<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------------
SCHEDULE 13E-3
Amendment No. 1
RULE 13E-3 TRANSACTION STATEMENT
(PURSUANT TO SECTION 13(e) OF THE SECURITIES EXCHANGE ACT OF 1934)
POLK AUDIO , INC.
(Name of the Issuer)
POLK AUDIO, INC.
GEORGE M. KLOPFER
MATTHEW S. POLK, JR.
(Name of Person(s) Filing Statement)
COMMON STOCK, PAR VALUE $0.01 PER SHARE
(Title of Class of Securities)
730900-10-7
(CUSIP Number of Class of Securities)
GEORGE M. KLOPFER
CHIEF EXECUTIVE OFFICER
POLK AUDIO, INC.
5601 METRO DRIVE
BALTIMORE, MARYLAND 21215
410-358-3600
(Name, Address and Telephone Number of Person Authorized to
Receive Notices and Communications on Behalf of the Person(s) Filing Statement)
WITH A COPY TO:
LAWRENCE R. SEIDMAN, ESQ.
PIPER & MARBURY L.L.P.
36 SOUTH CHARLES STREET
BALTIMORE, MARYLAND 21201
410-576-5013
<PAGE> 2
This statement is filed in connection with (check the appropriate box):
a. [ ] The filing of solicitation materials or an information statement
subject to Regulation 14A, Regulation 14C or Rule 13e-3(c) under the Securities
Exchange Act of 1934.
b. [ ] The filing of a registration statement under the Securities Act of
1933.
c. [X] A tender offer.
d. [ ] None of the above.
Check the following box if the soliciting materials or information
statement referred to in checking box (a) are preliminary copies: [ ]
<PAGE> 3
INTRODUCTION
This Amendment No. 1 to the Rule 13e-3 Transaction Statement on Schedule
13E-3 (the "Schedule 13E-3") is being filed by Polk Audio, Inc., a Maryland
corporation (the "Company") and George M. Klopfer and Matthew S. Polk, Jr.,
pursuant to Section 13(e) of the Securities Exchange Act of 1934, as amended and
Rule 13e-3 thereunder in connection with the tender offer by the Company to
purchase up to 860,000 (or such lesser number as are properly tendered) of its
shares of common stock, $0.01 par value per share (the "Shares"), at a price of
$12.00 per Share, net to the seller in cash, without interest thereon, upon the
terms and subject to the conditions set forth in the Offer to Purchase dated
March 30, 1999 (the "Offer to Purchase") and the related Letter of Transmittal
(which together with the Offer to Purchase, each as amended or supplemented from
time to time, constitute the "Offer"), copies of which are filed as Exhibits (d)
(1) and (d) (2) hereto respectively. The following Cross-Reference Sheet
prepared pursuant to General Instruction F to Schedule 13E-3 shows the location
in the Issuer Tender Offer Statement on Schedule 13E-4 filed by the Company (the
"Schedule 13E-4") with the Securities and Exchange Commission on the date hereof
of the information required to be included in this Schedule 13E-3. The
information set forth in Schedule 13E-4, including all Exhibits thereto, is
expressly incorporated herein by reference as set forth in the Cross-Reference
Sheet and the responses in this Schedule 13E-3, and such responses are qualified
in their entirety by reference to the information contained in the Offer to
Purchase and the annexes thereto.
<PAGE> 4
ITEM 16. ADDITIONAL INFORMATION.
The response to Item 8(e) of the Schedule 13E-4 as amended is incorporated
herein by reference. However, the cross-references to the Offer to Purchase
contained throughout this Schedule 13E-3, as originally filed, continue to
apply, giving effect to the amendments contained in this Item 8(e).
ITEM 17. MATERIAL TO BE FILED AS EXHIBITS.
(a)(1) Commitment Letter from NationsBank, N.A. to the Company dated March
23, 1999 (filed as Exhibit (b)(1) to the Schedule 13E-4 and incorporated herein
by reference).
(a)(2) Form of Financing and Security Agreement between the Company and
NationsBank, N.A. (filed as Exhibit (b)(2) to the Schedule 13E-4 and
incorporated herein by reference).
(a)(3) Form of Security Agreement between the Company and NationsBank,
N.A. (filed as Exhibit (b)(3) to the Schedule 13E-4 and incorporated herein
by reference).
(b)(1) Opinion of Ferris, Baker Watts, Incorporated dated March 24, 1999. *
(b)(2) Presentation to the Board of Directors of Polk Audio, Inc. by
Ferris, Baker Watts, Incorporated, dated December 4, 1998.
(b)(3) Supplemental Information for the Board of Directors of Polk Audio,
Inc. prepared by Ferris, Baker Watts, Incorporated, dated December 4, 1998.
(b)(4) Presentation to the Board of Directors of Polk Audio, Inc. by
Ferris, Baker Watts, Incorporated, dated March 24, 1999.
(b)(5) Supplemental Information for the Board of Directors of Polk Audio,
Inc. prepared by Ferris, Baker Watts, Incorporated, dated March 24, 1999.
(c) None.
(d)(1) Form of the Offer to Purchase dated March 30, 1999 (filed as
Exhibit (a)(1) to the Schedule 13E-4 and incorporated herein by reference).
(d)(2) Form of the Letter of Transmittal (filed as Exhibit (a)(2) to the
Schedule 13E-4 and incorporated herein by reference).
(d)(3) Form of Notice of Guaranteed Delivery (filed as Exhibit (a)(3) to
the Schedule 13E-4 and incorporated herein by reference).
(d)(4) Form of Letter to Brokers, Dealers, Commercial Banks, Trust
Companies and Nominees (filed as Exhibit (a)(4) to the Schedule 13E-4 and
incorporated herein by reference).
(d)(5) Form of Letter from Brokers, Dealers, Commercial Banks, Trust
Companies and Nominees to Clients (filed as Exhibit (a)(5) to the Schedule
13E-4 and incorporated herein by reference).
(d)(6) Form of Guidelines for Certification of Taxpayer Identification
Number on Substitute Form W-9 (filed as Exhibit (a)(6) to the Schedule 13E-4
and incorporated herein by reference).
(d)(7) Press Release issued by the Company on March 24, 1999 (filed as
Exhibit (a)(7) to the Schedule 13E-4 and incorporated herein by reference).
<PAGE> 5
(d)(8) Letter to Stockholders from George M. Klopfer, Chief Executive
Officer of the Company, dated as of March 30, 1999 (filed as Exhibit (a)(8) to
the Schedule 13E-4 and incorporated herein by reference).
(e) Summary of Stockholder Appraisal Rights and Sections 3-201 through
3-213 of the Maryland General Corporation Law. **
(f) Not Applicable.
(g) (1) Audited Consolidated Financial Statements of the Company as of and
for the fiscal years ended March 29, 1998 and March 30, 1997 (incorporated by
reference to the Company's Annual Report, filed as Exhibit 13.1 to and
incorporated by reference into the Company's Annual Report on Form 10-K for the
fiscal year ended March 29, 1998).
(g) (2) Unaudited Consolidated Financial Statements of the Company as of
and for the nine-month periods ended December 28, 1997 and December 27, 1998
(incorporated by reference to the Company's Quarterly Report on Form 10-Q for
the quarterly period ended December 27, 1998).
(h) Issuer Tender Offer Statement on Schedule 13E-4, filed on March 30,
1999.
* Attached to Form of the Offer to Purchase dated March 30, 1999 as Schedule
II
** Attached to Form of the Offer to Purchase dated March 30, 1999 as Schedule
III
<PAGE> 6
SIGNATURE
After due inquiry and to the best of my knowledge and belief, I certify
that the information set forth in this statement is true, complete and correct.
Dated: April 27, 1999
POLK AUDIO, INC.
By: /s/ George M. Klopfer
----------------------------------
Name: George M. Klopfer
Title: Chief Executive Officer
By: /s/ Matthew S. Polk
----------------------------------
Name: Matthew S. Polk
By: /s/ George M. Klopfer
----------------------------------
Name: George M. Klopfer
<PAGE> 7
EXHIBIT INDEX
(a)(1) Commitment Letter from NationsBank, N.A. to the Company dated March
23, 1999 (filed as Exhibit (b)(1) to the Schedule 13E-4 and incorporated herein
by reference).
(a)(2) Form of Financing and Security Agreement between the Company and
NationsBank, N.A. (filed as Exhibit (b)(2) to the Schedule 13E-4 and
incorporated herein by reference).
(a)(3) Form of Security Agreement between the Company and NationsBank,
N.A. (filed as Exhibit (b)(3) to the Schedule 13E-4 and incorporated herein
by reference).
(b)(1) Opinion of Ferris, Baker Watts, Incorporated dated March 24, 1999. *
(b)(2) Presentation to the Board of Directors of Polk Audio, Inc. by
Ferris, Baker Watts, Incorporated, dated December 4, 1998.
(b)(3) Supplemental Information for the Board of Directors of Polk Audio,
Inc. prepared by Ferris, Baker Watts, Incorporated, dated December 4, 1998.
(b)(4) Presentation to the Board of Directors of Polk Audio, Inc. by
Ferris, Baker Watts, Incorporated, dated March 24, 1999.
(b)(5) Supplemental Information for the Board of Directors of Polk Audio,
Inc. prepared by Ferris, Baker Watts, Incorporated, dated March 24, 1999.
(c) None.
(d)(1) Form of the Offer to Purchase dated March 30, 1999 (filed as
Exhibit (a)(1) to the Schedule 13E-4 and incorporated herein by reference).
(d)(2) Form of the Letter of Transmittal (filed as Exhibit (a)(2) to the
Schedule 13E-4 and incorporated herein by reference).
(d)(3) Form of Notice of Guaranteed Delivery (filed as Exhibit (a)(3) to
the Schedule 13E-4 and incorporated herein by reference).
(d)(4) Form of Letter to Brokers, Dealers, Commercial Banks, Trust
Companies and Nominees (filed as Exhibit (a)(4) to the Schedule 13E-4 and
incorporated herein by reference).
(d)(5) Form of Letter from Brokers, Dealers, Commercial Banks, Trust
Companies and Nominees to Clients (filed as Exhibit (a)(5) to the Schedule
13E-4 and incorporated herein by reference).
(d)(6) Form of Guidelines for Certification of Taxpayer Identification
Number on Substitute Form W-9 (filed as Exhibit (a)(6) to the Schedule 13E-4
and incorporated herein by reference).
(d)(7) Press Release issued by the Company on March 24, 1999 (filed as
Exhibit (a)(7) to the Schedule 13E-4 and incorporated herein by reference).
(d)(8) Letter to Stockholders from George M. Klopfer, Chief Executive
Officer of the Company, dated as of March 30, 1999 (filed as Exhibit (a)(8) to
the Schedule 13E-4 and incorporated herein by reference).
(e) Summary of Stockholder Appraisal Rights and Sections 3-201 through
3-213 of the Maryland General Corporation Law. **
(f) Not Applicable.
(g)(1) Audited Consolidated Financial Statements of the Company as of and
for the fiscal years ended March 29, 1998 and March 30, 1997 (incorporated by
reference to the Company's Annual Report, filed as Exhibit 13.1 to and
incorporated by reference into the Company's Annual Report on Form 10-K for the
fiscal year ended March 29, 1998).
(g)(2) Unaudited Consolidated Financial Statements of the Company as of
and for the nine-month periods ended December 28, 1997 and December 27, 1998
(incorporated by reference to the Company's Quarterly Report on Form 10-Q for
the quarterly period ended December 27, 1998).
(h) Issuer Tender Offer Statement on Schedule 13E-4, filed on March 30,
1999.
* Attached to Form of the Offer to Purchase dated March 30, 1999 as Schedule
II
** Attached to Form of the Offer to Purchase dated March 30, 1999 as Schedule
III
<PAGE> 1
POLK AUDIO, INC.
PRESENTATION TO BOARD OF DIRECTORS
DECEMBER 4, 1998
<PAGE> 2
POLK AUDIO, INC.
BUSINESS REASONS FOR THE TRANSACTION
- - Cost of filing.
- - Disclosure of financial information.
- - Lack of liquidity in stock market.
- - Good use of corporate capital
<PAGE> 3
POLK AUDIO, INC.
CONSIDERATIONS
- - Business and financial reasons for the transaction.
- - Obligation to pay "fair value" to minority shareholders.
- - Appearance of fair dealing.
- - Address the needs of both constituencies - balancing act
<PAGE> 4
POLK AUDIO, INC.
STRUCTURE
- - Fixed price self tender offer for 860,000 shares at $12.00 per share.
- - Other alternatives
* Dutch auction self tender
* Reverse spilt
* Merger
- - Ceiling on debt - up to $10.4 million.
- - Covers all non-affiliated shareholders - no proration.
<PAGE> 5
POLK AUDIO, INC.
VALUATION METHODS
- - Discounted Cash Flow Analysis
- - Public Comparable Company Analysis
- - Stock Price History
<PAGE> 6
POLK AUDIO, INC.
INTRINSIC VALUE
DISCOUNTED CASH FLOW ANALYSIS
- - All value derived from future expectation of cash flow and discounted to the
present at the commensurate level of risk. Cash flow is important, earnings
are not.
- - Shareholder value is created by:
* Increasing net operating cash flow,
* Reducing the level of capital investment,
* Lowering the cost of capital.
PUBLIC COMPARABLE COMPANY ANALYSIS
- - Value determined through a comparison to the multiples of publicly traded
comparable companies
<PAGE> 7
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
FBW examined three scenarios:
- - Scenario A: Revenues grow to $92.0 million by fiscal 2003.
- - Scenario B: Revenues grow to $90.3 million by fiscal 2003.
- - Scenario C: Revenues grow to $87.7 million by fiscal 2003.
<PAGE> 8
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
KEY ASSUMPTIONS - SCENARIO A
- - Revenues grow to $92.0 million by fiscal 2003, representing a 6.3% compound
average annual growth rate throughout the forecast period.
- - Gross profit margins are between 37.3% and 38.9%.
