UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended October 31, 1998
or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from ____________________ to
____________________
Commission File Number: 0-15827
SHARPER IMAGE CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 94-2493558
(State of Incorporation) (I.R.S. Employer Identification No.)
650 Davis Street, San Francisco, California 94111
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (415) 445-6000
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
Common Stock, as of the latest practicable date.
Common Stock, $0.01 par value, 8,671,200 shares as of December 9, 1998
1
<PAGE>
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
<TABLE>
SHARPER IMAGE CORPORATION
CONDENSED BALANCE SHEETS
<CAPTION>
October 31, January 31, October 31,
1998 1998 1997
Dollars in thousands, except per share amounts (Unaudited) (Note A) (Unaudited)
----------- -------- -----------
<S> <C> <C> <C>
ASSETS
Current Assets:
Cash and equivalents $ 711 $ 3,501 $ 547
Accounts receivable, net of allowance for doubtful
accounts of $902, $508 and $493 7,673 8,189 6,957
Merchandise inventories 35,670 34,534 38,496
Deferred catalog costs 7,000 4,982 6,794
Prepaid expenses and other 7,099 3,429 9,014
------- ------- -------
Total Current Assets 58,153 54,635 61,808
Property and equipment, net 20,947 20,842 19,786
Deferred taxes and other assets 3,380 3,185 3,626
------- ------- -------
Total Assets $82,480 $78,662 $85,220
======= ======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable and accrued expenses $32,611 $35,271 $36,471
Deferred revenue 6,170 6,784 6,469
Current portion of notes payable 799 947 942
------- ------- -------
Total Current Liabilities 39,580 43,002 43,882
Revolving loan 12,587 -- 11,247
Notes payable 2,548 3,299 3,538
Other liabilities 3,101 3,205 3,267
------- ------- -------
Total Liabilities 57,816 49,506 61,934
------- ------- -------
Stockholders' Equity:
Preferred stock, $0.01 par value:
Authorized 3,000,000 shares: Issued and outstanding, none -- -- --
Common stock, $0.01 par value:
Authorized 25,000,000 shares: Issued and outstanding,
8,529,750, 8,356,280 and 8,342,640 shares 85 83 83
Additional paid-in capital 10,043 9,704 9,718
Retained earnings 14,536 19,369 13,485
------- ------- -------
Total Stockholders' Equity 24,664 29,156 23,286
------- ------- -------
Total Liabilities and Stockholders' Equity $82,480 $78,662 $85,220
======= ======= =======
<FN>
See notes to financial statements.
</FN>
</TABLE>
2
<PAGE>
<TABLE>
SHARPER IMAGE CORPORATION
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
<CAPTION>
Three Months Ended Nine Months Ended
Dollars in thousands, except per share amounts October 31, October 31,
------------------------------ ------------------------------
1998 1997 1998 1997
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
REVENUES:
Sales $ 48,500 $ 46,569 $ 148,976 $ 136,552
Less: returns and allowances 5,946 5,956 17,971 17,078
----------- ----------- ----------- -----------
Net Sales 42,554 40,613 131,005 119,474
Other revenue 401 493 1,233 1,245
----------- ----------- ----------- -----------
42,955 41,106 132,238 120,719
----------- ----------- ----------- -----------
COST AND EXPENSES:
Cost of products 22,404 22,115 68,927 65,150
Buying and occupancy 6,397 5,946 18,995 17,436
Advertising and promotion 4,906 4,036 16,322 12,297
General, selling, and administrative 12,285 11,429 36,314 34,189
----------- ----------- ----------- -----------
45,992 43,526 140,558 129,072
----------- ----------- ----------- -----------
OPERATING LOSS (3,037) (2,420) (8,320) (8,353)
OTHER INCOME (EXPENSE):
Interest expense, net (242) (228) (589) (412)
Other income, net 845 30 854 50
----------- ----------- ----------- -----------
603 (198) 265 (362)
----------- ----------- ----------- -----------
Loss Before Income Tax Benefit (2,434) (2,618) (8,055) (8,715)
Income Tax Benefit (974) (1,047) (3,222) (3,486)
----------- ----------- ----------- -----------
Net Loss $ (1,460) $ (1,571) $ (4,833) $ (5,229)
=========== =========== =========== ===========
Net Loss Per Share, basic and diluted $ (0.17) $ (0.19) $ (0.57) $ (0.63)
=========== =========== =========== ===========
Weighted Average Number of Shares,
basic and diluted 8,529,750 8,319,688 8,473,419 8,286,854
<FN>
See notes to financial statements.
