EMPIRE OF CAROLINA INC, 10-Q, 2000-11-20

EMPIRE OF CAROLINA INC
10-Q, 2000-11-20
GAMES, TOYS & CHILDREN'S VEHICLES (NO DOLLS & BICYCLES)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2000

-------------------

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _____________ to _____________

Commission File No. 1-7909
------

EMPIRE OF CAROLINA, INC.

(Exact name of Registrant as specified in its charter)

Delaware 13-2999480
-------- ----------
(State or other jurisdiction of incorporation or (I.R.S. Employer
organization) Identification Number)

4731 WEST ATLANTIC BOULEVARD SUITE B1, DELRAY BEACH, FL 33445
---------------------------------------------------------------
(Address of principal executive office)
(Zip Code)

(561) 498-4000
--------------
Registrant's telephone number, including area code)

(Former name, former address and former fiscal year,
if changed since last report.)

Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.

Yes X No __
-

The number of shares outstanding of the issuer's Common Stock, $.10 par value,
as November 8, 2000 was 21,617,839.

<PAGE>

EMPIRE OF CAROLINA, INC.

INDEX

<TABLE>
<CAPTION>
Page
-----
<S> <C> <C>
Facing Sheet............................................................................... Cover Page

Index...................................................................................... 1

Part I - Financial Information 2

Item 1. Financial Statements

Consolidated Condensed Balance Sheets

September 30, 2000 and December 31, 1999..................................... 3
Consolidated Condensed Statements of Operations
Three months ended September 30, 2000 and October 3, 1999.................... 4
Consolidated Condensed Statements of Operations
Nine months ended September 30, 2000 and October 3, 1999..................... 5
Consolidated Condensed Statements of Cash Flows
Nine months ended September 30, 2000 and October 3, 1999..................... 6
Notes to Consolidated Condensed Financial Statements.............................. 7-10

Item 2. Management's Discussion and Analysis of Financial Conditions
And Results of Operations................................................... 11-15

Item 3. Quantitative and Qualitative Disclosures about Market Risk................... 15

Part II - Other Information

Item 1. Legal Proceedings............................................................ 16

Item 3. Defaults Upon Senior Securities.............................................. 17

Item 5. Other Information............................................................ 17

Item 6. Exhibits and Reports on Form 8-K............................................. 18

Signature.................................................................................. 18
</TABLE>

<PAGE>

PART I - FINANCIAL INFORMATION

"Safe Harbor" Statement under the Private Securities Litigation Reform Act of
1995.

This Form 10-Q contains various forward-looking statements and information,
including under the caption "Management's Discussion and Analysis of Financial
Condition and Results of Operations," that are based on management's beliefs as
well as assumptions made by and information currently available to management,
including statements regarding future economic performance and financial
condition, liquidity and capital resources and management's plans and
objectives. When used in this document, the words "expect," "anticipate,"
"estimate," "believe," and similar expressions are intended to identify
forward-looking statements. Such statements are subject to various risks and
uncertainties which could cause actual results to vary materially from those
stated. Should one or more of these risks or uncertainties materialize, or
should underlying assumptions prove incorrect, actual results may vary
materially from those anticipated, estimated, expected or projected. Such risks
and uncertainties include the Company's ability to manage inventory production
and costs, to meet potential increases or decreases in demand, potential adverse
customer impact due to delivery delays including effects on existing and future
orders, competitive practices in the toy and golf industries, changing consumer
preferences and risks associated with consumer acceptance of new product
introductions, potential increases in raw material prices, potential delays or
production problems associated with foreign sourcing of production and the
impact of pricing policies including providing discounts and allowances,
reliance on key customers, the seasonality of the Company's business, the
ability of the Company to maintain DIP financing, to comply with the terms and
covenants of the DIP financing and the ability of the Company to complete a
substantial reorganization of its debt obligations, and the Company's ability to
obtain additional capital to meet cash flow and working capital needs and to
fund future commitments and operations. Certain of these as well as other risks
and uncertainties are described in more detail in the Company's Annual Report on
Form 10-K for the year ended December 31, 1999 and the Company's Registration
Statement on Form S-3 filed under the Securities Act of 1933, Registration No.
333-57963. The Company undertakes no obligation to update any such factors or to
publicly announce the result of any revisions to any of the forward-looking
statements contained herein to reflect future events or developments.

<PAGE>

Item 1. Financial Statements

EMPIRE OF CAROLINA, INC., AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS

(In thousands except share amounts)

<TABLE>
<CAPTION>
September 30, December 31,
2000 1999
---------- ----------
(unaudited)
<S> <C> C>
ASSETS
Current Assets:
Cash and cash equivalents $ 795 $ 1,589
Accounts receivable, net 12,474 16,708
Inventories, net 9,445 12,144
Prepaid expenses and other current assets 543 301
--------- ---------
Total current assets 23,257 30,742

Property, plant and equipment, net 1,921 11,413

Excess cost over fair value of net assets acquired, net 10,527 11,392

Trademarks, patents, tradenames and licenses, net 4,688 5,287

Other noncurrent assets 1,116 268

--------- ---------
Total Assets $ 41,509 $ 59,102
========= =========

LIABILITIES AND STOCKHOLDERS' EQUITY

Current Liabilities:

Notes payable and current portion of long-term debt $ 26,337 $ 34,096
Accounts payable - trade 6,020 6,748
Other accrued liabilities 4,883 7,834
--------- ---------
Total current liabilities 37,240 48,678
--------- ---------
Long-Term Liabilities:
Long-term debt 625 625
Other noncurrent liabilities 1,192 1,040
--------- ---------
Total long-term liabilities 1,817 1,665
--------- ---------
Total liabilities 39,057 50,343
--------- ---------