- - Net profit margin improves to 5.2% by fiscal 2003
<PAGE> 9
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
Quarterly Income Statement Summary - Fiscal Year Ended March 31, 1999
<TABLE>
<CAPTION>
1999
------------------------------------------------------------------------
Q1 A Q2 A Q3 E Q4 E Total
------ ------ ------ ------ z
<S> <C> <C> <C> <C> <C>
Total sales 18,225 18,312 18,300 17,163 72,000
Cost of goods sold 11,066 11,089 11,305 10,571 44,031
Gross profit 7,159 7,223 6,995 6,592 27,969
Gross profit % 39.28% 39.44% 38.22% 38.41% 38.85%
Net operating profit 1,182 1,620 1,349 972 5,140
Operating profit % 6.49% 8.85% 7.37% 5.66% 7.14%
Net income 751 868 755 713 3,104
Net margin 4.12% 4.74% 4.13% 4.15% 4.31%
Shares outstanding 1,849 1,849 1,849 1,849 1,849
Earnings per share 0.41 0.47 0.41 0.39 1.68
</TABLE>
<PAGE> 10
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
PROJECTED INCOME STATEMENT - FISCAL YEARS ENDED MARCH 31, 1999
THROUGH MARCH 31, 2003
<TABLE>
<CAPTION>
FORECAST
---------------------------------------------------------
1999 2000 2001 2002 2003
------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C>
Sales 72,000 77,000 82,000 87,000 92,000
Cost of Goods Sold 44,031 48,260 50,602 53,227 56,251
-------- -------- -------- -------- -------
Gross Profit 27,969 28,740 31,398 33,773 35,749
NET OPERATING PROFIT 5,139 4,645 5,634 6,531 7,094
INCOME AFTER TAXES 3,104 3,281 3,810 4,386 4,770
SHARES OUTSTANDING 1,849 1,849 1,849 1,849 1,849
Earnings Per Share 1.68 1.77 2.06 2.37 2.58
</TABLE>
<PAGE> 11
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
NET OPERATING PROFIT AFTER TAXES (NOPAT)
<TABLE>
<CAPTION>
FORECAST
-------------------------------------------------------------
1999 2000 2001 2002 2003
<S> <C> <C> <C> <C> <C>
Sales 72,000 77,000 82,000 87,000 92,000
Total Operating Expenses 66,861 72,355 76,366 80,469 84,906
Other Income 550 550 550 550 550
---------- ---------- ------------ ---------- ------------
ADJUSTED EBIT 5,689 5,195 6,184 7,081 7,644
CASH OPERATING TAX 2,276 2,078 2,474 2,833 3,058
- ------------------------------------------------------------------------------------------
NOPAT 3,413 3,117 3,710 4,249 4,587
- ------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 12
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
CAPITAL
<TABLE>
<CAPTION>
FORECAST
------------------------------------------------------
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Current Operating Assets 17,293 19,486 21,349 23,148 24,563
NIBCLs 7,024 7,541 8,025 8,554 9,086
------ ------ ------ ------ ------
NET WORKING CAPITAL 10,269 11,945 13,324 14,594 15,477
Net Prop Plant & Equip 6,157 5,657 5,457 5,257 5,057
- -----------------------------------------------------------------------------------
CAPITAL 16,426 17,602 18,781 19,851 20,534
- -----------------------------------------------------------------------------------
</TABLE>
<PAGE> 13
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
COST OF CAPITAL
<TABLE>
<S> <C> <C> <C> <C> <C>
= Weighted Average + Weighted Average
Cost of Debt Cost of Equity
= Incremental Borrowing + Risk Free + Equity Risk + Small Cap. + Co. Specific
Cost X (1-Tax Rate) Rate Premium Premium Risk
= (6.88% X (1-40.0%)) + 5.12% + (7.8% X 0.83) + 3.3% + 2.0%
Debt Equity
Weighting = 0% Weighting = 100%
= 0% + 16.89%
= 16.89%
</TABLE>
<PAGE> 14
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
DISCOUNTED CASH FLOW VALUATION SUMMARY
<TABLE>
<CAPTION>
NOPAT - INV PV FACTOR X FCF
PRESENT VALUE
YEAR NOPAT INVESTMENT FCF PV FACTOR
OF FCF
=======================================================================================
<S> <C> <C> <C> <C> <C>
1999 3,413 (2,783) 6,196 0.9249 5,731
2000 3,117 1,176 1,941 0.7913 1,536
2001 3,710 1,179 2,531 0.6769 1,714
2002 4,249 1,070 3,179 0.5791 1,841
2003 4,587 683 3,904 0.4954 1,934
2004 & BEYOND 4,744 0 4,744 2.9333 13,917
INTRINSIC OPERATING VALUE 26,673
Cash from Options 1,784
----------
INTRINSIC TOTAL VALUE 28,457
Total Debt 300
Other Liabilities 971
----------
INTRINSIC COMMON EQUITY VALUE 27,186
Number of Shares Outstanding 2,017
INTRINSIC SHARE VALUE $13.48
</TABLE>
<PAGE> 15
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
KEY ASSUMPTIONS - SCENARIO B
- - Revenues grow to $90.3 million by fiscal 2003, representing a 6.1% compound
average annual growth rate throughout the forecast period.
- - Gross profit margins are between 37.2% and 38.8%.
- - Net profit margin improves to 4.9% by fiscal 2003.
INTRINSIC SHARE VALUE: $12.49
<PAGE> 16
POLK AUDIO, INC.
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
KEY ASSUMPTIONS SCENARIO C
- - Revenues grow to $87.7 million by fiscal 2003, representing a 5.7% compound
average annual growth rate throughout the forecast period.
- - Gross profit margins are between 37.0% and 38.6%.
- - Net profit margin improves to 4.4% by fiscal 2003
INTRINSIC SHARE VALUE: $11.01
<PAGE> 17
POLK AUDIO, INC.
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
Size and trading volume are significant factors in public market valuations.
Larger companies with greater trading volumes trade at higher multiples than
smaller companies with low trading volumes
- - FBW examined other small capitalization companies with low trading volumes.
These companies had low insider ownership versus Polk.
- - The average P/E ratio was 9x.
- - The average P/E ratio for the comparable groups for these companies was
16.5x.
<PAGE> 18
POLK AUDIO, INC.
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
COMPANIES SELECTED:
Koss Corp: Designs, manufactures and markets stereo headphones,
audio/video loudspeakers, and related accessory products.
PhoenixGold: Designs, manufactures and markets a varietyof accessories,
` electronics and speakers for the car audio, custom home audio/
video and professional sound markets.
<PAGE> 19
POLK AUDIO, INC.
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
--------------------------
Market
Data
--------------------------
Fiscal Four Stock Shares Market
Year Quarters Price Out. Value
Ticker End Ended 12/3/98 (000's) ($000's)
- ----------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Koss Corporation KOSS 6/30 9/30/98 11.00 3,177 34,947
Phoenix Gold International, Inc. PGLD 9/30 9/30/98 2.00 3,464 6,928
- ----------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------
Polk Audio, Inc. PKA 9/30 9/30/98 14.13 1,849 26,117
- ----------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
-------------------------------------------------------------------
Financial Data
(Trailing Four Quarters, in $ thousands)
-------------------------------------------------------------------
Net Total Total Common Total
Revenues EBIT (1) Income Assets Debt (2) Equity Capital (3)
- ------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Koss Corporation 37,914 7,665 5,367 30,381 1,367 23,882 28,020
Phoenix Gold International, Inc. 26,485 (913) (772) 15,208 938 10,498 11,436
- ------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------
Polk Audio, Inc. 70,647 5,679 3,328 28,570 600 19,355 20,394
- ------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 20
POLK AUDIO, INC.
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
Margin Profitability Ratios Liquidity & Leverage
Analysis -------------------------
--------------- --------------------------------- Total Total
Return on NOPAT/ Return on Debt/ Debt/
EBIT Net Common Ending Total Current Common Total
Company Margin Margin Equity Capital (4) Assets Ratio Equity Capital
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Koss Corporation 20.2% 14.2% 22.5% 16.4% 17.7% 11.6 5.7% 4.9%
Phoenix Gold International, Inc. -3.4% -2.9% -7.4% -4.8% -5.1% 3.1 8.9% 8.2%
- -------------------------------------------------------------------------------------------------------------------
AVERAGE 8.4% 5.6% 7.6% 5.8% 6.3% 7.4 7.3% 6.5%
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
Polk Audio, Inc. 8.0% 4.7% 17.2% 16.7% 11.6% 2.5 3.1% 2.9%
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 21
POLK AUDIO, INC.
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
COMPARABLE COMPANY VALUATION SUMMARY
<TABLE>
<CAPTION>
----------------------------------------------------------
VALUATION RATIOS
----------------------------------------------------------
MKT. VAL.
NET MKT. MKT. VAL. P/E TO BOOK ENT. VAL.
CAPITAL TO EARNINGS ESTIMATE VALUE TO
COMPANY TO EBIT (P/E) '99 (EQUITY) REVENUES
- ----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Koss Corporation 4.7 6.5 8.2 1.5 1.0
Phoenix Gold International, Inc. NM NM 5.0 0.7 0.3
- ----------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------
Average 4.7 6.5 6.6 1.1 0.6
- ----------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 22
POLK AUDIO, INC.
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
COMPARABLE COMPANY IMPLIED VALUATION ANALYSIS
<TABLE>
<CAPTION>
IMPLIED IMPLIED
AVERAGE POLK EQUITY NUMBER PER SHARE
MULTIPLE RESULTS VALUE OF SHARES VALUE
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Market Capital/EBIT 4.7 5,679 26,291 1,849 14.22
P/E 6.5 3,328 21,670 1,849 11.72
Fwd P/E '99 6. 3,104 20,500 1,849 11.09
Mkt. Val. to Book 1.1 19,355 20,547 1,849 11.11
Ent. Val. to Revenues 0.6 70,647 44,324 1,849 23.97
</TABLE>
<PAGE> 23
POLK AUDIO, INC.
VALUATION SUMMARY
<TABLE>
<CAPTION>
PRICE
PER
VALUATION METHODOLOGY SHARE
- ----------------------------------------------------
<S> <C>
DISCOUNTED CASH FLOW
Scenario A 13.48
Scenario B 12.49
Scenario C 11.01
COMPARABLE COMPANY ANALYSIS
Net Market Capital/EBIT 14.22
P/E 11.72
Fwd P/E '99 11.09
Mkt. Val. to Book 11.11
Ent. Val. to Revenues 23.97
</TABLE>
<PAGE> 24
POLK AUDIO, INC.
CONCLUSION
- - The Company is capitalized with excess high cost, public equity capital.
- - The Company's growth prospects do not require high cost capital.
- - The Company's profitability allows for cheaper cost debt financing.
- - The market does not currently provide meaningful liquidity to the
majority of shareholders.
- - The valuation is supported by several valuation methods.
- - The transaction provides shareholders the opportunity to realize fair
value and liquidity in an orderly fashion. This opportunity would
otherwise not exist given Polk's historical trading volume.
RESULT: Attractive corporate finance solution for both majority and minority
interests
<PAGE> 1
CONFIDENTIAL
POLK AUDIO, INC.
Supplemental Information
for the Board of Directors
<PAGE> 2
POLK AUDIO, INC.
================================================================================
TABLE OF CONTENTS
SECTION DESCRIPTION
I. Discounted Cash Flow Analysis
II. Comparable Company Analysis
III. Historical and Projected Quarterly Results for Fiscal 1998 and
Fiscal 1999
IV. Trading History
V. List of Information Reviewed
<PAGE> 3
POLK AUDIO, INC.
================================================================================
This document is based upon information provided by Polk Audio, Inc. as well as
sources deemed to be reliable. The information set forth in this document is
intended solely for the use by the Board of Directors of Polk Audio, Inc.
Possession of this document, or a copy thereof, does not carry with it the right
of publication of all or part of it, nor may it be used for any purpose by
anyone but the Board of Directors of Polk Audio, Inc. without the previous
written consent of Ferris, Baker Watts, Incorporated ("FBW") or the Board of
Directors of Polk Audio, Inc., and in any event only with attribution to FBW.
The compensation received by FBW from this engagement is not dependent on the
consummation of the transaction evaluated herein.
Steven L. Shea R. Mark Rust
Senior Vice President Vice President
(410) 659-4639 (410) 659-4630
Ferris, Baker Watts, Incorporated
100 Light Street
Baltimore, MD 21202
Fax: (410) 659-4632
<PAGE> 4
POLK AUDIO, INC.
================================================================================
EXECUTIVE SUMMARY
Ferris, Baker Watts, Incorporated ("FBW") has been retained by Polk
Audio, Inc. ("Polk" or the "Company") to advise the Board of Directors and serve
as the Company's exclusive financial advisor in connection with (i) the proposed
fixed price self tender offer (the "Transaction") after which, the Company
intends to delist its shares from the American Stock Exchange and cease
reporting to the general public, thereby becoming a private company, and (ii)
the issuance by FBW to the Board of Directors of the opinion of FBW that the
proposed price offered to the Company's shareholders in the Transaction is fair
from a financial point of view (the "Opinion"). FBW has (i) reviewed the
proposed Transaction, (ii) reviewed the draft of the proxy materials dated
December 3, 1998 to be filed with the Securities and Exchange Commission in
connection with the Transaction, (iii) reviewed selected public and internal
information of the Company, (iv) interviewed management of the Company, (v)
utilized our own independent research, and (vi) utilized our expertise with
similar transactions and valuations. The valuation methodologies utilized
include the discounted cash flow method and the comparable public company
analysis.
The Transaction calls for the Company to enter into a fixed price
self tender for up to an aggregate of 860,000 of the outstanding shares of the
Company not held by insiders. The proposed price to be offered to the
unaffiliated shareholders is $12.00 per share.
Based upon our analysis, the proposed offer price of $12.00 is
within the range of values established by the discounted cash flow analysis and
the comparable public company analysis. It is important to note that the Company
intends to repurchase a minority interest rather than a controlling stake in the
Company, therefore FBW has not relied upon merger and acquisition activity
either in the audio component industry or the consumer durables sector. Such
transactions typically involve a control premium in excess of fair value. Such
transactions are therefore, not relevant to the Transaction contemplated by the
Company.
THE TRANSACTION
The major elements of the Transaction as of December 3, 1998 are as
follows:
- - The Company shall effect a fixed price self tender offer for its shares
not currently held by insiders. Affiliated shareholders will not tender
their shares.
- - The proposed price to be offered to the unaffiliated shareholders is
$12.00 per share.
- - The Company has secured financing to enable it to buy back up to $10.4
million worth of stock in aggregate.
DUE DILIGENCE REVIEW
As an integral part of the effort to determine the fairness of the
proposed Transaction, FBW conducted an extensive review of the information
supplied by Polk, including its historical financial results and projections. In
addition, FBW conducted interviews with management. In general, our discussions
centered on the following areas:
1
<PAGE> 5
POLK AUDIO, INC.
================================================================================
- - The history and historical operating results of the business.
- - The outlook for the Company, including new product initiatives.
- - The strategic and business purpose for becoming a private entity.
- - The market segment in which the Company operates, which is characterized
as shrinking (as evidenced by Electronic Industry Association statistics
which show the sales of separate audio components declining from an
aggregate of $1.9 billion in 1995 to an estimated $1.5 billion in 1998)
and saturated.
- - The fact that the Company's major customer, Circuit City, now accounts
for approximately 50% of total sales.
VALUATION
FBW has considered several methods to evaluate the fair market value
of the Company's common stock. These methods are (i) the discounted future free
cash flow of the Company, and (ii) the earnings and multiple comparisons to
publicly traded comparable companies.
Free Cash Flow Analysis
This methodology is premised on the assumption that a buyer
purchases a time series of free cash flows that are generated by the assets of a
business. This analysis separates and ascribes value only to the cash flows that
can ultimately be taken out of the business. Cash that is generated but used to
sustain the business (such as increases in working capital and capital
expenditures) creates no incremental value to the buyer. These free cash flows
are then discounted to the present at the firm's weighted average cost of
capital. The weighted average cost of capital can be described as the average
price a company must pay to attract both debt and equity to properly capitalize
the firm's growth. It is this series of free cash flows that, when discounted to
the present, and after subtracting claims by debt holders and others, represents
the economic value of a firm to its shareholders.
The cost of equity is the return common shareholders expect to earn
to compensate for the business and financial risks they bear. It is determined
by the tradeoff between risk and return. It is calculated through a modified
capital asset pricing model and is highlighted in Exhibit I. The accuracy of the
cost of capital is important not only in calculating the present value of free
cash flows, but it is also used to determine the value of the terminal value,
which is often the component providing the majority of the value in the
discounted cash flow model.
The components of the cost of equity capital are as follows:
- - Risk Free Rate: Rate of return on a risk free instrument, such as a 10
year Treasury bond.
