $0.2
million for the six months ended December 31, 1997. Management fees and
other, net as a percentage of net sales were relatively constant in the six
months ended December 31, 1998 and 1997.
Income Tax Expense. Income tax expense for the six months ended
December 31, 1998, decreased $0.5 million or 38.5% to $0.8 million as
compared to $1.3 million for the six months ended December 31, 1997 due to
the decrease in income before income taxes, partially offset by an increase
in non-deductible goodwill amortization. The Company's effective tax rate,
after consideration of non-deductible goodwill amortization, was 39.0% in
the six months ended December 31, 1998, and 37.9% in the six months ended
December 31, 1997.
EBITDA. EBITDA for the six months ended December 31, 1998, increased
$1.9 million, or 20.9%, to $11.0 million as compared to $9.1 million for
the six months ended December 31, 1997, principally as a result of the
factors described above. EBITDA is income form operations plus depreciation
and amortization of goodwill and other intangibles.
Liquidity and Capital Resources
At December 31, 1998, the Company's cash and cash equivalents and net
working capital were $7.2 million and $13.9 million, respectively,
representing an increase in cash and cash equivalents of $5.5 million and
an increase in net working capital of $1.1 million from June 30, 1998.
Account receivables, net, at December 31, 1998 increased 29.3% or $4.0
million over the June 30, 1998 amount, primarily due to increased sales.
<PAGE>
As of December 31, 1998, the Company had consolidated indebtedness,
including accrued interest, in an aggregate amount of $123.6 million,
consisting primarily of the Company's $115.0 million principal amount of 10
1/2% Senior Notes due 2008. At December 31, 1998, the Company's revolving
credit facility (the "Credit Agreement") provided for additional borrowings
of approximately $19.4 million, subject to a borrowing base calculation and
the achievement of certain financial ratios and compliance with certain
conditions.
Capital expenditures for the twelve months ending December 31, 1999 are
expected to be approximately $3.0 million. Based on borrowings outstanding
as of December 31, 1998, the Company expects total cash payments for debt
service for the twelve months ending December 31, 1999 to be approximately
$14.1 million, consisting of $12.1 million in interest payments on the
Notes, $0.9 million in capital lease payments, and $0.1 million in fees
under the Credit Agreement. The Company also expects to make royalty
payments of approximately $1.0 million during the twelve months ending
December 31, 1999. The Company believes that its liquidity, capital
resources and cash flows from existing operations will be sufficient to
fund budgeted capital expenditures, working capital requirements and
interest payments on its indebtedness, including the Notes, for the twelve
months ending December 31, 1999.
The Company may from time to time evaluate potential acquisitions. The
Company expects that funding for future acquisitions may come from a
variety of sources, depending on the size and nature of any such
acquisition. Potential sources of capital include cash generated from
operations, borrowings under the Credit Agreement, additional equity
investments or other external debt or equity financings, subject to
compliance with the terms of the Notes and Debentures. There can be no
assurance that such additional capital sources will be available to the
Company on terms that the Company finds acceptable, or at all.
3M Acquistion
On June 22, 1998, the Company acquired the fragrance sampling business
of the Industrial and Consumer Products division of Minnesota Mining and
Manufacturing Company ("3M") for $7.25 million in cash and assumption of a
liability of $182,000 to one of the customers of the business (the "3M
Acquisition"). 3M's fragrance sampling business was predominantly a sales
<PAGE>
and distribution business as it outsourced the manufacturing of the
products it sold. The company did not assume such outsourcing arrangements
and relocated such operations to its existing facilities in Chattanooga to
utilize the then excess manufacturing capacity at such facilities. Except
for several sales and technical employees, the Company did not extend
employment to any employees from 3M.
Cost Reduction Program
The Company has implemented a comprehensive program designed to reduce
annual operating costs. The comprehensive cost reduction program was
developed by the Company in connection with an evaluation of its operations
conducted by manufacturing consultants with significant experience in the
printing industry and is designed to improve the Company's operating
efficiency through (i) reduced materials cost derived from scrap/waste
reduction and from more effective purchasing (savings of approximately $1.2
million annually), (ii) streamlined manufacturing processes that reduce the
amount of time required to prepare for successive production runs utilizing
the same equipment and that reduce the amount of time equipment is under
utilized by improved scheduling of production runs (savings of
approximately $2.2 million annually), and (iii) rationalized staffing in
the product support area (savings of approximately $0.6 million annually).