Commitments and Contingencies (Note 3)
Stockholders' Equity:

Common stock, $.10 par value, 60,000,000 shares authorized, shares
Issued and outstanding: 2000 - 21,618,000 and 1999 - 19,667,000 2,162 1,967

Preferred stock, $.01 par value, 5,000,000 shares authorized. Issued and
outstanding: 2000 - 1,431,000 and 1999 - 1,487,000 Shares of Series A
convertible preferred stock and 2000 - 1,451 and

1999 - 1,451 shares of Series C convertible preferred stock 13 15
Additional paid-in capital 115,664 115,824
Deficit (115,387) (109,047)
--------- ---------
Total stockholders' equity 2,452 8,759
--------- ---------

Total Liabilities and Stockholders' Equity $ 41,509 $ 59,102
========= =========
</TABLE>

See notes to consolidated condensed financial statements.

<PAGE>

EMPIRE OF CAROLINA, INC., AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In thousands except per share amounts) (Unaudited)

Quarter Ended Quarter Ended
September 30, October 3,
2000 1999
-------- ---------

Net Sales $ 10,688 $ 19,778

Cost of Sales 9,845 16,144
-------- --------
Gross Profit 843 3,634

Selling and Administrative Expense 2,856 4,026

Operating Loss (2,013) (392)
Other Non-operating Income -- 450
Interest Expense (823) (793)

Loss Before Income Taxes (2,836) (735)

Income Tax Expense 10 --
-------- --------
Net Loss ($ 2,846) ($ 735)
======== ========

Loss Per Common Share -
Basic and diluted ($ 0.13) ($ 0.04)
======== ========

Weighted average number of common shares
outstanding -
Basic and diluted 21,592 18,125
======== ========

See notes to consolidated condensed financial statements

4
<PAGE>

EMPIRE OF CAROLINA, INC., AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS

(In thousands except per share amounts) (Unaudited)

Nine Months Ended Nine Months Ended
September 30, October 3,
2000 1999
-------- ---------
Net Sales $ 31,938 $ 50,082

Cost of Sales 26,355 38,756
-------- --------
Gross Profit 5,583 11,326

Selling and Administrative Expense 9,574 13,208

Operating Loss (3,991) (1,882)
Other Non-operating Income -- 450
Interest Expense (2,301) (2,569)

Loss Before Income Taxes (6,292) (4,001)

Income Tax Expense 48 --

-------- --------
Net Loss ($ 6,340) ($ 4,001)
======== ========
Loss Per Common Share -
Basic and diluted ($ 0.30) ($ 0.23)
======== ========

Weighted average number of common shares
outstanding -
Basic and diluted 20,825 17,186
======== ========

See notes to consolidated condensed financial statements.

<PAGE>

EMPIRE OF CAROLINA, INC., AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)(In Thousands)

<TABLE>
<CAPTION>
Nine Months Ended Nine Months Ended
September 30, October 3,
2000 1999
--------- ---------
<S> <C> <C>
Cash Flows From Operating Activities:
Net loss ($ 6,340) ($ 4,001)
Loss on sale of assets 1,772
Adjustments to reconcile net loss to net cash used in
Operating activities:
Depreciation and amortization 2,239 3,301
Other (2,614) 1,413
Changes in assets and liabilities 5,056 (11,502)
-------- --------
Net cash provided by (used in) operating activities 113 (10,789)
-------- --------
Cash Flows From Investing Activities:
Capital expenditures (20) (2,644)
Net proceeds from sale of assets 7,497
-------- --------
Net cash provided by (used in) investing activities 7,477 (2,644)
-------- --------
Cash Flows From Financing Activities:
Borrowings (repayments) under lines of credit (7,759) 11,729
Repayments of notes payable (625) (625)
-------- --------
Net cash provided by (used in) financing activities (8,384) 11,104
-------- --------
Net Decrease in Cash and Cash Equivalents (794) (2,329)

Cash and Cash Equivalents, Beginning of Period 1,589 4,295
-------- --------
Cash and Cash Equivalents, End of Period $ 795 $ 1,966
======== ========

Supplemental Disclosures of Cash Flow Information:
Cash paid during the period for:
Interest $ 2,301 $ 2,086
Income taxes, (net of refunds) 157 125
</TABLE>

See notes to consolidated condensed financial statements.

<PAGE>

EMPIRE OF CAROLINA, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Nine Months Ended September 30, 2000 and October 3, 1999
(Unaudited)

1. SUMMARY OF BUSINESS OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES

The accompanying unaudited consolidated condensed financial statements
have been prepared by the Company pursuant the rules and regulations of the
Securities and Exchange Commission ("SEC") and, in the opinion of management,
include all adjustments (consisting of normal recurring accruals) necessary for
a fair presentation of financial position, results of operations and cash flows
for the interim periods. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the rules and
regulations of the SEC. The Company believes that the disclosures contained
herein are adequate to make the information presented not misleading. The
consolidated statements of operations for the nine months ended September 30,
2000 are not necessarily indicative of the results to be expected for the full
year. These unaudited financial statements should be read in conjunction with
the audited financial statements and accompanying notes included in the
Company's 1999 Annual Report on Form 10-K for the year ended December 31, 1999.

The consolidated condensed financial statements have been prepared on a
going concern basis, which contemplates the realization of assets and
satisfaction of liabilities in the normal course of business. Recurring losses
from operations and operating cash constraints, as well as the filings described
under "Filing of Petition for Reorganization under Chapter 11" below, are
potential factors which, among others, may indicate that the Company will be
unable to continue as a going concern for a reasonable period of time. The
independent auditors' report on the December 31, 1999 financial statements
stated that "... the Company's recurring losses from operations and current cash
constraints raise substantial doubt about the Company's ability to continue as a
going concern . . . . The consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty."
Furthermore, the Company's ability to continue as a going concern is dependent
upon, among other things, the ability to formulate a plan of reorganization that
will be confirmed by the Court, maintain financing as the debtor-in-possession,
achieve profitable operations and generate sufficient cash from operations,
financing sources or through the sale of assets to meet its obligations.