- - Equity Risk Premium: Calculated by multiplying the Market Risk Premium by
the company's Beta. The Market Risk Premium is the return that all stocks
provide above the rate of return provided by risk free investments. The
Beta is a measure of the sensitivity of a company's stock to the broader
market as a whole. The Beta used was calculated by taking an average of
the Betas for audio components companies.
2
<PAGE> 6
POLK AUDIO, INC.
================================================================================
- - Small Cap. Premium: Premium provided by companies with small market
capitalizations in excess of returns of the broader market.
- - Company Specific Risk: Premium accounts for small float of Polk's stock
and low trading volume.
FBW calculated a cost of capital of 16.89%, which represents a
premium of 11.77% in excess of the rate of return for risk free investments.
This is conservative when compared to the guidelines established by James H.
Schilt, editor of the Business Valuation Review, which suggest premiums ranging
from 12% to 15% for companies such as Polk.
The accuracy of this method of valuation depends largely on the
integrity of the projections. Management of Polk provided FBW with detailed
projections through fiscal 2003. These projections ("Scenario A") are outlined
in Exhibit I and show the following:
- - Revenue grows to $92.0 million in fiscal 2003, representing a compound
average annual growth rate of 6.3% throughout the forecast period.
- - Gross profit margins are projected to be between 37.3% and 38.9%.
- - Net profit margin improves to 5.2% by fiscal 2003.
Management characterized Scenario A as optimistic, therefore, FBW
also examined two scenarios showing lower growth in revenues. One scenario
showed revenues growing to $90.3 million in fiscal 2003 ("Scenario B") and the
other showed revenues growing to $87.7 million ("Scenario C"). The key
assumptions for Scenario B are as follows:
- - Revenue grows to $90.3 million by fiscal 2003, representing a 6.1%
compound average annual growth rate throughout the forecast period.
- - Gross profit margins are between 37.2% and 38.8%.
- - Net profit margin improves to 4.9% by fiscal 2003.
The key assumptions for Scenario C are as follows:
- - Revenues grow to $87.7 million by fiscal 2003, representing a 5.7%
compound average annual growth rate throughout the forecast period.
- - Gross profit margins are between 37.0% and 38.6%.
- - Net profit margin improves to 4.4% by fiscal 2003.
Publicly Traded Comparable Companies
FBW examined the financial results and market multiples of publicly
traded comparable companies. FBW selected manufacturers of audio components with
market capitializations below $50 million and average daily trading volumes
below 6,000. Within this criteria set, FBW relied upon two companies: Koss Corp
and Phoenix Gold. Insiders of these two companies own in excess of 50% of the
common stock and the average daily trading volumes are similar to Polk's.
Phoenix Gold does not have positive historical earnings results, which yielded
earnings multiples that were not meaningful. However, Koss has higher earnings
margins than Polk, yet it trades at lower multiples. These companies are not
dependent upon a single customer for 50% of revenue, as is Polk.
3
<PAGE> 7
POLK AUDIO, INC.
================================================================================
Size and trading volume are important factors in determining public
market valuation. FBW examined other consumer durables products manufacturers
with size and trading volume similar to Polk and found that the average earnings
multiple was approximately 9x. The average P/E multiple for the comparable
groups for these companies was 16.5x.
The pertinent performance measures for the comparable company analysis are
as follows:
- - The Net Market Capital to Earnings Before Interest and Taxes (EBIT) ratio
measures the enterprise value to the net operating assets as a multiple
of the company's earnings before interest and taxes. By focusing on EBIT
instead of net income, it is possible to decrease distortions among
comparable companies that are due to different levels of debt in capital
structures, extraordinary items, varying tax rates, and other line items
that occur below the operating profit line. EBIT is calculated to
represent the pre-tax net income that would have resulted had the company
been financed on a total equity basis.
- - The price to earnings ("P/E") ratio is a commonly utilized valuation
ratio. It is also known as the earnings multiple and provides investors
an indication of how much they are paying for a company's earnings power
and the accounting income available to the common equity holder. However,
net income is often a poor approximation of actual cash flow ultimately
available to common shareholders for reinvestment or for the payment of
dividends. Accounting differences may make net income numbers less
comparable.
- - The price to forward earnings ratio is similar to the P/E ratio discussed
above, the difference being that it is based upon expectations for future
earnings, not historical earnings.
- - The Market Value to Revenues (Price/Revenue) ratio compares what the
market is actually willing to pay for the revenue stream of a company
relative to the actual revenue stream. This ratio is far less consistent
among comparable companies than ratios that measure value in relation to
some measure of earnings.
- - The Market Value of Equity to Book Value of the Equity (Price/Book) ratio
compares what the market is actually willing to pay for the assets of a
company to what the value of the company's securities would be worth
relative to the historical costs of its assets and earnings history. This
ratio is far less consistent among comparable companies than ratios that
measure value in relation to some measure of earnings.
4
<PAGE> 8
POLK AUDIO, INC.
================================================================================
VALUATION SUMMARY
The table below summarized the values derived from the discounted
cash flow methodology.
<TABLE>
<CAPTION>
COMMON PER
EQUITY NUMBER SHARE
VALUE OF SHARES VALUE
----- --------- -----
<S> <C> <C> <C>
Scenario A 27,186 2,017 $13.48
Scenario B 25,191 2,017 $12.49
Scenario C 22,210 2,017 $11.01
</TABLE>
The table below summarizes the valued derived from the comparable
company analysis.
<TABLE>
<CAPTION>
IMPLIED IMPLIED
AVERAGE EQUITY NUMBER PER SHARE
MULTIPLE VALUE OF SHARES VALUE
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net Market Capital/EBIT 4.7 26,291 1,849 14.22
P/E 6.5 21,670 1,849 11.72
Fwd P/E '99 6.6 20,500 1,849 11.09
Mkt. Val. to Book 1.1 20,547 1,849 11.11
Mkt. Val. to Revenues 0.6 44,324 1,849 23.97
</TABLE>
SUMMARY AND CONCLUSION
- - The proposed offer price is consistent with the values established
through the discounted cash flow method of valuation. These projections
show improved profitability when compared to the historical performance
of the Company as well as greater growth in revenues when compared to the
growth rate from the past three fiscal years. Additionally, we have
conservatively estimated the premium in the cost of capital to account
for high insider ownership and low trading volume.
- - The proposed offer price is within the range of values established
through the comparable company analysis and is consistent with values
derived from earnings multiples. The comparable companies selected are
similar not only in business line, but in trading volume and ownership by
insiders. The most similar comparable company is Koss. Koss is more
profitable and does not have in excess of 50% of its business
concentrated with one customer, yet its market multiples are lower than
the multiples of Polk.
- - The Transaction provides shareholders the opportunity to realize
liquidity in an orderly fashion. This opportunity would otherwise not
exist given Polk's historical trading volume.
5
<PAGE> 9
INCOME STATEMENT
POLK AUDIO - SCENARIO A
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales 54,416 54,153 72,000 77,000 82,000 87,000 92,000
Cost of Goods Sold 31,349 33,020 44,031 48,260 50,602 53,227 56,251
------------------------------------------------------------------------------------------
GROSS PROFIT 23,067 21,133 27,969 28,740 31,398 33,773 35,749
General and administrative 21,455 19,351 4,470 4,739 5,023 5,324 5,644
Marketing & Advertising 0 0 15,041 15,451 16,199 16,992 17,744
Research & Development 0 0 2,484 2,805 3,242 3,526 3,867
Contingency reserve 0 0 135 400 500 600 600
Incentive compensation 0 0 700 700 800 800 800
------------------------------------------------------------------------------------------
NET OPERATING PROFIT 1,612 1,782 5,139 4,645 5,634 6,531 7,094
Interest Expense 350 258 66 12 12 12 12
Non-Operating Interest Income 4 20 9 131 176 237 312
Other Income(1) 17 (20) 0 0 0 0 0
Royalty Income 0 424 550 550 550 550 550
Unusual Income 0 0 (450) 150 0 0 0
------------------------------------------------------------------------------------------
INCOME BEFORE TAXES 1,284 1,948 5,182 5,464 6,348 7,306 7,944
Income Tax Provision 532 842 2,078 2,183 2,537 2,920 3,175
------------------------------------------------------------------------------------------
INCOME AFTER TAXES 752 1,106 3,104 3,281 3,810 4,386 4,770
===============================================================================================================================
Earnings Per Share 0.41 0.60 1.68 1.77 2.06 2.37 2.58
</TABLE>
<PAGE> 10
BALANCE SHEET
POLK AUDIO - SCENARIO A
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 500 500 500 500 500
Created Mkt Securities 0 0 5,131 6,981 9,661 13,032 17,178
Accounts Receivable 9,510 8,615 5,638 6,432 7,512 8,452 8,959
Inventory 7,899 11,087 9,505 10,854 11,537 12,296 13,104
Income Tax Recoverable 53 139 0 0 0 0 0
Current Deferred Taxes 784 925 0 0 0 0 0
Other Current Assets 672 565 1,650 1,700 1,800 1,900 2,000
------------------------------------------------------------------------------------------------
TOTAL CURRENT ASSETS 19,340 21,765 22,424 26,467 31,010 36,180 41,741
Plant & Equipment 4,299 4,727 6,157 5,657 5,457 5,257 5,057
Notes Receivable 226 260 0 0 0 0 0
Deferred Taxes 750 1,170 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
================================================================================================================================
TOTAL ASSETS 24,997 28,570 28,581 32,124 36,467 41,437 46,798
================================================================================================================================
</TABLE>
<PAGE> 11
BALANCE SHEET
POLK AUDIO - SCENARIO A
Dollars in Thousands
<TABLE>
<CAPTION>
FORECAST FORECAST FORECAST FORECAST FORECAST
1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Bank Overdraft 44 0 0 0 0 0 0
Current Portion LTD 400 400 300 0 0 0 0
Accounts Payable 2,758 5,135 4,273 4,170 4,372 4,599 4,860
Accrued Expenses 2,302 2,529 2,229 2,797 3,021 3,260 3,462
Current Portion of accr. Prd. Liability 267 512 522 574 632 695 764
------------------------------------------------------------------------------------
TOTAL CURRENT LIABS 5,772 8,576 7,324 7,541 8,025 8,554 9,086
Senior Long-Term Debt 2,347 200 0 0 0 0 0
Accrued product warranty 335 424 449 494 543 598 657
Other 0 15 0 0 0 0 0
------------------------------------------------------------------------------------
TOTAL SENIOR LIABS 8,453 9,215 7,773 8,035 8,568 9,152 9,743
TOTAL LIABILITIES 8,453 9,215 7,773 8,035 8,568 9,152 9,743
Common Stock 18 18 18 18 18 18 18
Addtl Paid in Capital 1,586 1,751 1,756 1,756 1,756 1,756 1,756
Retained Earnings 15,786 18,529 19,975 23,256 27,067 31,453 36,222
(Foreign Curr. Translation Adj.) 25 2 0 0 0 0 0
(Notes Receivable-Stock Options) 822 942 942 942 942 942 942
------------------------------------------------------------------------------------
COMMON EQUITY 16,544 19,354 20,807 24,089 27,899 32,285 37,055
------------------------------------------------------------------------------------
NET WORTH 16,544 19,354 20,807 24,089 27,899 32,285 37,055
===================================================================================================================================
TOTAL LIAB & NET WORTH 24,997 28,569 28,580 32,124 36,467 41,437 46,798
===================================================================================================================================
</TABLE>
<PAGE> 12
NOPAT OPERATING APPROACH
POLK AUDIO - SCENARIO A
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales 54,416 54,153 72,000 77,000 82,000 87,000 92,000
Cost of Goods Sold 31,349 33,020 44,031 48,260 50,602 53,227 56,251
General and administrative 21,455 19,351 4,470 4,739 5,023 5,324 5,644
Marketing & Advertising 0 0 15,041 15,451 16,199 16,992 17,744
Research & Development 0 0 2,484 2,805 3,242 3,526 3,867
Other Expense 0 0 835 1,100 1,300 1,400 1,400
------------------------------------------------------------------------------------------
Total Operating Expenses N/A 52,371 66,861 72,355 76,366 80,469 84,906
Other Income 17 404 550 550 550 550 550
------------------------------------------------------------------------------------------
ADJUSTED EBIT N/A 2,186 5,689 5,195 6,184 7,081 7,644
CASH OPERATING TAX N/A 1,355 2,276 2,078 2,474 2,833 3,058
================================================================================================================================
NOPAT N/A 831 3,413 3,117 3,710 4,249 4,587
================================================================================================================================
</TABLE>
<PAGE> 13
CAPITAL - OPERATING APPROACH
POLK AUDIO - SCENARIO A
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 500 500 500 500 500
Net Accts Receivable 9,510 8,615 5,638 6,432 7,512 8,452 8,959
Net Inventory 7,899 11,087 9,505 10,854 11,537 12,296 13,104
Other Current Assets 1,509 1,629 1,650 1,700 1,800 1,900 2,000
-----------------------------------------------------------------------------------
Current Operating Assets 19,340 21,765 17,293 19,486 21,349 23,148 24,563
Accounts Payable 2,758 5,135 4,273 4,170 4,372 4,599 4,860
Accrued Expenses 2,302 2,529 2,229 2,797 3,021 3,260 3,462
Current Portion of accr. Prd. Liability 267 512 522 574 632 695 764
-----------------------------------------------------------------------------------
NIBCLs 5,328 8,176 7,024 7,541 8,025 8,554 9,086
NET WORKING CAPITAL 14,012 13,589 10,269 11,945 13,324 14,594 15,477
Net Prop Plant & Equip 4,299 4,727 6,157 5,657 5,457 5,257 5,057
Notes Receivable 226 260 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
Other 0 (15) 0 0 0 0 0
-----------------------------------------------------------------------------------
OTHER ASSETS 609 893 0 0 0 0 0
================================================================================================================================
CAPITAL 18,920 19,209 16,426 17,602 18,781 19,851 20,534
================================================================================================================================
</TABLE>
<PAGE> 14
FREE CASH FLOW VALUATION
POLK AUDIO - SCENARIO A
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC.