</FN>
</TABLE>
3
<PAGE>
<TABLE>
SHARPER IMAGE CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS
<CAPTION>
(Unaudited) Nine Months Ended
October 31,
----------------------------
Dollars in thousands 1998 1997
-------- --------
<S> <C> <C>
Cash was Provided by (Used for) Operating Activities:
Net loss $ (4,833) $ (5,229)
Adjustments to reconcile net loss to net cash used for operations:
Depreciation and amortization 3,528 5,104
Deferred rent expense 57 128
Deferred income taxes (3,222) (3,486)
Gain on sale of equipment (840) --
Changes in:
Merchandise inventories (1,136) (11,131)
Accounts receivable 516 (1,042)
Deferred catalog costs, prepaid expenses and other (2,661) (4,309)
Accounts payable and accrued expenses (2,629) (182)
Deferred revenue and other liabilities (775) 1,078
-------- --------
Cash Used for Operating Activities (11,995) (19,069)
-------- --------
Cash was Provided by (Used for) Investing Activities:
Property and equipment expenditures (5,115) (1,935)
Proceeds from sale of equipment 2,291 57
-------- --------
Cash Used for Investing Activities (2,824) (1,878)
-------- --------
Cash was Provided by (Used for) Financing Activities:
Proceeds from revolving loan 42,614 19,497
Payments on revolving loan (30,027) (8,250)
Issuance of common stock for stock options, net of repurchases 341 66
Principal payments on notes payable (899) (692)
-------- --------
Cash Provided by Financing Activities 12,029 10,621
-------- --------
Net Decrease in Cash and Equivalents (2,790) (10,326)
-------- --------
Cash and Equivalents at Beginning of Period 3,501 10,873
-------- --------
Cash and Equivalents at End of Period $ 711 $ 547
======== ========
Supplemental Disclosure of Cash Paid for:
Interest $ 557 $ 463
Income Taxes $ -- $ 409
<FN>
See notes to financial statements.
</FN>
</TABLE>
4
<PAGE>
SHARPER IMAGE CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
Three-month and nine-month periods ended October 31, 1998 and 1997
(Unaudited)
NOTE A - Financial Statements
The condensed balance sheets at October 31, 1998 and 1997, and the related
condensed statements of operations and cash flows for the three-month and
nine-month periods ended October 31, 1998 and 1997 have been prepared by the
Company, without audit. In the opinion of management, all adjustments (which
include only normal recurring adjustments) necessary to present fairly the
financial position, results of operations and cash flows at October 31, 1998 and
1997, and for all periods presented, have been made.
The Company's business is highly seasonal, reflecting the general pattern
associated with the retail industry of peak sales and earnings during the
Christmas season. The secondary peak period for the Company is June, reflecting
the gifting for Father's Day and graduations. A substantial portion of the
Company's total revenues and all or most of the Company's net earnings occur in
the fourth quarter ending January 31. The Company generally experiences lower
revenues and earnings during the other quarters and, as is typical in the retail
industry, has incurred and may continue to incur losses in these quarters. The
results of operations for these interim periods are not necessarily indicative
of the results for the full fiscal year.
The balance sheet at January 31, 1998, presented herein, has been derived from
the audited balance sheet of the Company.
Certain information and disclosures normally included in the notes to the annual
financial statements prepared in accordance with generally accepted accounting
principles have been omitted from these interim financial statements.
Accordingly, these interim financial statements should be read in conjunction
with the financial statements and notes thereto included in the Company's 1997
Annual Report.