The consolidated financial statements do not include adjustments relating
to the recoverability and classification of recorded asset amounts, or the
amounts and classification of liabilities that might be necessary should the
Company be unable to continue as a going concern. The Company's ability to
continue as a going concern is dependent upon its ability to generate sufficient
cash flow to meet its obligations on a timely basis and ultimately to attain
profitable operations.

In 2000, the Company implemented a calendar month end monthly closing
cycle for the quarter versus a 4-4-5 week monthly closing cycle in the prior
year quarter. This change has no significant impact on the comparability of the
interim consolidated condensed financial statements presented.

Filing of Petitions for Reorganization under Chapter 11 - On November 17,
2000 (the "Petition Date"), Empire of Carolina, Inc., and its wholly-owned
subsidiary, Empire Industries, Inc. (collectively, the "Filing Parties") filed
voluntary petitions (the "Petitions") for reorganization under Chapter 11 of the
U.S. Bankruptcy Code (the "Chapter 11 Cases") with the United States Bankruptcy
Court for the Southern District of Florida, West Palm Beach Division (the
"Court"). Neither Apple Sports, Inc., Apple Golf Shoes, Inc., or Dorson Sports,
Inc. (collectively, the "Apple Companies"), all of which operate the Company's
consumer sports line, nor any other affiliates or subsidiaries of the Filing
Parties, have filed petitions at this time. The Company expects that other
subsidiaries will file petitions as related cases in the future. Under Chapter
11, the Filing Parties are operating their businesses as debtor-in-possession
under the supervision of the Court. Under these proceedings,

<PAGE>

substantially all liabilities, litigation and claims against the Filing Parties
and other contractual obligations of the Filing Parties in existence at the
Petition Date are stayed. In addition, the Filing Parties may reject executory
contracts and lease obligations, and parties affected by these rejections may
file claims with the Court in accordance with the reorganization process. All of
the liabilities of the Filing Parties as of the Petition Date are subject to
allowance and payment under a plan of reorganization to be voted upon by all
impaired classes of creditors and equity security holders and approved by the
Court. The Filing Parties are working toward the preparation of a plan of
reorganization, which may include the sale of all or substantially all of the
assets of Empire Industries, Inc. and Empire of Carolina, Inc. including the
assets of the Apple Companies.

Debtor-In-Possession Facility - On November 17, 2000, the Filing Parties
entered into an interim debtor-in-possession ("DIP") financing facility with
LaSalle National Bank, as agent for itself and the pre-Petition lenders
("LaSalle"), to finance, among other things, the Filing Parties' working capital
requirements during the Chapter 11 reorganization proceedings. The Filing
Parties are seeking immediate approval of the DIP facility by the Court. The
facility will provide financing for the period ending January 31, 2001 of
additional borrowings of up to $3,557,000 and will permit the use by the Filing
Parties of cash collateral currently pledged under the Filing Parties'
pre-Petition bank facility with LaSalle, which as of the Petition Date, had
revolving loans extended of approximately $18.4 million.

Earnings per share - All of the Company's options, warrants and
convertible securities are excluded from basic and diluted earnings per share
because they are anti-dilutive.

Use of Estimates - The preparation of the 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 period. Actual results could differ from those estimates.

2. ACCOUNTS RECEIVABLE

A summary of accounts receivable at September 30, 2000 and December 31,
1999 is as follows (in thousands):

September 30, December 31,
2000 1999
--------- ----------
Gross Receivables $ 16,817 $ 23,986
Less: Allowances and other deductions (4,343) (7,278)
--------- ----------
Net receivables $ 12,474 $ 16,708
========= ==========

3. INVENTORIES

A summary of inventories, by major classification, at September 30, 2000
and December 31, 1999 is as follows (in thousands):

September 30, December 31,
2000 1999
--------- ----------
Finished Goods $ 10,256 $ 10,730
Raw Materials and purchased parts 1,671 3,384
Work-in-process 430 621
--------- ----------
Subtotal 12,357 14,735
Less: Reserve for obsolescence (2,912) (2,591)
--------- ----------
Total Inventory $ 9,445 $ 12,144
========= ==========

<PAGE>

4. COMMITMENTS AND CONTINGENCIES

Royalty agreements - The Company is obligated to pay certain minimum
royalties under various trademark license agreements that aggregate
approximately $4.9 million through their initial minimum terms expiring through
June 30, 2002.

Letters of credit - The Company had outstanding commitments under letters
of credit totaling approximately $1,043,000 at September 30, 2000 compared to
$1,064,000 at December 31, 1999.

Indemnifications - In connection with the sale of businesses it previously
owned, the Company provided certain indemnifications to the purchaser. The
Company has established reserves for all claims known to it and for other
contingencies in connection with the sale. Although there can be no assurance
that claims and other contingencies related to the sale will not exceed
established reserves, the Company believes that additional exposure related to
the indemnification obligations will not be material to the consolidated
financial statements.

Litigation - On November 17, 2000, Empire of Carolina, Inc. and Empire
Industries, Inc. filed voluntary petitions for reorganization under Chapter 11
of the Bankruptcy Code with the United States Bankruptcy Court for the Southern
District of Florida, West Palm Beach Division. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Liquidity and
Capital Resources - Filing of Petitions for Reorganization under Chapter 11." As
a result of the filing of the Chapter 11 Cases, the cases mentioned below have
been stayed pursuant to the United States Bankruptcy Code.