NOPAT - INV PV FACTOR X FCF
PRESENT VALUE
YEAR NOPAT INVESTMENT FCF (1) PV FACTOR OF FCF
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
1999 3,413 (2,783) 6,196 0.9249 5,731
2000 3,117 1,176 1,941 0.7913 1,536
2001 3,710 1,179 2,531 0.6769 1,714
2002 4,249 1,070 3,179 0.5791 1,841
2003 4,587 683 3,904 0.4954 1,934
2004 & BEYOND 4,744 (3) 0 4,744 (2) 2.9333 13,917
INTRINSIC OPERATING VALUE 26,673
Marketable Securities 1,784
-------------------------
INTRINSIC TOTAL VALUE 28,457
Total Debt 300
Other Liabilities 971
-------------------------
INTRINSIC COMMON EQUITY VALUE 27,186
Number of Shares Outstanding 2,017
INTRINSIC SHARE VALUE $13.48
------------------------------------------------
(1) Cash flows discounted from mid-year
(2) Present Value of $1 in perpetuity beginning in 2004
(3) NOPAT increases by $157.8 based on a return of
23.11% on 2003 investment of $683.0
</TABLE>
<PAGE> 15
COST OF CAPITAL
POLK AUDIO - SCENARIO A
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C>
= Weighted Average + Weighted Average
Cost of Debt Cost of Equity
= Incremental Borrowing + Risk Free + Equity Risk + Small Cap. + Co. Specific
Cost X (1-Tax Rate) Rate Premium Premium Risk
= (6.88% X (1-40.0%)) + 5.12% + (7.8% X 0.83) + 3.3% + 2.0%
Debt Equity
Weighting = 0% Weighting = 100%
= 0% + 16.89%
= 16.89%
</TABLE>
<PAGE> 16
INCOME STATEMENT
POLK AUDIO - SCENARIO B
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales 54,416 54,153 71,312 75,510 80,420 85,366 90,288
Cost of Goods Sold 31,349 33,020 43,666 47,423 49,725 52,321 55,296
-------------------------------------------------------------------------------------------
GROSS PROFIT 23,067 21,133 27,646 28,087 30,695 33,045 34,992
General and administrative 21,455 19,351 4,470 4,739 5,023 5,324 5,644
Marketing & Advertising 0 0 14,975 15,311 16,050 16,838 17,584
Research & Development 0 0 2,484 2,805 3,242 3,526 3,867
Contingency reserve 0 0 135 400 500 600 600
Incentive compensation 0 0 700 700 800 800 800
-------------------------------------------------------------------------------------------
NET OPERATING PROFIT 1,612 1,782 4,882 4,132 5,080 5,957 6,497
Interest Expense 350 258 66 12 12 12 12
Non-Operating Interest Income 4 20 9 126 165 219 287
Other Income 17 (20) 0 0 0 0 0
Royalty Income 0 424 550 550 550 550 550
Unusual Income 0 0 (450) 150 0 0 0
-------------------------------------------------------------------------------------------
INCOME BEFORE TAXES 1,284 1,948 4,925 4,946 5,783 6,714 7,322
Income Tax Provision 532 842 1,975 1,976 2,312 2,684 2,926
-------------------------------------------------------------------------------------------
INCOME AFTER TAXES 752 1,106 2,950 2,970 3,471 4,030 4,396
==============================================================================================================================
Earnings Per Share 0.41 0.60 1.60 1.61 1.88 2.18 2.38
</TABLE>
<PAGE> 17
BALANCE SHEET
POLK AUDIO - SCENARIO B
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 500 500 500 500 500
Created Mkt Securities 0 0 5,039 6,586 8,941 11,968 15,743
Accounts Receivable 9,510 8,615 5,525 6,309 7,369 8,295 8,795
Inventory 7,899 11,087 9,418 10,752 11,430 12,187 12,989
Income Tax Recoverable 53 139 0 0 0 0 0
Current Deferred Taxes 784 925 0 0 0 0 0
Other Current Assets 672 565 1,650 1,700 1,800 1,900 2,000
----------------------------------------------------------------------------------------
TOTAL CURRENT ASSETS 19,340 21,765 22,132 25,847 30,040 34,850 40,027
Plant & Equipment 4,299 4,727 6,157 5,657 5,457 5,257 5,057
Notes Receivable 226 260 0 0 0 0 0
Deferred Taxes 750 1,170 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
==============================================================================================================================
TOTAL ASSETS 24,997 28,570 28,289 31,504 35,497 40,107 45,084
==============================================================================================================================
</TABLE>
<PAGE> 18
BALANCE SHEET
POLK AUDIO - SCENARIO B
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Bank Overdraft 44 0 0 0 0 0 0
Current Portion LTD 400 400 300 0 0 0 0
Accounts Payable 2,758 5,135 4,200 4,097 4,296 4,521 4,778
Accrued Expenses 2,302 2,529 2,165 2,715 2,931 3,167 3,364
Current Portion of accr. Prd. Liability 267 512 522 574 632 695 764
------------------------------------------------------------------------------------
TOTAL CURRENT LIABS 5,772 8,576 7,187 7,386 7,859 8,383 8,906
Senior Long-Term Debt 2,347 200 0 0 0 0 0
Accrued product warranty 335 424 449 494 543 598 657
Other 0 15 0 0 0 0 0
------------------------------------------------------------------------------------
TOTAL SENIOR LIABS 8,453 9,215 7,636 7,880 8,402 8,981 9,563
TOTAL LIABILITIES 8,453 9,215 7,636 7,880 8,402 8,981 9,563
Common Stock 18 18 18 18 18 18 18
Addtl Paid in Capital 1,586 1,751 1,756 1,756 1,756 1,756 1,756
Retained Earnings 15,786 18,529 19,821 22,791 26,263 30,293 34,689
(Foreign Curr. Translation Adj.) 25 2 0 0 0 0 0
(Notes Receivable-Stock Options) 822 942 942 942 942 942 942
------------------------------------------------------------------------------------
COMMON EQUITY 16,544 19,354 20,653 23,623 27,095 31,125 35,521
------------------------------------------------------------------------------------
NET WORTH 16,544 19,354 20,653 23,623 27,095 31,125 35,521
====================================================================================================================================
TOTAL LIAB & NET WORTH 24,997 28,569 28,289 31,503 35,497 40,106 45,084
====================================================================================================================================
</TABLE>
<PAGE> 19
NOPAT OPERATING APPROACH
POLK AUDIO - SCENARIO B
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales 54,416 54,153 71,312 75,510 80,420 85,366 90,288
Cost of Goods Sold 31,349 33,020 43,666 47,423 49,725 52,321 55,296
General and administrative 21,455 19,351 4,470 4,739 5,023 5,324 5,644
Marketing & Advertising 0 0 14,975 15,311 16,050 16,838 17,584
Research & Development 0 0 2,484 2,805 3,242 3,526 3,867
Other Expense 0 0 835 1,100 1,300 1,400 1,400
---------------------------------------------------------------------------------------
Total Operating Expenses N/A 52,371 66,430 71,378 75,340 79,409 83,791
Other Income 17 404 550 550 550 550 550
---------------------------------------------------------------------------------------
ADJUSTED EBIT N/A 2,186 5,432 4,682 5,630 6,507 7,047
CASH OPERATING TAX N/A 1,355 2,173 1,873 2,252 2,603 2,819
==============================================================================================================================
NOPAT N/A 831 3,259 2,809 3,378 3,904 4,228
==============================================================================================================================
</TABLE>
<PAGE> 20
CAPITAL - OPERATING APPROACH
POLK AUDIO - SCENARIO B
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 500 500 500 500 500
Net Accts Receivable 9,510 8,615 5,525 6,309 7,369 8,295 8,795
Net Inventory 7,899 11,087 9,418 10,752 11,430 12,187 12,989
Other Current Assets 1,509 1,629 1,650 1,700 1,800 1,900 2,000
-------------------------------------------------------------------------------------
Current Operating Assets 19,340 21,765 17,093 19,261 21,099 22,882 24,284
Accounts Payable 2,758 5,135 4,200 4,097 4,296 4,521 4,778
Accrued Expenses 2,302 2,529 2,165 2,715 2,931 3,167 3,364
Current Portion of accr. Prd. Liability 267 512 522 574 632 695 764
-------------------------------------------------------------------------------------
NIBCLs 5,328 8,176 6,887 7,386 7,859 8,383 8,906
NET WORKING CAPITAL 14,012 13,589 10,206 11,875 13,240 14,499 15,378
Net Prop Plant & Equip 4,299 4,727 6,157 5,657 5,457 5,257 5,057
Notes Receivable 226 260 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
Other 0 (15) 0 0 0 0 0
-------------------------------------------------------------------------------------
OTHER ASSETS 609 893 0 0 0 0 0
==================================================================================================================================
CAPITAL 18,920 19,209 16,363 17,532 18,697 19,756 20,435
==================================================================================================================================
</TABLE>
<PAGE> 21
FREE CASH FLOW VALUATION
POLK AUDIO - SCENARIO B
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC.
NOPAT - INV PV FACTOR X FCF
PRESENT VALUE
YEAR NOPAT INVESTMENT FCF (1) PV FACTOR OF FCF
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
1999 3,259 (2,846) 6,105 0.9249 5,647
2000 2,809 1,169 1,640 0.7913 1,298
2001 3,378 1,165 2,213 0.6769 1,498
2002 3,904 1,059 2,845 0.5791 1,648
2003 4,228 679 3,549 0.4954 1,758
2004 & BEYOND 4,374 (3) 0 4,374 (2) 2.9333 12,829
INTRINSIC OPERATING VALUE 24,678
Marketable Securities 1,784
-----------------
INTRINSIC TOTAL VALUE 26,462
Total Debt 300
Other Liabilities 971
-----------------
INTRINSIC COMMON EQUITY VALUE 25,191
Number of Shares Outstanding 2,017
INTRINSIC SHARE VALUE $12.49
------------------------------------------------
(1) Cash flows discounted from mid-year
(2) Present Value of $1 in perpetuity beginning in 2004
(3) NOPAT increases by $145.3 based on a return of 21.40% on
2003 investment of $679.0
</TABLE>
<PAGE> 22
COST OF CAPITAL
POLK AUDIO - SCENARIO B
<TABLE>
<S> <C> <C> <C> <C> <C> <C>
= Weighted Average + Weighted Average
Cost of Debt Cost of Equity
= Incremental Borrowing + Risk Free + Equity Risk + Small Cap. + Co. Specific
Cost X (1-Tax Rate) Rate Premium Premium Risk
= (6.88% X (1-40.0%)) + 5.12% + (7.8% X 0.83)+ 3.3% + 2.0%
Debt Equity
Weighting = 0% Weighting = 100%
= 0% + 16.89%
= 16.89%
</TABLE>
<PAGE> 23
INCOME STATEMENT
POLK AUDIO - SCENARIO C
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales 54,416 54,153 70,281 73,275 78,050 82,915 87,720
Cost of Goods Sold 31,349 33,020 43,119 46,168 48,411 50,962 53,862
-----------------------------------------------------------------------------------
GROSS PROFIT 23,067 21,133 27,162 27,107 29,639 31,953 33,858
General and administrative 21,455 19,351 4,470 4,739 5,023 5,324 5,644
Marketing & Advertising 0 0 14,878 15,102 15,828 16,608 17,342
Research & Development 0 0 2,484 2,805 3,242 3,526 3,867
Contingency reserve 0 0 135 400 500 600 600
Incentive compensation 0 0 700 700 800 800 800
-----------------------------------------------------------------------------------
NET OPERATING PROFIT 1,612 1,782 4,495 3,361 4,246 5,095 5,605
Interest Expense 350 258 66 12 12 12 12
Non-Operating Interest Income 4 20 9 119 149 192 250
Other Income 17 (20) 0 0 0 0 0
Royalty Income 0 424 550 550 550 550 550
Unusual Income 0 0 (450) 150 0 0 0
-----------------------------------------------------------------------------------
INCOME BEFORE TAXES 1,284 1,948 4,538 4,168 4,933 5,825 6,393
Income Tax Provision 532 842 1,820 1,665 1,972 2,328 2,555
-----------------------------------------------------------------------------------
INCOME AFTER TAXES 752 1,106 2,718 2,503 2,961 3,497 3,838
=======================================================================================================================
Earnings Per Share 0.41 0.60 1.47 1.35 1.60 1.89 2.08
</TABLE>
<PAGE> 24
BALANCE SHEET
POLK AUDIO - SCENARIO C
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 500 500 500 500 500
Created Mkt Securities 0 0 4,907 6,000 7,867 10,373 13,601
Accounts Receivable 9,510 8,615 5,356 6,125 7,155 8,060 8,548
Inventory 7,899 11,087 9,281 10,591 11,262 12,016 12,808
Income Tax Recoverable 53 139 0 0 0 0 0
Current Deferred Taxes 784 925 0 0 0 0 0
Other Current Assets 672 565 1,650 1,700 1,800 1,900 2,000
-------------------------------------------------------------------------------------------
TOTAL CURRENT ASSETS 19,340 21,765 21,694 24,916 28,584 32,849 37,457
Plant & Equipment 4,299 4,727 6,157 5,657 5,457 5,257 5,057
Notes Receivable 226 260 0 0 0 0 0
Deferred Taxes 750 1,170 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
==============================================================================================================================
TOTAL ASSETS 24,997 28,570 27,851 30,573 34,041 38,106 42,514
==============================================================================================================================
</TABLE>
<PAGE> 25
BALANCE SHEET
POLK AUDIO - SCENARIO C
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Bank Overdraft 44 0 0 0 0 0 0
Current Portion LTD 400 400 300 0 0 0 0
Accounts Payable 2,758 5,135 4,090 3,989 4,183 4,403 4,654
Accrued Expenses 2,302 2,529 2,069 2,591 2,797 3,027 3,218
Current Portion of accr. Prd. Liability 267 512 522 574 632 695 764
------------------------------------------------------------------------------------
TOTAL CURRENT LIABS 5,772 8,576 6,981 7,154 7,612 8,125 8,636
Senior Long-Term Debt 2,347 200 0 0 0 0 0
Accrued product warranty 335 424 449 494 543 598 657
Other 0 15 0 0 0 0 0
------------------------------------------------------------------------------------
TOTAL SENIOR LIABS 8,453 9,215 7,430 7,648 8,155 8,723 9,293
TOTAL LIABILITIES 8,453 9,215 7,430 7,648 8,155 8,723 9,293
Common Stock 18 18 18 18 18 18 18
Addtl Paid in Capital 1,586 1,751 1,756 1,756 1,756 1,756 1,756
Retained Earnings 15,786 18,529 19,589 22,092 25,053 28,550 32,388
(Foreign Curr. Translation Adj.) 25 2 0 0 0 0 0
(Notes Receivable-Stock Options) 822 942 942 942 942 942 942
------------------------------------------------------------------------------------
COMMON EQUITY 16,544 19,354 20,421 22,924 25,886 29,382 33,220
------------------------------------------------------------------------------------
NET WORTH 16,544 19,354 20,421 22,924 25,886 29,382 33,220
==================================================================================================================================
TOTAL LIAB & NET WORTH 24,997 28,569 27,851 30,572 34,041 38,105 42,513
==================================================================================================================================
</TABLE>
<PAGE> 26
NOPAT OPERATING APPROACH
POLK AUDIO - SCENARIO C
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales 54,416 54,153 70,281 73,275 78,050 82,915 87,720
Cost of Goods Sold 31,349 33,020 43,119 46,168 48,411 50,962 53,862
General and administrative 21,455 19,351 4,470 4,739 5,023 5,324 5,644
Marketing & Advertising 0 0 14,878 15,102 15,828 16,608 17,342
Research & Development 0 0 2,484 2,805 3,242 3,526 3,867
Other Expense 0 0 835 1,100 1,300 1,400 1,400
---------------------------------------------------------------------------------------
Total Operating Expenses N/A 52,371 65,786 69,914 73,804 77,820 82,115
Other Income 17 404 550 550 550 550 550
---------------------------------------------------------------------------------------
ADJUSTED EBIT N/A 2,186 5,045 3,911 4,796 5,645 6,155
CASH OPERATING TAX N/A 1,355 2,018 1,564 1,918 2,258 2,462
=============================================================================================================================
NOPAT N/A 831 3,027 2,347 2,878 3,387 3,693
=============================================================================================================================
</TABLE>
<PAGE> 27
CAPITAL - OPERATING APPROACH
POLK AUDIO - SCENARIO C
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC. FORECAST FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 500 500 500 500 500
Net Accts Receivable 9,510 8,615 5,356 6,125 7,155 8,060 8,548
Net Inventory 7,899 11,087 9,281 10,591 11,262 12,016 12,808
Other Current Assets 1,509 1,629 1,650 1,700 1,800 1,900 2,000
-------------------------------------------------------------------------------------
Current Operating Assets 19,340 21,765 16,787 18,916 20,717 22,476 23,856
Accounts Payable 2,758 5,135 4,090 3,989 4,183 4,403 4,654
Accrued Expenses 2,302 2,529 2,069 2,591 2,797 3,027 3,218
Current Portion of accr. Prd. Liability 267 512 522 574 632 695 764
-------------------------------------------------------------------------------------
NIBCLs 5,328 8,176 6,681 7,154 7,612 8,125 8,636
NET WORKING CAPITAL 14,012 13,589 10,106 11,762 13,105 14,351 15,220
Net Prop Plant & Equip 4,299 4,727 6,157 5,657 5,457 5,257 5,057
Notes Receivable 226 260 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
Other 0 (15) 0 0 0 0 0
-------------------------------------------------------------------------------------
OTHER ASSETS 609 893 0 0 0 0 0
=================================================================================================================================
CAPITAL 18,920 19,209 16,263 17,419 18,562 19,608 20,277
=================================================================================================================================
</TABLE>
<PAGE> 28
FREE CASH FLOW VALUATION
POLK AUDIO - SCENARIO C
Dollars in Thousands
<TABLE>
<CAPTION>
FERRIS, BAKER WATTS, INC.