Management expects the benefit of the materials cost reductions and
rationalized staffing which were implemented in July 1998 will be realized
in Fiscal 1999, while the streamlined manufacturing process is not expected
to be implemented and realized until the fiscal year ended June 30, 2000.
Approximately fifty percent of the estimated annual savings for reduced
materials costs (partially as the result of reduced paper pricing) and
reduced staffing levels have been realized as of December 31, 1998. The
amount of operational savings ultimately realized may be affected by
changes in product mix that may take place.
Seasonality
The Company's sales are seasonal due to the timing of its customers'
major advertising campaigns, which have traditionally been concentrated
prior to the Christmas and spring holiday seasons. Sales are recognized
when products are shipped. As a result, a higher level of sales are
reflected in the Company's first two fiscal quarters ended December 31 when
<PAGE>
sales from such advertising campaigns are principally recognized while the
Company's fourth fiscal quarter ended June 30 typically reflects the lowest
sales level of the fiscal year. Sales seasonality may be affected from time
to time as the Company's new product technologies are introduced and gain
acceptance by its customers.
Recently Issued Accounting Standards
In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133 ("SFAS No. 133"), "Accounting for Derivative Instruments
and Hedging Activities" which is effective for fiscal years beginning after
June 15, 1999. SFAS No. 133 established accounting and reporting standards
for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities. The Company has
only utilized derivative financial instruments to hedge the Company's
exposure to certain foreign currencies. Such hedging activity has
historically been minor and, as a result, adoption of this Statement is not
expected to have a material impact on the Company's financial condition or
results of operations. The Company will adopt the provisions of this
Statement on July 1, 1999.
Year 2000 Issues
The Company is currently working to resolve the potential impact of the
Year 2000 on its information technology systems and its non-information
technology systems so they will properly recognize and utilize dates beyond
December 31, 1999.
The Company has in place a Year 2000 program which is being executed by
an internal project team. The objective of the Year 2000 program is to
determine and assess the risks of the Year 2000 issue and to plan and
institute mitigating actions to minimize those risks to acceptable levels.
To date, all of the Company's systems have been assessed for Year 2000
compliance. The Company relies on five computerized systems all of which
required remediation, two of which are maintained internally and the others
are maintained by third party vendors. The Company believes that all of
these systems are currently Year 2000 compliant. Upon review of the
Company's non-information technology systems the Company believes that none
of its manufacturing equipment is date sensitive. Of the remaining
non-information technology systems, the Company believes all such systems
are Year 2000 compliant. If, however, all necessary actions are not taken
<PAGE>
on a timely basis to ensure Year 2000 compliance, the Year 2000 issue could
have a material adverse effect on the Company.
To date, the Company has spent $11,000 on Year 2000 compliance and
expects additional expenditures of approximately $40,000 during Fiscal
1999. Although the Company expects the above referenced expenditures will
be sufficient to ensure the Company is Year 2000 compliant, the Company
anticipates budgeting an additional $49,000 for any unforeseen problems
arising with respect to Year 2000 compliance between July 1, 1999 and the
Year 2000. All expenditures with respect to Year 2000 compliance will be
funded from working capital.
The Company is communicating with its significant customers and vendors
to understand their Year 2000 issues and how they might prepare themselves
to manage those issues as they relate to the Company. To date, no
significant customers or vendors have informed the Company that a material
Year 2000 issue exists which will have a material effect on the Company.
The Company has not formulated a contingency plan in the event it or
its significant customers or vendors are not Year 2000 compliant.
Subsequent Event
On February 1, 1999, Roger Barnett terminated his employment as
president and chief executive officer and the Company engaged William J.
Fox as chairman of the board of directors, president and chief executive
officer.