In mid-1997, Mid-Atlantic Rigging, Inc. filed an action in the Superior
Court of New Jersey, Law Division, Gloucester County, New Jersey, against Empire
Industries, Inc. This action alleges damages in excess of $100,000. This matter
was referred to arbitration as required under New Jersey statute. On July 19,
2000, a non-binding arbitration award in the amount of $172,095 (inclusive of
interest and attorneys' fees) was entered against Empire Industries, Inc. On
August 4, 2000, Empire filed a de novo appeal of the non-binding arbitration
award. This matter has been set for trial commencing November 27, 2000.

On July 13, 2000, Frischkorn, Inc. filed an action in the United States
District Court, Eastern District of Virginia, Richmond Division, against Empire
Industries, Inc. This action alleges that Empire Industries breached its
agreement with Frischkorn by failing to pay for goods and materials and demands
damages in excess of $214,000. A judgment in the amount of $230,000 was entered
against the Company on or about November 16, 2000.

During December 1990, George Delaney and Rehkemper I.D., Inc. filed a
lawsuit in the Circuit Court of Cook County, Illinois, Chancery Division,
against Marchon, Inc. claiming infringement of various intellectual property
rights and failure to pay royalties related to Marchon's development and sale of
various toys allegedly designed by plaintiffs. The Company was added as a
defendant after its acquisition of Marchon in October 1994. In August 1999, the
Company agreed to settle the litigation for $750,000. Pursuant to the settlement
agreement, the Company paid to the plaintiffs $350,000 on September 28, 1999 and
was obligated to pay an additional $400,000 in quarterly payments of $50,000
commencing March 31, 2000. The Court entered an Order of Dismissal with
Prejudice on September 17, 1999. The Company defaulted on its payment due
September 30, 2000, and in November 2000, Plaintiffs filed a motion with the
Court requesting entry of a default judgment. The Company expects that judgment
will be entered in an amount in excess of $300,000.

In December 1999, Quality Temporary Services, Inc. filed suit in the
United States District Court, Eastern District of Michigan, against the Company
alleging failure by the Company to pay amounts outstanding for temporary
staffing costs provided by Quality Temporary Services. The complaint alleged
that the Company owed Quality Temporary Services the sum of $489,499 plus
interest. In January 2000, the Company entered into a settlement agreement
pursuant to which the Company agreed to pay the entire outstanding amount due
together with interest, accruing from March 1, 2000 on the unpaid principal
balance at the rate of 7% per annum. Payments commenced January 31, 2000, and
were to be made in approximately equal installments each week through January
2001. An Order of Dismissal without Prejudice was entered by the Court in
January 2000. The

<PAGE>

Company defaulted on its payment due in August 2000, and in October 2000,
Plaintiffs filed a motion with the Court requesting entry of a consent judgment
in an amount in excess of $400,000.

Marvin Smollar, a former director of the Company, was the defendant
in a suit filed by the Company in January 1997 which sought to enforce a certain
guarantee by Mr. Smollar of debt owed to the Company by 555 Corporate Woods
Parkway, Inc. Mr. Smollar denied the allegations in the Company's complaint. On
February 24, 1997, Mr. Smollar commenced an action in the Circuit Court of Palm
Beach County, Florida captioned Marvin Smollar v. Empire of Carolina, Inc.
claiming (a) breach of his employment agreement, (b) breach of a Marchon phantom
stock plan agreement and (c) breach of an oral agreement to pay relocation
expenses, and seeking injunctive relief enjoining the Executive Committee of the
Board of Directors from taking certain actions. During January 1998, the Company
and Mr. Smollar entered into a settlement agreement resolving each of these
claims in addition to a claim that had been brought by 1431 Kingsland Avenue,
L.P., alleging that the Company had breached a lease at 1431 Kingsland Avenue in
Pagedale, Missouri. In September 2000, the Company defaulted on payments due to
Mr. Smollar under the settlement agreement and on October 5, 2000, on Mr.
Smollar's motion, the Court entered a default judgment against the Company in
the sum of $470,000.

The Company's operating subsidiaries and its former operating subsidiaries
are subject to various types of consumer claims for personal injury from their
products. The Company's subsidiaries maintain product liability insurance.
Various product liability claims, each of which management believes is
adequately covered by insurance and/or reserves, are currently pending. The
Company does not believe the outcome of any of this litigation either
individually or in the aggregate would have a material adverse effect on the
Company's consolidated financial statements.

Contingencies - The Company has been identified as a potentially
responsible party, along with numerous other parties, at various U. S.
Environmental Protection Agency ("EPA") designated superfund sites. The Company
is vigorously contesting these matters. It is the Company's policy to accrue
remediation costs when it is possible that such costs will be incurred and when
they can be reasonably estimated. As of December 31, 1999 and September 30,
2000, the Company had reserves for environmental liabilities of $98,000. The
amount accrued for environmental liabilities was determined without
consideration of probable recoveries from third parties. Estimates of costs for
future remediation are necessarily imprecise due to, among other things, the
allocation of costs among potentially responsible parties. Although it is
possible that additional environmental liability related to these matters could
result in amounts that could be material to the Company's consolidated financial
statements, a reasonably possible range of such amounts cannot presently be
estimated. Based upon the facts presently known, the large number of other
potentially responsible parties and potential defenses that exist, the Company
believes that its share of the costs of cleanup for its current remediation
sites will not, in the aggregate, have a material adverse impact on its
consolidated financial statements.