NOPAT - INV PV FACTOR X FCF
PRESENT VALUE
YEAR NOPAT INVESTMENT FCF (1) PV FACTOR OF FCF
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
1999 3,027 (2,946) 5,973 0.9249 5,524
2000 2,347 1,156 1,191 0.7913 942
2001 2,878 1,143 1,735 0.6769 1,174
2002 3,387 1,046 2,341 0.5791 1,356
2003 3,693 669 3,024 0.4954 1,498
2004 & BEYOND 3,819 (3) 0 3,819 (2) 2.9333 11,202
INTRINSIC OPERATING VALUE 21,697
Marketable Securities 1,784
-------------------------
INTRINSIC TOTAL VALUE 23,481
Total Debt 300
Other Liabilities 971
-------------------------
INTRINSIC COMMON EQUITY VALUE 22,210
Number of Shares Outstanding 2,017
INTRINSIC SHARE VALUE $11.01
------------------------------------------------
(1) Cash flows discounted from mid-year
(2) Present Value of $1 in perpetuity beginning in 2004
(3) NOPAT increases by $126.0 based on a return of 18.83% on
2003 investment of $669.0
</TABLE>
<PAGE> 29
COST OF CAPITAL
POLK AUDIO - SCENARIO C
<TABLE>
<S> <C> <C> <C> <C> <C>
= Weighted Average + Weighted Average
Cost of Debt Cost of Equity
= Incremental Borrowing + Risk Free + Equity Risk + Small Cap. + Co. Specific
Cost X (1-Tax Rate) Rate Premium Premium Risk
= (6.88% X (1-40.0%)) + 5.12% + (7.8% X 0.83) + 3.3% + 2.0%
Debt Equity
Weighting = 0% Weighting = 100%
= 0% + 16.89%
= 16.89%
</TABLE>
<PAGE> 30
POLK AUDIO, INC.
- --------------------------------------------------------------------------------
COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
Market
Data
----------------------------------------
Fiscal Four Stock Shares Market
Year Quarters Price Out. Value
. Ticker End Ended 12/3/98 (000's) ($000's)
- ---------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Koss Corporation KOSS 6/30 9/30/98 11.00 3,177 34,947
Phoenix Gold International, Inc. PGLD 9/30 9/30/98 2.00 3,464 6,928
- ---------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------
POLK AUDIO, INC. PKA 9/30 9/30/98 14.13 1,849 26,117
- ---------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Financial Data
(Trailing Four Quarters, in $ thousands)
--------------------------------------------------------------------------------------------------
Net Total Total Common Total
. Revenues EBIT (1) Income Assets Debt (2) Equity Capital (3)
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Koss Corporation 37,914 7,665 5,367 30,381 1,367 23,882 28,020
Phoenix Gold International, Inc. 26,485 (913) (772) 15,208 938 10,498 11,436
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 70,647 5,679 3,328 28,570 600 19,355 20,394
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Earnings Before Interest and Taxes.
(2) Total Debt includes Current Portion of Long Term Debt.
(3) Includes Total Debt, Common and Preferred Equity, Other Liabilities and
Deferred Taxes.
<PAGE> 31
POLK AUDIO, INC.
- --------------------------------------------------------------------------------
COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
Margin Profitability Ratios
Analysis
------------------------- -------------------------------------
Return on NOPAT/ Return on
EBIT Net Common Ending Total
Company Margin Margin Equity Capital (4) Assets
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Koss Corporation 20.2% 14.2% 22.5% 16.4% 17.7%
Phoenix Gold International, Inc. -3.4% -2.9% -7.4% -4.8% -5.1%
- ----------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------
AVERAGE 8.4% 5.6% 7.6% 5.8% 6.3%
- ----------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 8.0% 4.7% 17.2% 16.7% 11.6%
- ----------------------------------------------------------------------------------------------------
<CAPTION>
Liquidity & Leverage
Total
-------------------------------------------
Debt/ Total
Current Common Debt/
Company Ratio Equity Total Capital
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Koss Corporation 11.6 5.7% 4.9%
Phoenix Gold International, Inc. 3.1 8.9% 8.2%
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
AVERAGE 7.4 7.3% 6.5%
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
POLK AUDIO, INC. 2.5 3.1% 2.9%
- --------------------------------------------------------------------------------
<CAPTION>
Valuation Ratios
------------------------------------------------------------
Mkt. Val.
Net Mkt. Mkt. Val. Mtk Val. to Book Ent. Val.
Capital (5) to Earnings E. E. Value to
Company to EBIT (P/E) 1999 (Equity) Revenues
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Koss Corporation 4.7 6.5 8.2 1.5 1.0
Phoenix Gold International, Inc. NM NM 5.0 0.7 0.3
- --------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------
AVERAGE 4.7 6.5 6.6 1.1 0.6
- --------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 4.6 7.8 8.4 1.3 0.4
- --------------------------------------------------------------------------------------------------
</TABLE>
(4) NOPAT= net operating profit after tax (EBIT x (1-4
be compared directly to the firm's after-tax cost of c
firm is earning its cost of capital.
(5) Market Value Common and Preferred Equity plus Debt less Cash.
<PAGE> 32
POLK AUDIO, INC.
- -------------------------------------------------------------------------------
Implied Valuation Analysis
<TABLE>
<CAPTION>
IMPLIED IMPLIED
AVERAGE POLK EQUITY NUMBER PER SHARE
MULTIPLE RESULTS VALUE OF SHARES VALUE
- --------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Market Capital/EBIT 4.7 5,679 26,291 1,849 14.22
P/E 6.5 3,328 21,670 1,849 11.72
Fwd P/E '99 6.6 3,104 20,500 1,849 11.09
Mkt. Val. to Book 1.1 19,355 20,547 1,849 11.11
Ent. Val. to Revenues 0.6 70,647 44,324 1,849 23.97
</TABLE>
<PAGE> 33
POLK AUDIO, INC.
- --------------------------------------------------------------------------------
COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
Misc. Mkt. Data
-------------------------------------------------------------------
Floating % of Revenue
Avg. Daily Volume Shares Insider From Single
Company Year to Date (MM) Ownership Largest Customer
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Koss Corporation 5,057 1.64 59% 19%
Phoenix Gold International, Inc. 3,227 1.36 63% <10%
- -----------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------
AVERAGE 4,142 1.5 61.0%
- -----------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 4,178 0.86 53.5% >50%
- -----------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 34
POLK AUDIO, INC.
================================================================================
QUARTERLY FINANCIAL DATA
Fiscal Years Ended March
<TABLE>
<CAPTION>
1998
- -------------------------------------------------------------------------------------------------------------------------
Q1 A Q2 A Q3 A Q4 A Total
---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C>
Total sales $9,749 $10,275 $12,953 $21,174 $54,151
Cost of goods sold 5,978 6,481 7,812 12,740 33,011
----- ----- ----- ------ ------
Gross profit 3,771 3,794 5,141 8,434 21,140
38.68% 36.93% 39.69% 39.83% 39.04%
General and administrative 1,061 971 1,016 1,113 4,161
Marketing and advertising 2,719 2,728 3,027 4,244 12,718
Research and development 557 543 498 551 2,149
Contingency reserve 0 0 0 0 0
Incentive compensation 29 29 30 250 338
-- -- -- --- ---
Net operating profit (595) (477) 570 2,276 1,774
-6.10% -4.64% 4.40% 10.75% 3.28%
Interest expense 39 65 85 83 270
Interest and other 2 3 (6) 16 15
Royalty income 35 136 145 108 424
-- --- --- --- ---
Income before taxes (597) (403) 624 2,317 1,943
-6.12% -3.92% 4.82% 10.94% 3.59%
Income tax provision (241) (165) 253 985 832
---- ---- --- --- ---
Net income (356) (238) 371 1,332 1,111
-3.65% -2.31% 2.87% 6.29% 2.05%
Shares outstanding 1,823 1,843 1,849 1,849 1,849
Earnings per share (0.20) (0.13) 0.20 0.72 0.60
</TABLE>
<TABLE>
<CAPTION>
1999
- -------------------------------------------------------------------------------------------------------------------
Q1 A Q2 A Q3 A Q4 E Total
---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C>
Total sales $18,225 $18,312 $18,300 $17,163 $72,000
Cost of goods sold 11,066 11,089 11,305 10,571 44,031
------ ------ ------ ------ ------
Gross profit 7,159 7,223 6,995 6,592 27,969
39.28% 39.44% 38.22% 38.41% 38.85%
General and administrative 1,118 1,107 1,110 1,135 4,470
Marketing and advertising 4,024 3,668 3,691 3,657 15,040
Research and development 569 682 630 620 2,484
Contingency reserve 0 0 65 70 135
Incentive compensation 266 146 150 138 700
--- --- --- --- ---
Net operating profit 1,182 1,620 1,349 972 5,140
6.48% 8.85% 7.37% 5.66% 7.14%
Interest expense 22 20 18 6 66
Interest and other 14 (232) (244) 19 (443)
Royalty income 112 102 138 199 551
--- --- --- --- ---
Income before taxes 1,286 1,470 1,225 1,184 5,182
7.06% 8.03% 6.69% 6.90% 7.20%
Income tax provision 535 602 470 471 2,078
--- --- --- --- -----
Net income 751 868 755 713 3,104
4.12% 4.74% 4.13% 4.15% 4.31%
Shares outstanding 1,849 1,849 1,849 1,849 1,849
Earnings per share 0.41 0.47 0.41 0.39 1.68
</TABLE>
<PAGE> 35
TRADING SUMMARY
THE FOLLOWING DATA POINTS ARE REPRESENTATIVE OF THE
HISTORICAL STOCK PRICE PERFORMANCE
<TABLE>
<CAPTION>
DATE PRICE VOLUME
---- ----- ------
<S> <C> <C>
Dec. 1, 1995 9.58 4,700
Jan. 2, 1996 9.75 300
March 20, 1996 8.38 0
April 16, 1996 8.63 2,200
May 20, 1996 14.75 400
July 8, 1996 14.13 4,500
Aug. 5, 1996 11.94 0
Sept. 24, 1996 10.88 1,000
Oct. 22, 1996 13.25 19,000
Nov. 19, 1996 10.88 2,100
Dec. 6, 1996 9.88 1,500
Jan 20, 1997 12.38 1,500
Feb. 7, 1997 10.63 100
March 27, 1997 9.13 1,300
April 8, 1997 8.13 6,300
May 28, 1997 9.00 3,000
June 30, 1997 9.00 1,300
July 3, 1997 9.88 0
Sept. 12, 1997 8.63 0
Oct. 3, 1997 8.00 1,000
Dec. ??, 1997 10.63 7,700
Dec 30, 1997 10.13 600
Jan. 27, 1998 9.06 3,100
March 31, 1998 11.88 1,200
April 20, 1998 11.38 600
April 24, 1998 11.00 2,000
May 5, 1998 17.75 71,000
July 16, 1998 20.00 19,000
Aug. 5, 1998 14.75 2,000
Sept. 30, 1998 10.38 0
Oct. 1, 1998 10.38 0
Nov. 19, 1998 14.88 700
Dec. 18, 1998 16.25 3,300
Dec. 23, 1998 16.25 600
</TABLE>
Trading Range: $8.00 to $20.00
Average Daily Volume: 3,141
<PAGE> 36
LIST OF INFORMATION REVIEWED
- - Annual reports for the fiscal years 1998, 1997, 1996, 1995, and 1994
- - Form 10-K for the fiscal years 1998, 1997, 1996, 1995, and 1994
- - Proxy statements for the fiscal years 1998, 1997, 1996, 1995, and 1994
- - Form 10-Q for the periods ended September 27, 1998, June 28, 1998,
December 28, 1997, September 28, 1997, June 29, 1997, December 29, 1996,
September 29, 1996, June 30, 1996, December 31, 1995, October 1, 1995,
July 2, 1995, December 25, 1994, September 24, 1994, and June 26, 1994.
- - Form 8-K dated December 31, 1997, December 23, 1997, August 8, 1997, July
21, 1997, and December 18, 1995.
- - Fiscal 1999 Budget/Profit plan
- - Projections for fiscal 1999 through 2003
- - Summary of stockholders as of November 3, 1998
- - Summary of outstanding stock options
- - Product literature
- - Press releases from May 29, 1992 through October 20, 1998
- - MCM Capital Partners, LP letter dated September 30, 1998
<PAGE> 1
EXHIBIT (b)(2)
POLK AUDIO, INC.
PRESENTATION TO BOARD OF DIRECTORS
MARCH 24, 1999
1
<PAGE> 2
POLK AUDIO, INC.
- -------------------------------------------------
BUSINESS REASONS FOR THE TRANSACTION
- - Cost of filing.
- - Disclosure of financial information.
- - Lack of liquidity in stock market.
- - Good use of corporate capital.
2
<PAGE> 3
POLK AUDIO, INC.
- -------------------------------------------------
CONSIDERATIONS
- - Business and financial reasons for the transaction.
- - Obligation to pay "fair value" to minority shareholders.
- - Appearance of fair dealing.
- - Address the needs of both constituencies - balancing act.
3
<PAGE> 4
POLK AUDIO, INC.
- -------------------------------------------------
STRUCTURE
- - Fixed price self-tender offer for 860,000 shares at $12.00 per share.
- - Other alternatives
* Dutch auction self tender
* Reverse spilt
* Merger
- - Covers all non-affiliated shareholders - no proration.
- - In the event fewer than 860,00 shares are tendered, the Company may enter
into a merger or reverse stock split such that shares tendered will be
converted into the right to receive the purchase price in cash.
4
<PAGE> 5
POLK AUDIO, INC.
- -------------------------------------------------
VALUATION METHODS
- - Discounted Cash Flow Analysis
- - Public Comparable Company Analysis
- - Stock Price History
5
<PAGE> 6
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE
DISCOUNTED CASH FLOW ANALYSIS
- - All value derived from future expectation of cash flow and discounted to
the present at the commensurate level of risk.
- - Cash flow is important, earnings are not.
- - Shareholder value is created by:
* Increasing net operating cash flow,
* Reducing the level of capital investment,
* Lowering the cost of capital.
PUBLIC COMPARABLE COMPANY ANALYSIS
- - Value determined through a comparison to the multiples of publicly traded
comparable companies.
6
<PAGE> 7
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
KEY ASSUMPTIONS - MANAGEMENT'S PROJECTIONS
- - Revenues grow to $91.9 million by fiscal 2003, representing a 6.2%
compound average annual growth rate.