NOTE B- Revolving Loan and Notes Payable
The Company has a revolving secured credit facility with The CIT Group/Business
Credit, Inc. (CIT) which expires September 2003. The credit facility has been
amended on several occasions and, as of October 31, 1998, the agreement allows
Company borrowings and letters of credit up to a maximum of $28 million for the
period from October 1, 1998 through December 31, 1998, and $20 million for other
times of the year based on inventory levels. The credit facility is secured by
the Company's inventory, accounts receivable, general intangibles and certain
other assets. Borrowings under this facility bear interest at either prime plus
0.25% per annum or at LIBOR plus 2.25% per annum based on financial performance.
The credit facility contains certain financial covenants pertaining to interest
coverage ratio and net worth and contains limitations on operating leases, other
borrowings, dividend payments and stock repurchases. For the three-month and
nine-month periods ended October 31, 1998, the Company was in compliance with
all covenants. At October 31, 1998, the Company had $12.6 million outstanding on
its revolving credit facility. Letter of credit commitments outstanding under
the credit facility were $7.8 million.
5
<PAGE>
In addition, the credit facility provides for term loans for capital
expenditures (Term Loans) up to an aggregate of $4.5 million. Amounts borrowed
under the Term Loans bear interest at a variable rate of either prime plus 0.50%
per annum or at LIBOR plus 2.50% per annum based on financial performance. Each
Term Loan is to be repaid in 36 equal monthly principal installments. At October
31, 1998, notes payable included a $0.7 million Term Loan which bears interest
at a variable rate of prime plus 0.50%, provides for monthly principal payments
of $55,555 plus the related interest payment, and matures in October 1999.
At October 31, 1998, notes payable also included a $2.7 million mortgage loan
collateralized by certain property. In connection with the expansion of the
Company's distribution center in 1995, the Company refinanced the mortgage loan.
This note bears interest at a fixed rate of 8.40%, provides for monthly payments
of principal and interest in the amount of $29,367, and matures in January 2011.
NOTE C - Commitments and Contingencies
The Company is party to various legal proceedings arising from normal business
activities. Management believes that the resolution of these matters will not
have a material effect on the Company's financial position or results of
operations.
NOTE D - New Accounting Standards
In April 1998, the Accounting Standards Executive Committee issued Statement of
Position (SOP) 98-5, Reporting on the Costs of Start-Up Activities, which
requires costs of start-up activities and organization costs to be expensed as
incurred. The SOP requires entities to expense as incurred all start-up and
preopening costs that are not otherwise capitalizable as long-lived assets. The
SOP will be effective for fiscal years beginning after December 15, 1998. The
Company's adoption of the new accounting standard will involve the recognition
of the cumulative effect, if any, of the change in accounting principle required
by the SOP as a one-time charge against earnings, net of any related income tax
effect, retroactive to the beginning of the fiscal year of adoption. The Company
is in the process of assessing the effect, if any, of this statement.
Effective February 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income." This Statement
requires that all items recognized under accounting standards as components of
comprehensive income be reported in an annual financial statement that is
displayed with the same prominence as other annual financial statements. This
Statement also requires that an entity classify items of other comprehensive
income by their nature in an annual financial statement. For example, other
comprehensive income may include foreign currency translation adjustments,
minimum pension liability adjustments, and unrealized gains and losses on
marketable securities classified as available-for-sale. Comprehensive income
does not differ from net income for the Company for the three and nine months
ended October 31, 1998 and 1997.
NOTE E - Reclassifications
Certain reclassifications have been made to prior periods' financial statements
in order to conform with current period classifications.
6
<PAGE>
INDEPENDENT ACCOUNTANTS REVIEW REPORT
The condensed balance sheets of the Company as of October 31, 1998 and 1997 and
the related condensed statements of operations for the three-month and
nine-month periods then ended and cash flows for the nine-month periods then
ended have been reviewed by the Company's independent accountants, Deloitte &
Touche LLP, whose report covering their review of the financial statements is
presented herein.