5. STOCKHOLDERS' EQUITY

During the first nine months of 2000, 203,400 shares of Series A Preferred
Stock were converted to 1,627,200 shares of Common Stock. The effect of the
conversion resulted in an increase in common stock value of $162,000, a decrease
in Preferred Stock value of $2,000, and a decrease in additional paid-in capital
of $160,000.

During July 2000, the Company issued 330,000 shares of Common Stock in
lieu of directors and consulting fees resulting in an increase in Common Stock
of $33,000 and a decrease in other accrued liabilities of $33,000.

<PAGE>

Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations

`Safe Harbor" Statement under the Private Securities Litigation Reform Act of
1995.

Certain items discussed or incorporated by reference herein contain
forward-looking statements that involve risks and uncertainties including, but
not limited to, the Company's ability to manage inventory production and costs,
to meet potential increases or decreases in demand, potential adverse customer
impact due to delivery delays including effects on existing and future orders,
competitive practices in the toy and golf industries, changing consumer
preferences and risks associated with consumer acceptance of new product
introductions, potential increases in raw material prices, potential delays or
production problems associated with foreign sourcing of production and the
impact of pricing policies including providing discounts and allowances,
reliance on key customers, the seasonality of the Company's business, the
ability of the Company to maintain DIP financing, to comply with the terms and
covenants of the DIP financing and to complete a substantial reorganization of
its debt obligations, and the Company's ability to obtain additional capital to
meet cash flow and working capital needs and to fund future commitments and
operations.

General

The Company designs, develops, and markets a broad variety of consumer
products including children's toys, golf footwear and accessories, sports boards
and accessories, and seasonal outdoor sports activity products. The Company's
line of toys includes the classic Big Wheel(R) ride-on toys, Grand Champions(R)
collectible horses, and Buddy L(R) cars and trucks. Its consumer sports line,
which is operated by Apple Sports, Inc., apple Golf Shoes, Inc. and Dorson
Sports, Inc., all wholly owned subsidiaries of the Company, includes Wilson(R)
golf shoes and accessories and MONGOOSE(R) sports boards and accessories.

Results of Operations

Third Quarter Ended September 30, 2000 Compared to Third Quarter Ended
October 3, 1999

Net Loss. The net loss for the quarter ended September 30, 2000 was $2.8
million as compared to $0.7 million for the quarter ended October 3, 1999. The
1999 quarter included a gain of $0.45 million from proceeds of the Company's
business interruption policy due to Hurricane Floyd. The increase in the net
loss was attributable to lower sales volume and increase in the allowance for
sales returns, partially offset by lower SG&A expenses of $1.2 million as
compared to the prior year's third quarter.

Net Sales. The nature of the Company's business is such that year to year
changes in sales levels are predominantly due to changes in shipping volume or
product mix rather than changing sales prices. Net sales for the quarter ended
September 30, 2000 decreased by $9.1 million, or 46.0%, to $10.7 million. The
Company believes that the decrease in sales is primarily due to the sale of the
seasonal products line to General Foam Inc. on May 4, 2000 and to a lesser
extent, to increased competition with respect to particular products and the
elimination of sales of low margin products.

Gross Profit Margins. Gross profit margins for the quarter ended September
30, 2000 was 7.9% as compared with 18.4% in the quarter ended October 3, 1999.
The decrease in gross profit margin for the third quarter of 2000 is due to
lower sales volumes and sales mix, and an increase in the allowance for sales
returns of $0.5 million.

Selling and Administrative ("S&A"). Selling and administrative expenses
for the quarter ended September 30, 2000 was $2.9 million as compared to $4.0
million for the quarter ended October 3, 1999. Selling and administrative
expenses decreased due to the Company's continuing cost cutting efforts and
elimination of excess overhead costs due to the sale of the seasonal products
lines and the Tarboro, N.C. manufacturing facility to General Foam Inc. in May
and June, 2000.

<PAGE>

Interest Expense. Interest expense increased slightly to $0.82 million for
the third quarter of 2000 compared to $0.79 million during the third quarter of
1999. This increase is a result of higher interest rates in the current quarter
as compared to the third quarter of 1999.

Nine Months Ended September 30, 2000 Compared to Nine Months October 3, 1999

Net Loss. The net loss for the nine months ended September 30, 2000 was
$6.3 million as compared to $4.0 million for the quarter ended October 3, 1999.
The increase in the net loss was attributable to lower sales volume, an increase
in the allowance for sales returns, increases in the cost of petrochemical
plastic resin derivatives, and the under-utilization of the Company's
manufacturing facility in Tarboro, North Carolina, partially offset by lower
selling and administrative expense and interest expense. The 1999 figures
included a gain of $0.45 million from proceeds of the Company's business
interruption policy due to Hurricane Floyd.

Net Sales. The nature of the Company's business is such that year to year
changes in sales levels are predominantly due to changes in shipping volume or
product mix rather than changing sales prices. Net sales for the nine months
ended September 30, 2000 decreased by $18.1 million, or 36.2%, to $31.9 million.
The Company believes that the decrease in sales is primarily due to increased
competition with respect to particular products and elimination of sales of low
margin products and the sale of the seasonal products line to General Foam on
May 4, 2000.

Gross Profit Margins. Gross profit margins for the nine months ended
September 30, 2000 was 17.5% as compared with 22.6% in the nine months ended
October 3, 1999. The decrease in gross profit margin for the nine months of 2000
is due to lower sales volumes and sales mix, an increase in the allowance for
sales returns, an increases in the cost of petrochemical plastic resin
derivatives, the under-utilization of the Company's manufacturing facility, and
the liquidation and clearance of old inventory.

Selling and Administrative ("S&A"). Selling and administrative expenses
for the nine months ended September 30, 2000 was $9.6 million as compared to
$13.2 million for the nine months ended October 3, 1999. Selling and
administrative expenses decreased due to the Company's continuing cost cutting
efforts and elimination of excess overhead costs due to the sale of the seasonal
products line to General Foam on May 4, 2000.