- - Gross profit margins are between 37.5% and 38.3%.
- - Net profit margins are projected to be between 3.4% and 3.6%.
7
<PAGE> 8
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
Quarterly Income Statement Summary - Fiscal Year Ended March 31, 1999
<TABLE>
<CAPTION>
1999
--------------------------------------------------
Q1 A Q2 A Q3 A Q4 E Total
---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C>
Total sales 18,337 18,414 18,365 17,240 72,356
Cost of goods sold 11,066 11,089 11,110 10,545 43,810
Gross profit 7,271 7,325 7,255 6,695 28,546
Gross profit % 39.65% 39.78% 39.50% 38.83% 39.45%
Net operating profit 1,311 1,722 1,407 1,063 5,503
Operating profit % 7.15% 9.35% 7.66% 6.17% 7.61%
Net income 768 853 430 647 2,698
Net margin 4.19% 4.63% 2.34% 3.75% 3.73%
Shares outstanding 1,849 1,849 1,849 1,849 1,849
Earnings per share 0.42 0.46 0.23 0.35 1.46
-----
</TABLE>
8
<PAGE> 9
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
Projected Income Statement - Fiscal Years Ended March 31, 1999 through
March 31, 2003
<TABLE>
<CAPTION>
EXPECTED FORECAST
--------------------------------------------------
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Sales $ 72,356 $ 81,000 $ 83,980 $ 88,426 $ 91,866
Cost of Goods Sold 43,810 50,652 51,923 54,598 56,914
------------- ------------ ------------ ------------ ------------
GROSS PROFIT 28,546 30,348 32,057 33,828 34,952
NET OPERATING PROFIT 5,503 4,491 4,752 5,199 5,118
INCOME AFTER TAXES $ 2,698 $ 2,717 $ 2,886 $ 3,174 $ 3,143
Shares Outstanding 1,849 1,849 1,849 1,849 1,849
Earnings per Share $ 1.46 $ 1.47 $ 1.56 $ 1.72 $ 1.70
</TABLE>
9
<PAGE> 10
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
NET OPERATING PROFIT AFTER TAXES (NOPAT)
<TABLE>
<CAPTION>
EXPECTED FORECAST
-----------------------------------------------------
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Sales $ 72,356 $ 81,000 $ 83,980 $ 88,426 $ 91,866
Total Operating Expenses 66,853 76,509 79,228 83,227 86,748
------------ ------------ ------------ ------------ ------------
ADJUSTED EBIT 5,503 4,491 4,752 5,199 5,118
CASH OPERATING TAX 2,412 1,843 1,952 2,135 2,103
------------ ------------ ------------ ------------ ------------
NOPAT $ 3,091 $ 2,648 $ 2,800 $ 3,064 $ 3,015
========== ========== ========== ========== ==========
</TABLE>
10
<PAGE> 11
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
CAPITAL
<TABLE>
<CAPTION>
EXPECTED FORECAST
----------------------------------------------------------
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Current Operating Assets $ 19,288 $ 22,251 $ 22,546 $ 23,356 $ 24,237
NIBCLs 7,890 8,111 8,990 9,232 9,642
------------ ------------ ------------ ------------ ------------
NET WORKING CAPITAL 11,398 14,140 13,556 14,124 14,595
Net Prop Plant & Equip 6,191 6,270 6,170 6,070 5,970
------------ ------------ ------------ ------------ ------------
CAPITAL $ 17,589 $ 20,410 $ 19,726 $ 20,194 $ 20,565
============ ============ ============ ============ ============
</TABLE>
11
<PAGE> 12
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
COST OF CAPITAL
<TABLE>
<S> <C> <C> <C>
= Weighted Average + Weighted Average
Cost of Debt Cost of Equity
= Incremental Borrowing + Risk Free + Equity Risk + Small Cap. + Co. Specific
Cost X (1-Tax Rate) Rate Premium Premium Risk
= (6.88% X (1-40.0%)) + 5.57% + (7.8% X 0.63) + 3.3% + 2.0%
Debt Equity
Weighting = 0% Weighting = 100%
= 0% + 15.78%
= 15.78%
</TABLE>
12
<PAGE> 13
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - DISCOUNTED CASH FLOW ANALYSIS
DISCOUNTED CASH FLOW VALUATION SUMMARY
<TABLE>
<CAPTION>
NOPAT - INV PV FACTOR x FCF
PRESENT VALUE
YEAR NOPAT INVESTMENT FCF PV FACTOR
OF FCF
- ---------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
2000 2,648 2,821 (173) 0.9294 (161)
2001 2,800 (684) 3,484 0.8027 2,797
2002 3,064 468 2,596 0.6933 1,800
2003 3,015 371 2,644 0.5988 1,583
2004 & BEYOND 3,070 0 3,070 3.7946 11,649
INTRINSIC OPERATING VALUE 17,668
Marketable Securities 5,264
------------------
INTRINSIC TOTAL VALUE 22,932
Other Liabilities 1,023
------------------
INTRINSIC COMMON EQUITY VALUE 21,909
Number of Shares Outstanding 2,017
INTRINSIC SHARE VALUE $10.86
</TABLE>
13
<PAGE> 14
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
- - Selected audio components manufacturers.
- - Market capitalization below $50 million.
- - Average daily trading volume below 6,000 shares.
- - Float below 2.0 million shares.
14
<PAGE> 15
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
Size and trading volume are significant factors in public market valuations.
Larger companies with greater trading volumes trade at higher multiples than
smaller companies with low trading volumes.
- - FBW examined other small capitalization companies with low trading
volumes. These companies had low insider ownership versus Polk.
- - The average P/E ratio was 9.1x.
- - The average P/E ratio for the comparable groups for these companies was
23.3x.
15
<PAGE> 16
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
COMPANIES SELECTED:
Koss Corp: Designs, manufactures and markets stereo headphones, audio/video
loudspeakers, and related accessory products.
Phoenix Gold: Designs, manufactures and markets a variety of accessories,
electronics and speakers for the car audio, custom home
audio/video and professional sound markets.
16
<PAGE> 17
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
-----------------------------
MARKET
DATA
Fiscal Four Stock Shares Market
Year Quarters Price Out. Value
Ticker End Ended 3/19/99 (000's) ($000's)
- ----------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Koss Corporation KOSS 6/30 12/31/98 11.50 3,180 36,570
Phoenix Gold International, Inc. PGLD 9/30 12/31/98 2.50 3,250 8,125
- ----------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------
POLK AUDIO, INC. PKA 3/31 12/27/98 9.75 1,849 18,028
- ----------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
-------------------------------------------------------------------
FINANCIAL DATA
(TRAILING FOUR QUARTERS, IN $ THOUSANDS)
Net Total Total Common Total
Revenues EBIT(1) Income Assets Debt(2) Equity Capital(3)
- ------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Koss Corporation 35,922 7,719 5,317 29,655 0 24,960 27,760
Phoenix Gold International, Inc. 27,092 (614) (569) 14,800 1,105 10,347 11,452
- ------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 75,848 6,305 3,389 26,344 0 19,783 20,243
- ------------------------------------------------------------------------------------------------------
</TABLE>
(1) Earnings Before Interest and Taxes.
(2) Total Debt includes Current Portion of Long Term Debt.
(3) Includes Total Debt, Common and Preferred Equity, Other Liabilities and
Deferred Taxes.
17
<PAGE> 18
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
------------------- ---------------------------------- ------------------------------
MARGIN PROFITABILITY RATIOS LIQUIDITY & LEVERAGE
ANALYSIS Total Total
Return on NOPAT/ Return on Debt/ Debt/
EBIT Net Common Ending Total Current Common Total
Company Margin Margin Equity Capital(4) Assets Ratio Equity Capital
- ----------------------------------------------------- ---------------------------------- ------------------------------
- ----------------------------------------------------- ---------------------------------- ------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Koss Corporation 21.5% 14.8% 21.3% 16.7% 17.9% 14.1 0.0% 0.0%
Phoenix Gold International, Inc. -2.3% -2.1% -5.5% -3.2% -3.8% 3.3 10.7% 9.6%
- ----------------------------------------------------- ---------------------------------- ------------------------------
- ----------------------------------------------------- ---------------------------------- ------------------------------
AVERAGE 9.6% 6.4% 7.9% 6.7% 7.0% 8.7 5.3% 4.8%
- ----------------------------------------------------- ---------------------------------- ------------------------------
- ----------------------------------------------------- ---------------------------------- ------------------------------
POLK AUDIO, INC. 8.3% 4.5% 17.1% 18.7% 12.9% 3.3 0.0% 0.0%
- ----------------------------------------------------- ---------------------------------- ------------------------------
</TABLE>
18
<PAGE> 19
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
COMPARABLE COMPANY VALUATION SUMMARY
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------
VALUATION RATIOS
--------------------------------------------------------------------------------
MKT. VAL.
NET MKT. MKT. VAL. P/E ESTIMATE TO BOOK ENT. VAL.
CAPITAL TO EARNINGS ------------ VALUE TO
COMPANY TO EBIT (P/E) 1999 2000 (EQUITY) REVENUES
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Koss Corporation 4.7 6.9 8.6 NA 1.5 1.0
Phoenix Gold International, Inc. NM NM 8.3 5.6 0.8 0.3
- -----------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------
Average 4.7 6.9 8.5 5.6 1.1 0.7
- -----------------------------------------------------------------------------------------------------------------
</TABLE>
19
<PAGE> 20
POLK AUDIO, INC.
- -------------------------------------------------
INTRINSIC VALUE - COMPARABLE COMPANY ANALYSIS
COMPARABLE COMPANY IMPLIED VALUATION ANALYSIS
<TABLE>
<CAPTION>
IMPLIED IMPLIED
AVERAGE POLK EQUITY NUMBER PER SHARE
MULTIPLE RESULTS VALUE OF SHARES VALUE
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Market Capital/EBIT 4.7 6,305 29,853 1,849 16.15
P/E 6.9 3,389 23,309 1,849 12.61
Fwd P/E '99 8.5 2,698 22,815 1,849 12.34
Fwd P/E '00 5.6 2,717 15,095 1,849 8.16
Mkt. Val. to Book 1.1 19,783 22,260 1,849 12.04
Ent. Val. to Revenues 0.7 75,848 51,528 1,849 27.87
</TABLE>
20
<PAGE> 21
POLK AUDIO, INC.
- --------------------------------------------------
VALUATION SUMMARY
<TABLE>
<CAPTION>
PRICE
PER
VALUATION METHODOLOGY SHARE
- --------------------------------------------------
<S> <C>
DISCOUNTED CASH FLOW 10.86
COMPARABLE COMPANY ANALYSIS
Net Market Capital/EBIT 16.15
P/E 12.61
Fwd P/E '99 12.34
Fwd P/E '00 8.16
Mkt. Val. to Book 12.04
Ent. Val. to Revenues 27.87
</TABLE>
21
<PAGE> 22
POLK AUDIO, INC.
- --------------------------------------------------
TRADING SUMMARY
[THE FOLLOWING DATA POINTS ARE REPRESENTATIVE
OF THE HISTORICAL STOCK PRICE PERFORMANCE GRAPH]
<TABLE>
<CAPTION>
Date Price Volume
---- ----- ------
<S> <C> <C>
Dec. 1, 1995 9.58 4,700
Jan. 2, 1996 9.75 300
March 19, 1996 8.00 600
April 16, 1996 8.63 2,200
April 18, 1996 9.50 600
May 20, 1996 14.75 400
July 1, 1996 14.25 1,100
Aug. 5, 1996 11.94 0
Sept. 24, 1996 10.88 1,000
Oct. 24, 1996 13.25 3,600
Nov. 19, 1996 10.88 2,100
Dec. 6, 1996 9.88 1,500
Jan. 20, 1997 12.38 1,500
March 10, 1997 10.31 0
March 27, 1997 9.13 1,300
April 8, 1997 8.13 6,300
June 25, 1997 9.56 0
June 30, 1997 9.88 1,300
July 3, 1997 9.88 0
Sept. 26, 1997 8.19 0
Oct. 3, 1997 8.00 1,000
Oct. 10, 1997 8.44 0
Dec. 23, 1997 10.63 7,700
Jan. 27, 1998 9.06 3,100
Jan. 29, 1998 9.50 900
March 31, 1998 11.88 1,200
April 24, 1998 11.00 2,000
May 1, 1998 11.75 400
May 5, 1998 17.75 71,000
May 18, 1998 16.06 1,600
July 16, 1998 20.00 19,000
Aug. 3, 1998 15.50 600
Sept. 2, 1998 12.38 4,200
Sept. 30, 1998 10.38 0
Oct. 1, 1998 10.38 0
Dec. 18, 1998 16.25 3,300
Dec. 23, 1998 16.25 600
Jan. 6, 1999 17.25 11,500
March 11, 1999 9.88 1,500
March 22, 1999 11.25 10,100
</TABLE>
Trading Range: $8.00 to $20.00
Average Daily Volume: 3,374
22
<PAGE> 23
POLK AUDIO, INC.
- ---------------------------------------------------
CONCLUSION
- - The Company is capitalized with excess high cost, public equity capital.
- - The Company's growth prospects do not require high cost capital.
- - The Company's profitability allows for cheaper cost debt financing.
- - The market does not currently provide meaningful liquidity to the majority
of shareholders.
- - The valuation is supported by several valuation methods.
- - The transaction provides shareholders the opportunity to realize fair value
and liquidity in an orderly fashion. This opportunity would otherwise not
exist given Polk's historical trading volume.
RESULT: Attractive corporate finance solution for both majority and
minority interests
23
<PAGE> 1
EXHIBIT (b)(3)
CONFIDENTIAL
POLK AUDIO, INC.
Supplemental Information
for the Board of Directors
MARCH 24, 1999
<PAGE> 2
TABLE OF CONTENTS
<TABLE>
<CAPTION>
SECTION DESCRIPTION
- ------- -----------
<S> <C>
I. Discounted Cash Flow Analysis
II. Comparable Company Analysis
III. Historical and Projected Quarterly Results for Fiscal 1998
and Fiscal 1999
IV. Trading History
V. List of Information Reviewed
</TABLE>
<PAGE> 3
This document is based upon information provided by Polk Audio, Inc. as well as
sources deemed to be reliable. The information set forth in this document is
intended solely for the use by the Board of Directors of Polk Audio, Inc.
Possession of this document, or a copy thereof, does not carry with it the right
of publication of all or part of it, nor may it be used for any purpose by
anyone but the Board of Directors of Polk Audio, Inc. without the previous
written consent of Ferris, Baker Watts, Incorporated ("FBW") or the Board of
Directors of Polk Audio, Inc., and in any event only with attribution to FBW.
The compensation received by FBW from this engagement is not dependent on the
consummation of the transaction evaluated herein.
Steven L. Shea R. Mark Rust
Senior Vice President Vice President
(410) 659-4639 (410) 659-4630
Ferris, Baker Watts, Incorporated
100 Light Street
Baltimore, MD 21202
Fax: (410) 659-4632
<PAGE> 4
EXECUTIVE SUMMARY
Ferris, Baker Watts, Incorporated ("FBW") has been retained by Polk
Audio, Inc. ("Polk" or the "Company") to advise the Board of Directors and serve
as the Company's exclusive financial advisor in connection with (i) the proposed
fixed price self tender offer (the "Transaction") after which, the Company
intends to delist its shares from the American Stock Exchange and cease
reporting to the general public, thereby becoming a private company, and (ii)
the issuance by FBW to the Board of Directors of the opinion of FBW that the
proposed price offered to the Company's shareholders in the Transaction is fair
from a financial point of view (the "Opinion"). FBW has (i) reviewed the
proposed Transaction, (ii) reviewed the draft of the proxy materials dated March
11, 1999 to be filed with the Securities and Exchange Commission in connection
with the Transaction, (iii) reviewed selected public and internal information of
the Company, (iv) interviewed management of the Company, (v) utilized our own
independent research, and (vi) utilized our expertise with similar transactions
and valuations. The valuation methodologies utilized include the discounted cash
flow method and the comparable public company analysis.