7
<PAGE>
[Deloitte & Touche LLP Letterhead]
INDEPENDENT ACCOUNTANT'S REPORT
Board of Directors
Sharper Image Corporation
San Francisco, California
We have reviewed the accompanying condensed balance sheets of Sharper Image
Corporation as of October 31, 1998 and 1997, and the related condensed
statements of operations for the three-month and nine-month periods then ended
and cash flows for the nine-month periods then ended. These financial statements
are the responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with generally accepted auditing standards, the objective of which is
the expression of an opinion regarding the financial statements taken as a
whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to the accompanying condensed financial statements for them to be in
conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the balance sheet of Sharper Image Corporation as of January 31,
1998, and the related statements of operations, stockholders' equity and cash
flows for the year then ended (not presented herein); and in our report dated
March 25, 1998, we expressed an unqualified opinion on those financial
statements. In our opinion, the information set forth in the accompanying
condensed balance sheet as of January 31, 1998 is fairly stated, in all material
respects, in relation to the balance sheet from which it has been derived.
/s/ Deloitte & Touche LLP
December 9, 1998
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
RESULTS OF OPERATIONS
<TABLE>
The following table is derived from the Company's Statements of Operations and
shows the results of operations for the periods indicated as a percentage of
total revenues.
<CAPTION>
Percentage of Total Revenues
-----------------------------------------------------------
Three Months Ended Nine Months Ended
October 31, October 31,
----------------------- -----------------------
1998 1997 1998 1997
----- ----- ----- -----
<S> <C> <C> <C> <C>
Revenues:
Net store sales 65.5% 69.4% 67.1% 70.7%
Net catalog sales 29.4 25.8 30.1 26.3
Net wholesale sales 4.2 3.6 1.9 2.0
Other revenue 0.9 1.2 0.9 1.0
----- ----- ----- -----
Total Revenues 100.0% 100.0% 100.0% 100.0%
Costs and Expenses:
Cost of products 52.2 53.8 52.1 54.0
Buying and occupancy 14.9 14.5 14.4 14.4
Advertising and promotion 11.4 9.8 12.3 10.2
General, selling and administrative 28.6 27.8 27.5 28.3
Other Expense/(Income) (1.4) 0.5 (0.2) 0.3
----- ----- ----- -----
Loss Before Income Tax Benefit (5.7) (6.4) (6.1) (7.2)
Income Tax Benefit (2.3) (2.6) (2.4) (2.9)
----- ----- ----- -----
Net Loss (3.4)% (3.8)% (3.7)% (4.3)%
===== ===== ===== =====
</TABLE>
9
<PAGE>
Revenues
Net sales for the three-month and nine-month periods ended October 31, 1998,
increased $1,941,000, or 4.8%, and $11,531,000, or 9.7%, from the comparable
periods of the prior year. Returns and allowances for the three-month and
nine-month periods ended October 31, 1998, were 12.3% and 12.1% of sales, as
compared with 12.8% and 12.5% of sales for the comparable prior year periods.
For the three-month period ended October 31, 1998, as compared with the same
period last year, net store sales decreased $381,000, or 1.3%. For the
nine-month period ended October 31, 1998 as compared with the same period last
year, net store sales increased $3,464,000, or 4.1%. For the three-month and
nine-month periods ended October 31, 1998, comparable store sales remained the
same and increased 3.1%, respectively, as compared with the same periods last
year. The decrease in net store sales for the three-month period ended October
31, 1998 as compared with the same prior year period reflects a 1.9% decrease in
average revenue per transaction, which was partially offset by a 0.5% increase
in total store transactions. The decrease in net store sales for the fiscal
quarter ended October 31, 1998 is also attributable to the remodeling of several
key stores, during which time period only a portion of each of the remodeled
stores was open for business. For the nine-months ended October 31, 1998, total
store transactions increased 2.8% with a 1.1% increase in average revenue per
transaction, compared with the same prior year period. The increase in net store
sales for the nine-month period ended October 31, 1998 is also attributable to
the opening of five new stores since October 31, 1997, partially offset by three
stores that closed during that same period, and lower sales resulting from the
remodeling of several key stores.