Interest Expense. Interest expense decreased to $2.3 million for the nine
months of 2000 compared to $2.6 million during the nine months of 1999. This
decrease is a result of lower borrowings offset by slightly higher interest
rates.

Seasonality of Sales

Sales of the Company's products are seasonal in nature. Products sold
primarily in the spring and summer months include golf footwear and accessories,
Crocodile Mile(R) water slides and other items, which are shipped principally in
the first and second quarters of the year and counter some of the seasonality
associated with the Company's toy products. In addition, certain toys such as
Big Wheel(R) ride-ons, Grand Champions(R) horses and Buddy L(R) vehicles ship
year round. The Company expects that its quarterly operating results will vary
significantly throughout the year.

<PAGE>

Liquidity and Capital Resources

Overview

The Company has experienced severe operating difficulties during the past
several years and sales have declined over this period. The Company recorded a
net loss of $6.3 million for the first nine months of 2000 as compared with a
net loss of $4.0 million for the first nine months of 1999.

Prior to the Petition Date (as defined below), the Company financed its
losses primarily by additional borrowings under its existing bank credit
facilities. The Company, through its domestic operating subsidiaries, has a
series of cross-guaranteed secured bank facilities which currently aggregate up
to $50.0 million ($40.0 million for Empire Industries and $10.0 million for the
Apple Companies (as defined below)) available for financing. As part of the
Empire Industries facility, there is a three-year term loan of $6.8 million,
which requires monthly principal payments of $133,000. Also, up to $9.0 million
of Empire Industries' availability was not tied by formula to the underlying
assets and required monthly repayments of $1.5 million commencing September 30,
1999 through February 29, 2000. The balance of the availability of borrowing for
each subsidiary under the facilities is based on all domestic accounts
receivable and inventory balances as defined, less outstanding commitments under
letters of credit.

At September 30, 2000, Empire Industries and the Apple Companies had
borrowed $19.1 million and $6.5 million, respectively, under their respective
facilities. As of the Petition Date, Empire Industries had borrowed $18,415,432
under its facilities. As of September 30, 2000, Empire Industries had an
overadvance from its bank lenders of $3.1 million, which is included in the
$19.1 million. As of October 20, 2000, the overadvance was $3.3 million. As of
September 30, 2000, Empire Industries had not made $9.0 million of scheduled
payments under its bank facilities and was not in compliance with certain
covenants contained in its bank facilities. Empire Industries is currently in
default of its bank facility. The bank lenders have not waived either the
payment defaults or the covenant defaults. As a result of the defaults, the bank
facilities are shown as current liabilities on the Company's consolidated
Condensed Balance Sheets at September 30, 2000. Accordingly, at September 30,
2000, the Company had a deficit in working capital of approximately $14.4
million.

Filing of Petition for Reorganization under Chapter 11

On November 17, 2000 (the "Petition Date"), Empire of Carolina, Inc., and
its wholly-owned subsidiary, Empire Industries, Inc. (collectively, the "Filing
Parties") filed voluntary petitions (the "Petitions") for reorganization under
Chapter 11 of the U.S. Bankruptcy Code (the "Chapter 11 Cases") with the United
States Bankruptcy Court for the Southern District of Florida, West Palm Beach
Division (the "Court"). Neither Apple Sports, Inc., Apple Golf Shoes, Inc., or
Dorson Sports, Inc. (collectively, the "Apple Companies"), all of which operate
the Company's consumer sports line, nor any other affiliates or subsidiaries of
the Filing Parties, have filed petitions at this time. The Company expects that
other subsidiaries will file petitions as related cases in the future. The
Filing Parties filed to address certain serious operational and liquidity
issues. The Filing Parties' liquidity position for the remainder of fiscal 2000
and the first half of fiscal 2001 will be impacted primarily by the effects of
the Chapter 11 petitions. The Filing Parties' uses of capital for the remainder
of fiscal 2000 are expected to include working capital for operating expenses
and satisfaction of current liabilities, interest payments on outstanding
borrowings and costs associated with the Chapter 11 petitions. The Filing
Parties' capital resources cannot be determined until a plan of reorganization
has been developed and confirmed in accordance with the Chapter 11 proceedings.

Under Chapter 11, the Filing Parties are operating their businesses as
debtor-in-possession under the supervision of the Court. Under these
proceedings, substantially all liabilities, litigation and claims against the
Filing Parties and other contractual obligations in existence at the Petition
Date are stayed. In addition, the Filing Parties may reject executory contracts
and lease obligations, and parties affected by these rejections may file claims
with the Court in accordance with the reorganization process. To date, the
Filing Parties have sought Court approval to pay customary pre-petition
obligations associated with the daily operations of their businesses,

<PAGE>

including employee wages, suppliers invoices, and other obligations. The Filing
Parties have not completed their review of all of pre-petition contracts and
leases for assumption or rejection.

All of the liabilities of the Filing Parties as of the Petition Date are
subject to allowance and payment under a plan of reorganization which will be
voted upon by all impaired classes of creditors and equity security holders and
approved by the Court. The Filing Parties are working toward the preparation of
a plan of reorganization, which may include the sale of all or substantially all
of the assets of Empire industries, Inc. and Empire of Carolina, Inc. including
the assets of the Apple Companies. The ultimate amount of, and settlement time
for, the liabilities of the Filing Parties are not presently determinable.