Forward-Looking Statements
The information provided herein contains forward-looking statements
that involve a number of risks and uncertainties. A number of factors could
cause actual results, performance, achievements of the Company or industry
results to be materially difference from any future results, performance or
achievements expressed or implied by such forward-looking statements. These
factors include, but are not limited to: the competitive environment in the
sampling industry in general and in the Company's specific market areas;
changes in prevailing interest rates; inflation; changes in cost of goods
<PAGE>
and services; economic conditions in general and in the Company's specific
market areas; changes in or failure to comply with postal regulations or
other federal, state and/or local government regulations; liability and
other claims asserted against the Company; changes in operating strategy or
development plans; the ability of the Company to effectively implement its
cost reduction program; the ability to attract and retain qualified
personnel; the significant indebtedness of the Company; labor disturbances;
changes in the Company's capital expenditure plans; and other factors. In
addition, such forward-looking statements are necessarily dependent upon
assumptions, estimates and dates that may be incorrect or imprecise and
involve known and unknown risk, uncertainties and other factors.
Accordingly, any forward-looking statements included herein do not purport
to be predictions of future events or circumstances and may not be
realized. Forward-looking statements can be identified by, among other
things, the use of forward-looking terminology such as "believes,"
"expects," "may," "should," "seeks," "pro forma," "anticipates," "intends"
or the negative of any thereof, or other variations thereon or comparable
terminology, or by discussions of strategy or intentions. Given these
uncertainties, readers are cautioned not place undue reliance on such
forward-looking statements. The Company disclaims any obligations to update
any such factors or to publicly announce the results of any revisions to
any of the forward-looking statements contained herein to reflect future
events or developments.
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule
27.2 Financial Data Schedule
(a) Reports on Form 8-K
None.
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.
AKI, INC.
By: /s/ Kenneth A. Budde
________________________
Kenneth A. Budde
Chief Financial Officer
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
<TABLE> <S> <C>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF AKI, INC. FOR THE THREE AND SIX MONTHS ENDED DECEMBER
31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> 3-MOS 6-MOS
<FISCAL-YEAR-END> JUN-30-1999 JUN-30-1999
<PERIOD-START> OCT-01-1998 JUL-01-1998
<PERIOD-END> DEC-31-1998 DEC-31-1998
<CASH> 7,151 7,151
<SECURITIES> 0 0
<RECEIVABLES> 17,855 17,855
<ALLOWANCES> 298 298
<INVENTORY> 4,738 4,738
<CURRENT-ASSETS> 30,418 30,418
<PP&E> 23,014 23,014
<DEPRECIATION> 3,931 3,931
<TOTAL-ASSETS> 215,646 215,646
<CURRENT-LIABILITIES> 16,492 16,492
<BONDS> 116,702 116,702
0 0
0 0
<COMMON> 0 0
<OTHER-SE> 79,040 79,040
<TOTAL-LIABILITY-AND-EQUITY> 215,476 215,476
<SALES> 20,437 44,461
<TOTAL-REVENUES> 20,437 44,461
<CGS> 13,660 29,081
<TOTAL-COSTS> 13,660 29,081
<OTHER-EXPENSES> 0 0
<LOSS-PROVISION> 20 20
<INTEREST-EXPENSE> 3,244 6,454
<INCOME-PRETAX> (975) 89
<INCOME-TAX> (5) 786
<INCOME-CONTINUING> (970) (697)
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (970) (697)
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</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
<TABLE> <S> <C>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF AKI, INC.(OR ITS PREDECESSOR) FOR THE THREE AND SIX
MONTHS ENDED DECEMBER 31, 1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> 3-MOS 6-MOS
<FISCAL-YEAR-END> JUN-30-1998 JUN-30-1998
<PERIOD-START> OCT-01-1997 JUL-01-1997
<PERIOD-END> DEC-31-1997 DEC-31-1997
<CASH> 2,277 2,277
<SECURITIES> 0 0
<RECEIVABLES> 9,790 9,790
<ALLOWANCES> 377 377
<INVENTORY> 2,439 2,439
<CURRENT-ASSETS> 21,043 21,043
<PP&E> 20,198 20,198
<DEPRECIATION> 147 147
<TOTAL-ASSETS> 201,364 201,364
<CURRENT-LIABILITIES> 132,997 132,997
<BONDS> 1,780 1,780
0 0
0 0
<COMMON> 0 0
<OTHER-SE> 62,171 62,171
<TOTAL-LIABILITY-AND-EQUITY> 201,364 201,364
<SALES> 16,049 37,977
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<CGS> 11,165 24,787
<TOTAL-COSTS> 11,165 24,787
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<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 1,954 3,405
<INCOME-PRETAX> (455) 2,628
<INCOME-TAX> (9) 1,278
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</TABLE>