The Transaction calls for the Company to enter into a fixed price
self-tender for up to an aggregate of 860,000 of the outstanding shares of the
Company not held by insiders. The proposed price to be offered to the
unaffiliated shareholders is $12.00 per share.
Based upon our analysis, the proposed offer price of $12.00 is at a
premium to the value established by the discounted cash flow analysis and is
within the range of values established the comparable public company analysis.
Moreover, the offer price represents a 6.6% premium to the market price as of
March 22, 1999 and a 18.5% premium to the closing price as of March 18, 1999. It
is important to note that the Company intends to repurchase a minority interest
rather than a controlling stake in the Company, therefore FBW has not relied
upon merger and acquisition activity either in the audio component industry or
the consumer durables sector. Such transactions typically involve a control
premium in excess of fair value. Such transactions are therefore not relevant to
the Transaction contemplated by the Company.
THE TRANSACTION
The major elements of the Transaction as of March 11, 1999 are as
follows:
- - The Company shall effect a fixed price self-tender offer for the 860,000
shares not currently held by insiders. Affiliated shareholders will not
tender their shares.
- - The proposed price to be offered to the unaffiliated shareholders is $12.00
per share.
- - After the tender offer, the Company intends to delist its shares from
quotation on AMEX and terminate the registration of its shares, thus causing
the Company to become a private company.
- - In the event that fewer than 860,000 shares are tendered, the Company may
enter into a merger or reverse stock split such that shares not tendered
will be converted into the right to receive the purchase price in cash.
1
<PAGE> 5
DUE DILIGENCE REVIEW
As an integral part of the effort to determine the fairness of the
proposed Transaction, FBW conducted an extensive review of the information
supplied by Polk, including its historical financial results and projections. In
addition, FBW conducted interviews with management. In general, our discussions
centered on the following areas:
- - The history and historical operating results of the business.
- - The outlook for the Company, including new product initiatives.
- - The strategic and business purpose for becoming a private entity.
- - The market segment in which the Company operates, which is characterized as
shrinking (as evidenced by Electronic Industry Association statistics which
show the sales of separate audio components declining from an aggregate of
$1.9 billion in 1995 to an estimated $1.5 billion in 1998) and saturated.
- - The fact that the Company's major customer, Circuit City, now accounts for
approximately 50% of total sales. Additionally, in the nine-month period
ended December 27, 1998, sales to non-Circuit City customers declined by
27.2% versus the prior comparable period.
VALUATION
FBW has considered several methods to evaluate the fair market value of
the Company's common stock. These methods are (i) the discounted future free
cash flow of the Company, and (ii) the earnings and multiple comparisons to
publicly traded comparable companies.
Free Cash Flow Analysis
This methodology is premised on the assumption that a buyer purchases a
time series of free cash flows that are generated by the assets of a business.
This analysis separates and ascribes value only to the cash flows that can
ultimately be taken out of the business. Cash that is generated but used to
sustain the business (such as increases in working capital and capital
expenditures) creates no incremental value to the buyer. These free cash flows
are then discounted to the present at the firm's weighted average cost of
capital. The weighted average cost of capital can be described as the average
price a company must pay to attract both debt and equity to properly capitalize
the firm's growth. It is this series of free cash flows that, when discounted to
the present, and after subtracting claims by debt holders and others, represents
the economic value of a firm to its shareholders.
The cost of equity is the return common shareholders expect to earn to
compensate for the business and financial risks they bear. It is determined by
the tradeoff between risk and return. It is calculated through a modified
capital asset pricing model and is highlighted in Exhibit I. The accuracy of the
cost of capital is important not only in calculating the present value of free
cash flows, but it is also used to determine the value of the terminal value,
which is often the component providing the majority of the value in the
discounted cash flow model.
2
<PAGE> 6
The components of the cost of equity capital are as follows:
- - Risk Free Rate: Rate of return on a risk free instrument, such as a 10 year
Treasury bond.
- - Equity Risk Premium: Calculated by multiplying the Market Risk Premium by
the company's Beta. The Market Risk Premium is the return that all stocks
provide above the rate of return provided by risk free investments. The Beta
is a measure of the sensitivity of a company's stock to the broader market
as a whole. The Beta used was calculated by taking an average of the Betas
for audio components companies.
- - Small Cap. Premium: Premium provided by companies with small market
capitalizations in excess of returns of the broader market.
- - Company Specific Risk: Premium accounts for small float of Polk's stock and
low trading volume.
FBW calculated a cost of capital of 15.78%, which represents a premium of
10.21% in excess of the rate of return for risk free investments. This is
conservative when compared to the guidelines established by James H. Schilt,
editor of the Business Valuation Review, which suggest premiums ranging from 12%
to 15% for companies such as Polk.
The accuracy of this method of valuation depends largely on the integrity
of the projections. Management of Polk provided FBW with detailed projections
through fiscal 2003. These projections are outlined in Exhibit I and show the
following:
- - Revenue grows to $91.9 million in fiscal 2003, representing a compound
average annual growth rate of 6.2%.
- - Gross profit margins are projected to be between 37.5% and 38.3%.
- - Net profit margins are projected to be between 3.4% and 3.6%.
Publicly Traded Comparable Companies
FBW examined the financial results and market multiples of publicly
traded comparable companies. FBW selected manufacturers of audio components with
market capitializations below $50 million and average daily trading volumes
below 6,000. Within this criteria set, FBW relied upon two companies: Koss Corp
and Phoenix Gold. Insiders of these two companies own in excess of 50% of the
common stock and the average daily trading volumes are similar to Polk's.
Phoenix Gold does not have positive historical earnings results, which yielded
earnings multiples that were not meaningful. However, Koss has higher earnings
margins than Polk and trades at higher multiples. Both Koss and Phoenix Gold are
not dependent upon a single customer for 50% of revenue, as is Polk.
Size and trading volume are important factors in determining public
market valuation. FBW examined other consumer durables products manufacturers
with size and trading volume similar to Polk and found that the average earnings
multiple was approximately 9.1x. The average P/E multiple for the comparable
groups for these companies was 23.3x.
The pertinent performance measures for the comparable company analysis
are as follows:
3
<PAGE> 7
- - The Net Market Capital to Earnings Before Interest and Taxes (EBIT) ratio
measures the enterprise value to the net operating assets as a multiple of
the company's earnings before interest and taxes. By focusing on EBIT
instead of net income, it is possible to decrease distortions among
comparable companies that are due to different levels of debt in capital
structures, extraordinary items, varying tax rates, and other line items
that occur below the operating profit line. EBIT is calculated to represent
the pre-tax net income that would have resulted had the company been
financed on a total equity basis.
- - The price to earnings ("P/E") ratio is a commonly utilized valuation ratio.
It is also known as the earnings multiple and provides investors an
indication of how much they are paying for a company's earnings power and
the accounting income available to the common equity holder. However, net
income is often a poor approximation of actual cash flow ultimately
available to common shareholders for reinvestment or for the payment of
dividends. Accounting differences may make net income numbers less
comparable.
- - The price to forward earnings ratio is similar to the P/E ratio discussed
above, the difference being that it is based upon expectations for future
earnings, not historical earnings.
- - The Enterprise Value to Revenues ratio compares the enterprise value (market
value of equity plus debt) to the company's revenue stream. This ratio is
far less consistent among comparable companies than ratios that measure
value in relation to some measure of earnings.
- - The Market Value of Equity to Book Value of the Equity ratio compares what
the market is actually willing to pay for the assets of a company to what
the value of the company's securities would be worth relative to the
historical costs of its assets and earnings history. This ratio is far less
consistent among comparable companies than ratios that measure value in
relation to some measure of earnings.
4
<PAGE> 8
VALUATION SUMMARY
The table below summarized the values derived from the discounted cash
flow methodology.
<TABLE>
<CAPTION>
COMMON PER
EQUITY NUMBER SHARE
VALUE OF SHARES VALUE
----- --------- -----
<S> <C> <C> <C>
Discounted Cash Flow 21,909 2,017 10.86
</TABLE>
The table below summarizes the valued derived from the comparable company
analysis.
<TABLE>
<CAPTION>
IMPLIED IMPLIED
AVERAGE EQUITY NUMBER PER SHARE
MULTIPLE VALUE OF SHARES VALUE
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net Market Capital/EBIT 4.7 29,853 1,849 16.15
P/E 6.9 23,309 1,849 12.61
Fwd P/E '99 8.5 22,815 1,849 12.34
Fwd P/E '00 5.6 15,095 1,849 8.16
Mkt. Val. to Book 1.1 22,260 1,849 12.04
Ent. Val. to Revenues 0.7 51,528 1,849 27.87
</TABLE>
SUMMARY AND CONCLUSION
- - The proposed offer price is at a premium to the value established through
the discounted cash flow method of valuation. These projections show
improved profitability when compared to the historical performance of the
Company as well as greater growth in revenues when compared to the growth
rate from the past three fiscal years ended 1998. Additionally, we have
conservatively estimated the premium in the cost of capital to account for
high insider ownership and low trading volume.
- - The proposed offer price is within the range of values established through
the comparable company analysis and is consistent with values derived from
earnings multiples. The comparable companies selected are similar not only
in business line, but in trading volume and ownership by insiders. The most
similar comparable company is Koss. Koss is more profitable and does not
have in excess of 50% of its business concentrated with one customer. As a
result, its market multiples are higher than the multiples of Polk.
- - The proposed offer price represents a 6.6% premium to the market price as of
March 22, 1999 and a 18.5% premium to the closing price as of March 18,
1999.
- - The Transaction provides shareholders the opportunity to realize liquidity
in an orderly fashion. This opportunity would otherwise not exist given
Polk's historical trading volume.
5
<PAGE> 9
INCOME STATEMENT
POLK AUDIO, INC.
Dollars in Thousands
<TABLE>
<CAPTION>
Ferris, Baker Watts, Inc. ACTUAL ACTUAL EXPECTED FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales $ 54,416 $ 54,153 $ 72,356 $ 81,000 $ 83,980 $ 88,426 $ 91,866
Cost of Goods Sold 31,349 33,020 43,810 50,652 51,923 54,598 56,914
-------- -------- -------- -------- -------- -------- --------
GROSS PROFIT 23,067 21,133 28,546 30,348 32,057 33,828 34,952
General and administrative 21,455 19,351 4,645 4,820 5,109 5,416 5,741
Marketing & Advertising 0 0 14,776 16,687 17,246 17,988 18,706
Research & Development 0 0 2,774 3,000 3,350 3,525 3,687
Contingency reserve 0 0 100 400 500 600 600
Incentive compensation 0 0 748 950 1,100 1,100 1,100
-------- -------- -------- -------- -------- -------- --------
NET OPERATING PROFIT 1,612 1,782 5,503 4,491 4,752 5,199 5,118
Interest Expense 350 258 54 0 0 0 0
Non-Operating Interest Income 4 20 10 114 140 180 210
Other Income(1) 17 (20) 0 0 0 0 0
Royalty Income 0 424 0 0 0 0 0
Unusual Income 0 0 (600) 0 0 0 0
-------- -------- -------- -------- -------- -------- --------
INCOME BEFORE TAXES 1,284 1,948 4,859 4,605 4,892 5,379 5,328
Income Tax Provision 532 842 2,161 1,888 2,006 2,205 2,185
-------- -------- -------- -------- -------- -------- --------
INCOME AFTER TAXES $ 752 $ 1,106 $ 2,698 $ 2,717 $ 2,886 $ 3,174 $ 3,143
======== ======== ======== ======== ======== ======== ========
Earnings per Share $ 0.41 $ 0.60 $ 1.46 $ 1.47 $ 1.56 $ 1.72 $ 1.70
</TABLE>
<PAGE> 10
BALANCE SHEET
POLK AUDIO, INC.
Dollars in Thousands
<TABLE>
<CAPTION>
Ferris, Baker Watts, Inc. ACTUAL ACTUAL EXPECTED FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 2,500 2,500 2,500 2,500 2,500
Marketable Securities 0 0 3,480 3,386 7,005 9,765 12,596
Accounts Receivable 9,510 8,615 5,532 7,317 7,560 7,965 8,279
Inventory 7,899 11,087 9,506 10,784 10,686 10,991 11,458
Income Tax Recoverable 53 139 0 0 0 0 0
Current Deferred Taxes 784 925 0 0 0 0 0
Other Current Assets 672 565 1,750 1,650 1,800 1,900 2,000
------- ------- ------- ------- ------- ------- -------
TOTAL CURRENT ASSETS 19,340 21,765 22,768 25,637 29,551 33,121 36,833
Plant & Equipment 4,299 4,727 6,191 6,270 6,170 6,070 5,970
Notes Receivable 226 260 0 0 0 0 0
Deferred Taxes 750 1,170 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
=======================================================================================================================
TOTAL ASSETS 24,997 28,570 28,959 31,907 35,721 39,191 42,803
=======================================================================================================================
Bank Overdraft 44 0 0 0 0 0 0
Current Portion LTD 400 400 0 0 0 0 0
Accounts Payable 2,758 5,135 4,956 5,189 5,192 5,187 5,407
Accrued Expenses 2,302 2,529 2,391 2,342 3,160 3,343 3,463
Current Portion of accr. Prd. Liability 267 512 543 580 638 702 772
------- ------- ------- ------- ------- ------- -------
TOTAL CURRENT LIABS 5,772 8,576 7,890 8,111 8,990 9,232 9,642
Senior Long-Term Debt 2,347 200 0 0 0 0 0
Accrued product warranty 335 424 480 490 539 593 652
Other 0 15 0 0 0 0 0
------- ------- ------- ------- ------- ------- -------
TOTAL SENIOR LIABS 8,453 9,215 8,370 8,601 9,529 9,825 10,294
TOTAL LIABILITIES 8,453 9,215 8,370 8,601 9,529 9,825 10,294
Common Stock 18 18 18 18 18 18 18
Addtl Paid in Capital 1,586 1,751 1,756 1,756 1,756 1,756 1,756
Retained Earnings 15,786 18,529 19,757 22,474 25,360 28,534 31,677
(Foreign Curr. Translation Adj.) 25 2 0 0 0 0 0
(Notes Receivable-Stock Options) 822 942 942 942 942 942 942
------- ------- ------- ------- ------- ------- -------
COMMON EQUITY 16,544 19,354 20,589 23,307 26,192 29,367 32,509
------- ------- ------- ------- ------- ------- -------
NET WORTH 16,544 19,354 20,589 23,307 26,192 29,367 32,509
=======================================================================================================================
TOTAL LIAB & NET WORTH 24,997 28,569 28,959 31,908 35,721 39,192 42,803
=======================================================================================================================
</TABLE>
<PAGE> 11
NOPAT OPERATING APPROACH
POLK AUDIO, INC.