Debtor-In-Possession Facility

On November 17, 2000, the Filing Parties entered into an interim
debtor-in-possession ("DIP") financing facility with LaSalle National Bank, as
agent for itself and the pre-Petition lenders ("LaSalle"), to finance, among
other things, the Filing Parties' working capital requirements during the
Chapter 11 reorganization proceedings. The Filing Parties are seeking immediate
approval of the DIP facility by the Court. The facility will provide financing
for the period ending January 31, 2001 of up to $3,557,000 and will permit the
use by the Filing Parties of cash collateral currently pledged under the Filing
Parties' pre-Petition bank facility with LaSalle. Borrowings under the DIP
financing bear interest at the rate the Filing Parties paid under their
pre-Petition credit facilities, and are secured by substantially all of the
Filing Parties' assets. As of the Petition Date, the credit facility had
revolving loans extended of approximately $18.4 million. The facility contains
certain restrictive covenants including maintenance of certain financial levels
such as defined earnings before interest, taxes, depreciation and amortization
and limitations on incurrence of additional indebtedness, capital expenditures,
asset sales and payment of dividends. The DIP facility terminates upon the
earlier to occur of January 31, 2001 and the occurrence of other events of
default as provided therein. As a result of the funding available under the DIP
facility, employees and suppliers of the Filing Parties will continue to be paid
in the ordinary course.

Apple Companies

The Apple Companies are current in their payment obligations under their
separate bank credit facility and there are no covenant defaults, except that
the Apple facility is cross-guaranteed and cross defaulted with defaults under
the Empire Industries facility. In addition, Empire of Carolina, Inc. has
pledged the stock of the Apple Companies as collateral for its guaranty of the
Empire Industries facilities. The Apple Companies as guarantors of the Empire
Industries credit facility have granted security interests in their assets to
secure the Empire Industries credit facility. As a result of the guarantee and
pledge of assets and Empire's defaults, the Apple Companies credit facility is
shown as a current liability on the Consolidated Balance Sheets at September 30,
2000. In addition, Empire Industries, Inc. is a guarantor on the Apple Companies
credit facility and the filing by Empire Industries, Inc. of the Petition under
Chapter 11, if it is not dismissed within thirty (30) days of filing,
constitutes an event of default under the Apple Companies credit facility.
Pursuant to the terms of the DIP facility, however, the lenders have agreed to
forebear from foreclosing their lien or otherwise taking any action against the
Apple Companies with respect to the defaults by Empire Industries in existence
on the Petition Date.

The Apple Companies cannot use any of the borrowing proceeds of the DIP
facility and will continue to borrow against their existing credit facility to
meet their working capital requirements, unless and until the lenders declare an
event of default under the Apple Companies' facility or there is a default under
the DIP facility. At this time, the Apple Companies have no other available
sources of capital.

Sale of Assets

On May 4, 2000, the Company completed the sale of its domestically
manufactured decorative Holiday and Seasonal products, including all machinery
and equipment, to General Foam Plastics Corporation ("General Foam") for
approximately $3.7 million in cash. On May 8, 2000, the Company sold related
finished goods inventory for the Holiday and Seasonal products to General Foam
for approximately $0.8 million in cash. On June 6, 2000, the Company sold its
1.2 million square foot manufacturing facility in Tarboro, North Carolina to
General Foam for approximately $3.1 million in cash. The net proceeds from these
sales have been used to reduce the Company's bank debt. As a result of the
transactions with General Foam, the Company has sold its manufacturing equipment
and has begun to outsource the manufacturing of its remaining domestic products.

<PAGE>

As a result of the preceding transactions, the Company recorded a gain of $1.3
million on the sale of equipment, and a loss of $2.7 million on the sale of the
building, and a loss of $0.4 million on the sale of inventory.

Going Concern

Because of the seasonality of its revenues, the Company's working capital
requirements fluctuate significantly during the year. The Company's seasonal
financing requirements are highest during the fourth quarter and lowest during
the first quarter. The Company's inventories, accounts receivable, accounts
payable, notes payable and current portion of long-term debt vary significantly
by quarter due to the seasonal nature of the Company's business.

The Company is subject to various actions and proceedings, including those
relating to intellectual property matters, environmental matters and product
liability matters. See notes to consolidated condensed financial statements.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

The Company is exposed to certain market risks that arise from
transactions entered into in the normal course of business. The Company's
primary exposures are changes in interest rates with respect to its debt and
foreign currency exchange fluctuations.

The Company finances its working capital needs primarily through a
variable rate loan facility. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital
Resources." The Company's results may be adversely or positively affected by
fluctuations in interest rates.

The Company sources products from various manufacturers in the Far East.
The purchases are generally made in Hong Kong dollars while goods are sold in U.
S. dollars. Due to the small levels of inventory, and the historical consistency
of the Hong Kong dollar/U.S. dollar exchange rate, the Company does not believe
that any adverse or positive affect would be material.

<PAGE>

PART II - OTHER INFORMATION

Item 1. Legal Proceedings

On November 17, 2000, Empire of Carolina, Inc. and Empire Industries, Inc.
filed voluntary petitions for reorganization under Chapter 11 of the Bankruptcy
Code with the United States Bankruptcy Court for the Southern District of
Florida, West Palm Beach Division. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital Resources
- Filing of Petitions for Reorganization under Chapter 11." As a result of the
filing of the Chapter 11 Cases, the cases mentioned below have been stayed
pursuant to the United States Bankruptcy Code.

In mid-1997, Mid-Atlantic Rigging, Inc. filed an action in the Superior
Court of New Jersey, Law Division, Gloucester County, New Jersey, against Empire
Industries, Inc.. This action alleged damages in excess of $100,000. This matter
was referred to arbitration as required under New Jersey statute. On July 19,
2000, a non-binding arbitration award in the amount of $172,095 (inclusive of
interest and attorneys' fees) was entered against Empire Industries, Inc. On
August 4, 2000, Empire filed a de novo appeal of the non-binding arbitration
award. This matter has been set for trial commencing November 27, 2000.

During December 1990, George Delaney and Rehkemper I.D., Inc. filed a
lawsuit in the Circuit Court of Cook County, Illinois, Chancery Division,
against Marchon, Inc. claiming infringement of various intellectual property
rights and failure to pay royalties related to Marchon's development and sale of
various toys allegedly designed by plaintiffs. The Company was added as a
defendant after its acquisition of Marchon in October 1994. In August 1999, the
Company agreed to settle the litigation for $750,000. Pursuant to the settlement
agreement, the Company paid to the plaintiffs $350,000 on September 28, 1999 and
was obligated to pay an additional $400,000 in quarterly payments of $50,000
commencing March 31, 2000. The Court entered an Order of Dismissal with
Prejudice on September 17, 1999. The Company defaulted on its payment due
September 30, 2000 and in November 2000, Plaintiffs filed a motion with the
Court requesting entry of a default judgment. The Company expects that judgment
will be entered an amount in excess of $300,000.

Marvin Smollar, a former director of the Company, was the defendant
in a suit filed by the Company in January 1997 which sought to enforce a certain
guarantee by Mr. Smollar of debt owed to the Company by 555 Corporate Woods
Parkway, Inc. Mr. Smollar denied the allegations in the Company's complaint. On
February 24, 1997, Mr. Smollar commenced an action in the Circuit Court of Palm
Beach County, Florida captioned Marvin Smollar v. Empire of Carolina, Inc.
claiming (a) breach of his employment agreement, (b) breach of a Marchon phantom
stock plan agreement and (c) breach of an oral agreement to pay relocation
expenses, and seeking injunctive relief enjoining the Executive Committee of the
Board of Directors from taking certain actions. During January 1998, the Company
and Mr. Smollar entered into a settlement agreement resolving each of these
claims in addition to a claim that had been brought by 1431 Kingsland Avenue,
L.P., alleging that the Company had breached a lease at 1431 Kingsland Avenue in
Pagedale, Missouri. The Company defaulted on payments due to Mr. Smollar under
the settlement agreement and on October 5, 2000, on Mr. Smollar's motion, the
Court entered a default judgment against the Company in the sum of $470,000.

<PAGE>

Item 3. Defaults Upon Senior Securities

Substantially all of the Filing Parties' liabilities are subject to
settlement under the reorganization proceedings. Prior to the Petition Date, the
Company financed its losses primarily by additional borrowings under its
existing bank credit facilities. At September 30, 2000, the Company's Empire
Industries and Apple subsidiaries had borrowed $19.1 million and $6.5 million,
respectively, under those facilities. As of September 30, 2000, Empire
Industries had an overadvance from its bank lenders of $3.1 million, which is
included in the $19.1 million. As of October 20, 2000, the overadvance was $3.3
million. As of September 30, 2000, Empire Industries had not made $9.0 million
of scheduled payments under its bank facilities and was not in compliance with
certain covenants contained in its bank facilities. Empire Industries is
currently in default of its bank facility. The bank lenders have not waived the
payment defaults or the covenant defaults. The ultimate adequacy of security for
any secured debt obligations and settlement of all liabilities and obligations
cannot be determined until a plan of reorganization is confirmed. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources" and "--- Filing of Petition for
Reorganization under Chapter 11."

Item 5. Other Information

On September 26, 2000, the Company was informed by the American Stock
Exchange ("Amex") that it had determined to remove our common stock, Series A
preferred stock and warrants from listing as the Company did not meet the Amex's
criteria for continued listing. These criteria include minimum levels of
shareholders equity and the absence of years of net losses from continuing
operations. The Company exercised its right to appeal the Amex's decision and a
formal hearing was held on November 13, 2000. As of the filing of this report,
the Company has received no final decision on the appeal.

On November 17, 2000, upon notification that the Filing Parties intended
to file the Petitions, Amex advised the Company that it was suspending trading
of the Company's common stock, Series A Preferred Stock and warrants until such
time as it could evaluate continued listing. If Amex determines not to reinstate
its listing , we believe that the Company's common stock, Series A preferred
stock and warrants will trade on the Over the Counter Bulletin Board.

At a meeting of the Board of Directors held on November 17, 2000, Timothy
Moran resigned as Chairman of the Board of Directors and a director, effective
at 5:00 p.m. on November 20, 2000. Mr. Moran will remain as acting Chief
Executive Officer. Frederick W. Rosenbauer, Jr. was elected by the Board as the
new Chairman of the Board of Directors.

<PAGE>

Item 6. Exhibits and Reports on Form 8-K

(a) Index and Exhibits

Exhibit No. Description
----------- -----------
27 Financial Data Schedule.

(b)The following reports on Form 8-K have been filed by the Company during
the last quarter of the period covered by this report:

Form 8-K filed September 29, 2000 to report an Item [5] Event
(receipt of delisting notice from Amex).

Form 8-K filed November 20, 2000 to report an (i) Item 3 Event
(announcement that Empire of Carolina, Inc. and Empire Industries,
Inc. have filed voluntary petitions under Chapter 11 of the U.S.
Bankruptcy Code) and (ii) two Item 5 Events (announcement that
Timothy Moran has resigned as Chairman of the Board and director.
and announcement that the Amex suspended the Company's listing upon
notification of the Chapter 11 proceedings.)

<PAGE>

SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this Quarterly Report on Form 10-Q to be signed
on its behalf by the undersigned thereunto duly authorized.

Dated: November 20, 2000

EMPIRE OF CAROLINA, INC.

/s/ Thomas MacDougall
-----------------------------
Thomas MacDougall
Chief Financial Officer