Dollars in Thousands
<TABLE>
<CAPTION>
Ferris, Baker Watts, Inc. ACTUAL ACTUAL EXPECTED FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Sales 54,416 54,153 72,356 81,000 83,980 88,426 91,866
Cost of Goods Sold 31,349 33,020 43,810 50,652 51,923 54,598 56,914
General and administrative 21,455 19,351 4,645 4,820 5,109 5,416 5,741
Marketing & Advertising 0 0 14,776 16,687 17,246 17,988 18,706
Research & Development 0 0 2,774 3,000 3,350 3,525 3,687
Other Expense 0 0 848 1,350 1,600 1,700 1,700
------- ------- ------- ------- ------- ------- -------
Total Operating Expenses N/A 52,371 66,853 76,509 79,228 83,227 86,748
Other Income 17 404 0 0 0 0 0
------- ------- ------- ------- ------- ------- -------
ADJUSTED EBIT N/A 2,186 5,503 4,491 4,752 5,199 5,118
CASH OPERATING TAX N/A 1,355 2,412 1,843 1,952 2,135 2,103
=============================================================================================================
NOPAT N/A 831 3,091 2,648 2,800 3,064 3,015
=============================================================================================================
</TABLE>
<PAGE> 12
CAPITAL - OPERATING APPROACH
POLK AUDIO, INC.
Dollars in Thousands
<TABLE>
<CAPTION>
Ferris, Baker Watts, Inc. ACTUAL ACTUAL EXPECTED FORECAST FORECAST FORECAST FORECAST
March 1997 1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Operating Cash 422 434 2,500 2,500 2,500 2,500 2,500
Net Accts Receivable 9,510 8,615 5,532 7,317 7,560 7,965 8,279
Net Inventory 7,899 11,087 9,506 10,784 10,686 10,991 11,458
Other Current Assets 1,509 1,629 1,750 1,650 1,800 1,900 2,000
------- ------- ------- ------- ------- ------- -------
Current Operating Assets 19,340 21,765 19,288 22,251 22,546 23,356 24,237
Accounts Payable 2,758 5,135 4,956 5,189 5,192 5,187 5,407
Accrued Expenses 2,302 2,529 2,391 2,342 3,160 3,343 3,463
Current Portion of accr. Prd. Liability 267 512 543 580 638 702 772
------- ------- ------- ------- ------- ------- -------
NIBCLs 5,328 8,176 7,890 8,111 8,990 9,232 9,642
NET WORKING CAPITAL 14,012 13,589 11,398 14,140 13,556 14,124 14,595
Net Prop Plant & Equip 4,299 4,727 6,191 6,270 6,170 6,070 5,970
Notes Receivable 226 260 0 0 0 0 0
Deposits and Other Assets 383 648 0 0 0 0 0
Other 0 (15) 0 0 0 0 0
------- ------- ------- ------- ------- ------- -------
OTHER ASSETS 609 893 0 0 0 0 0
=========================================================================================================================
CAPITAL 18,920 19,209 17,589 20,410 19,726 20,194 20,565
=========================================================================================================================
</TABLE>
<PAGE> 13
FREE CASH FLOW VALUATION
POLK AUDIO, INC.
Dollars in Thousands
<TABLE>
<CAPTION>
Ferris, Baker Watts, Inc.
NOPAT - INV PV FACTOR X FCF
1 PRESENT VALUE
YEAR NOPAT INVESTMENT FCF PV FACTOR OF FCF
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
2000 2,648 2,821 (173) 0.9294 (161)
2001 2,800 (684) 3,484 0.8027 2,797
2002 3,064 468 2,596 0.6933 1,800
2003 3,015 371 2,644 0.5988 1,583
2004 & BEYOND 3,070 3 0 3,070 2 3.7946 11,649
<CAPTION>
<C> <C>
INTRINSIC OPERATING VALUE 17,668
Marketable Securities 5,264
----------------
INTRINSIC TOTAL VALUE 22,932
Other Liabilities 1,023
----------------
INTRINSIC COMMON EQUITY VALUE 21,909
Number of Shares Outstanding 2,017
INTRINSIC SHARE VALUE $10.86
------------------------------------------------
(1) Cash flows discounted from mid-year
(2) Present Value of $1 in perpetuity beginning in 2004
(3) NOPAT increases by $55.4 based on a return of 14.93% on
2003 investment of $371.0
</TABLE>
<PAGE> 14
COST OF CAPITAL
POLK AUDIO, INC.
<TABLE>
<S> <C> <C> <C>
= WEIGHTED AVERAGE + WEIGHTED AVERAGE
COST OF DEBT COST OF EQUITY
= INCREMENTAL BORROWING + RISK FREE + EQUITY RISK + SMALL CAP. + CO. SPECIFIC
COST X (1-TAX RATE) RATE PREMIUM PREMIUM RISK
= (6.88% X (1-40.0%)) + 5.57% + (7.8% X 0.63) + 3.3% + 2.0%
DEBT EQUITY
WEIGHTING = 0% WEIGHTING = 100%
= 0% + 15.78%
= 15.78%
</TABLE>
<PAGE> 15
COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
------------------------------------
MARKET
DATA
------------------------------------
Fiscal Four Stock Shares Market
Year Quarters Price Out. Value
Ticker End Ended 3/19/99 (000's) ($000's)
- --------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Koss Corporation KOSS 6/30 12/31/98 11.50 3,180 36,570
Phoenix Gold International, Inc. PGLD 9/30 12/31/98 2.50 3,250 8,125
- --------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------
POLK AUDIO, INC. PKA 3/31 12/27/98 9.75 1,849 18,028
- --------------------------------------------------------------------------------------------------------------
<CAPTION>
---------------------------------------------------------------------------------------------
FINANCIAL DATA
(TRAILING FOUR QUARTERS, IN $ THOUSANDS)
---------------------------------------------------------------------------------------------
Net Total Total Common Total
Revenues EBIT (1) Income Assets Debt (2) Equity Capital (3)
- -----------------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Koss Corporation 35,922 7,719 5,317 29,655 0 24,960 27,760
Phoenix Gold International, Inc. 27,092 (614) (569) 14,800 1,105 10,347 11,452
- -----------------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 75,848 6,305 3,389 26,344 0 19,783 20,243
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Earnings Before Interest and Taxes.
(2) Total Debt includes Current Portion of Long Term Debt.
(3) Includes Total Debt, Common and Preferred Equity, Other Liabilities and
Deferred Taxes.
<PAGE> 16
COMPARABLE COMPANY ANALYSIS
<TABLE>
<CAPTION>
------------------------------------------------------------
MARGIN PROFITABILITY RATIOS
ANALYSIS
------------------------------------------------------------
Return on NOPAT/ Return on
EBIT Net Common Ending Total
Company Margin Margin Equity Capital(4) Assets
- ---------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Koss Corporation 21.5% 14.8% 21.3% 16.7% 17.9%
Phoenix Gold International, Inc. -2.3% -2.1% -5.5% -3.2% -3.8%
- ---------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------
AVERAGE 9.6% 6.4% 7.9% 6.7% 7.0%
- ---------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 8.3% 4.5% 17.1% 18.7% 12.9%
- ---------------------------------------------------------------------------------------------------
<CAPTION>
------------------------------------------------------------
Liquidity & Leverage Valuation Ratios
------------------------------------------------------------
Total Total
Debt/ Debt/ Net Mkt. Mkt. Val.
Current Common Total Capital(5) to Earnings
Company Ratio Equity Capital to EBIT (P/E)
- ------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Koss Corporation 14.1 0.0% 0.0% 4.7 6.9
Phoenix Gold International, Inc. 3.3 10.7% 9.6% NM NM
- ------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------
AVERAGE 8.7 5.3% 4.8% 4.7 6.9
- ------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------
POLK AUDIO, INC. 3.3 0.0% 0.0% 2.4 5.3
- ------------------------------------------------------------------------------------------------
<CAPTION>
----------------------------------------------
VALUATION RATIOS
----------------------------------------------
Mkt. Val.
Mtk Val. to Book Ent. Val.
to Exp Earn Value to
Company 1999 2000 (Equity) Revenues
- ----------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Koss Corporation 8.6 NA 1.5 1.0
Phoenix Gold International, Inc. 8.3 5.6 0.8 0.3
- ----------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------
AVERAGE 8.5 5.6 1.1 0.7
- ----------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------
POLK AUDIO, INC. 6.7 6.6 0.9 0.2
- ----------------------------------------------------------------------------------
</TABLE>
(4) NOPAT = net operating profit after tax (EBIT x (1-40% tax rate)); NOPAT can
be compared directly to the firm's after-tax cost of capital to determine if
a firm is earning its cost of capital.
(5) Market Value Common and Preferred Equity plus Debt less Cash.
<PAGE> 17
Implied Valuation Analysis
<TABLE>
<CAPTION>
IMPLIED IMPLIED
AVERAGE POLK EQUITY NUMBER PER SHARE
MULTIPLE RESULTS VALUE OF SHARES VALUE
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Market Capital/EBIT 4.7 6,305 29,853 1,849 16.15
P/E 6.9 3,389 23,309 1,849 12.61
Fwd P/E '99 8.5 2,698 22,815 1,849 12.34
Fwd P/E '00 5.6 2,717 15,095 1,849 8.16
Mkt. Val. to Book 1.1 19,783 22,260 1,849 12.04
Ent. Val. to Revenues 0.7 75,848 51,528 1,849 27.87
</TABLE>
<PAGE> 18
QUARTERLY FINANCIAL DATA
FISCAL YEARS ENDED MARCH
<TABLE>
<CAPTION>
1998
------------------------------------------------------------
Q1 A Q2 A Q3 A Q4 A TOTAL
---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C>
Total sales $9,752 $10,275 $12,953 $21,174 $54,153
Cost of goods sold 5,977 6,480 7,823 12,741 33,021
----- ----- ----- ------ ------
Gross profit 3,775 3,795 5,130 8,433 21,133
38.71% 36.93% 39.60% 39.83% 39.02%
General and administrative 1,072 971 1,003 1,100 4,146
Marketing and advertising 2,719 2,728 3,027 4,244 12,718
Research and development 557 543 498 551 2,149
Contingency reserve 0 0 0 0 0
Incentive compensation 29 29 30 250 338
-- -- -- --- ---
Net operating profit (602) (476) 572 2,288 1,782
-6.17% -4.63% 4.41% 10.80% 3.29%
Interest expense 37 65 86 70 258
Interest and other 14 2 (6) (10) 0
Royalty income 35 136 145 108 424
-- --- --- --- ---
Income before taxes (589) (403) 624 2,316 1,948
-6.04% -3.92% 4.82% 10.94% 3.60%
Income tax provision (241) (165) 253 995 842
----- ----- --- --- ---
Net income (348) (238) 371 1,321 1,106
-3.57% -2.31% 2.87% 6.24% 2.04%
Shares outstanding 1,823 1,843 1,849 1,849 1,849
Earnings per share (0.19) (0.13) 0.20 0.71 0.60
<CAPTION>
1999
--------------------------------------------------------
Q1 A Q2 A Q3 A Q4 E TOTAL
---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C>
Total sales $18,337 $18,414 $18,365 $17,240 $72,356
Cost of goods sold 11,066 11,089 11,110 10,545 43,810
------ ------ ------ ------ ------
Gross profit 7,271 7,325 7,255 6,695 28,546
39.65% 39.78% 39.50% 38.83% 39.45%
General and administrative 1,118 1,107 1,270 1,150 4,645
Marketing and advertising 4,024 3,668 3,515 3,569 14,776
Research and development 552 682 847 693 2,774
Contingency reserve 0 0 0 100 100
Incentive compensation 266 146 216 120 748
--- --- --- --- ---
Net operating profit 1,311 1,722 1,407 1,063 5,503
7.15% 9.35% 7.66% 6.17% 7.61%
Interest expense 22 20 12 0 54
Interest and other 14 (232) (387) 15 (590)
Royalty income 0 0 0 0 0
- - - - -
Income before taxes 1,303 1,470 1,008 1,078 4,859
7.11% 7.98% 5.49% 6.25% 6.72%
Income tax provision 535 617 578 431 2,161
--- --- --- --- -----
Net income 768 853 430 647 2,698
4.19% 4.63% 2.34% 3.75% 3.73%
Shares outstanding 1,849 1,849 1,849 1,849 1,849
Earnings per share 0.42 0.46 0.23 0.35 1.46
Royalty income in Fiscal 1999 has been reclassified to be part of Total sales.
</TABLE>
<PAGE> 19
TRADING SUMMARY
THE FOLLOWING DATA POINTS ARE REPRESENTATIVE OF THE
HISTORICAL STOCK PRICE PERFORMANCE
<TABLE>
<CAPTION>
DATE PRICE VOLUME
---- ----- ------
<S> <C> <C>
Dec. 1, 1995 9.58 4,700
Jan. 2, 1996 9.75 300
March 19, 1996 8.00 600
April 16, 1996 8.63 2,200
April 18, 1996 9.50 600
May 20, 1996 14.75 400
July 1, 1996 14.25 1,100
Aug. 5, 1996 11.94 0
Sept. 24, 1996 10.88 1,000
Oct. 24, 1996 13.25 3,600
Nov. 19, 1996 10.88 2,100
Dec. 6, 1996 9.88 1,500
Jan 20, 1997 12.38 1,500
March 10, 1997 10.31 0
March 27, 1997 9.13 1,300
April 8, 1997 8.13 6,300
June 25, 1997 9.56 0
June 30, 1997 9.88 1,300
July 3, 1997 9.88 0
Sept. 26, 1997 8.19 0
Oct. 3, 1997 8.00 1,000
Oct. 10, 1997 8.44 0
Dec. 23, 1997 10.63 7,700
Jan. 27, 1998 9.06 3,100
Jan. 29, 1998 9.50 900
March 31, 1998 11.88 1,200
April 24, 1998 11.00 2,000
May 1, 1998 11.75 400
May 5, 1998 17.75 71,000
May 18, 1998 16.06 1,600
July 16, 1998 20.00 19,000
Aug. 3, 1998 15.50 600
Sept. 2, 1998 12.38 4,200
Sept. 30, 1998 10.38 0
Oct. 1, 1998 10.38 0
Dec. 18, 1998 16.25 3,300
Dec. 23, 1998 16.25 600
Jan 6, 1999 17.25 11,500
March 11, 1999 9.88 1,500
March 22, 1999 11.25 10,100
</TABLE>
Trading Range: $8.00 to $20.00
Average Daily Volume: 3,374
<PAGE> 20
LIST OF INFORMATION REVIEWED
- - Annual reports for the fiscal years 1998, 1997, 1996, 1995, and 1994
- - Form 10-K for the fiscal years 1998, 1997, 1996, 1995, and 1994
- - Proxy statements for the fiscal years 1998, 1997, 1996, 1995, and 1994
- - Form 10-Q for the periods ended December 27, 1998, September 27, 1998, June
28, 1998, December 28, 1997, September 28, 1997, June 29, 1997, December 29,
1996, September 29, 1996, June 30, 1996, December 31, 1995, October 1, 1995,
July 2, 1995, December 25, 1994, September 24, 1994, and June 26, 1994.
- - Form 8-K dated December 31, 1997, December 23, 1997, August 8, 1997, July
21, 1997, and December 18, 1995.
- - Fiscal 1999 Budget/Profit plan
- - Projections for fiscal 1999 through 2003
- - Summary of stockholders as of November 3, 1998
- - Summary of outstanding stock options
- - Product literature
- - Press releases from May 29, 1992 through January 20, 1999
- - MCM Capital Partners, LP letter dated September 30, 1998
- - Drafts of the proxy materials to be filed with the SEC in connection with
the Transaction.