For the three-month and nine-month periods ended October 31, 1998, net catalog
sales increased $2,018,000 or 19.0%, and $7,988,000 or 25.1%, respectively, as
compared with the same periods last year. The increase in net catalog sales for
the three-month and nine-month periods ended October 31, 1998 reflects an
increase of 22.4% and 37.0%, respectively, in total catalog orders, partially
offset by a 2.8% and 8.6% decrease in average revenue per order, compared to the
same prior year periods. The increase in net catalog sales is due to increases
in sales for both The Sharper Image and The Sharper Image Home Collection
catalogs. In addition, the increase in net catalog sales reflects an increase in
sales from the Company's Internet site, sharperimage.com.
The increase in net sales also reflects the emphasis and the increase in sales
of the Company's Sharper Image Design proprietary products.
Cost of Products
Cost of products for the three-month and nine-month periods ended October 31,
1998 increased $289,000, or 1.3%, and $3,777,000, or 5.8%, from the comparable
prior year periods. The increase in cost of products is due to the higher sales
volume compared to the same periods last year. The gross margin rate for the
three-month and nine-month periods ended October 31, 1998 was 47.4% which was
1.9 percentage points better than the comparable prior period. The higher gross
margin rate reflects an increase in sales of the Sharper Image Design
proprietary products, which generally have higher margins.
Buying and Occupancy
Buying and occupancy costs for the three-month and nine-month periods ended
October 31, 1998 increased $451,000, or 7.6%, and $1,559,000, or 9.0%,
respectively, from the comparable prior year periods. The increase primarily
reflects the occupancy costs associated with the five new stores opened
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<PAGE>
since October 31, 1997, which was partially offset by the elimination of the
occupancy costs of the three Sharper Image stores closed during that same
period.
Advertising and Promotion Expenses
Advertising and promotion expenses for the three-month and nine-month periods
ended October 31, 1998 increased $870,000, or 21.6%, and $4,025,000, or 32.7%,
respectively, from the comparable prior year periods. The increase in
advertising and promotion expenses for the three-month period ended October 31,
1998 reflects an 8.1% increase in pages circulated for The Sharper Image
catalog, including a 6.6% increase in circulation, an increase in catalog paper
prices as compared with the prior year, and higher other advertising costs. The
increase in advertising and promotion expenses for the nine-month period ended
October 31, 1998 reflects a 13.4% increase in pages circulated for The Sharper
Image catalog, including a 6.6% increase in circulation, an increase in catalog
paper prices as compared with the prior year, and higher other advertising costs
associated with the introduction of new products.
General, Selling and Administrative Expenses
General, selling and administrative expenses for the three-month and nine-month
periods ended October 31, 1998 increased $856,000, or 7.5%, and $2,125,000, or
6.2%, respectively, from the comparable prior year periods. The increase was
primarily due to increases in overall selling expenses related to the increase
in net sales.
Other Income (Expense)
Other income, net, for the three-month and nine-month periods ended October 31,
1998, increased $815,000 and $804,000 from the comparable prior year periods,
reflecting the gain on sale of certain equipment.
Liquidity and Capital Resources
The Company met its short-term liquidity needs and its capital requirements in
the nine-month period ended October 31, 1998 with available cash, trade credit,
and borrowings under the credit facility. During the nine-month period ended
October 31, 1998, the Company's cash decreased by $2,790,000 to $711,000
primarily due to the funding of working capital and capital expenditures for new
and remodeled stores.
The Company has a revolving secured credit facility with The CIT Group/Business
Credit, Inc. (CIT) which expires September 2003. The credit facility has been
amended on several occasions and, as of October 31, 1998, the agreement allows
Company borrowings and letters of credit up to a maximum of $28 million for the
period from October 1, 1998 through December 31, 1998, and $20 million for other
times of the year based on inventory levels. The credit facility is secured by
the Company's inventory, accounts receivable, general intangibles and certain
other assets. Borrowings under this facility bear interest at either prime plus
0.25% per annum or at LIBOR plus 2.25% per annum based on financial performance.
The credit facility contains certain financial covenants pertaining to interest
coverage ratio and net worth and contains limitations on operating leases, other
borrowings, dividend payments and stock repurchases. For the three-month and
nine-month periods ended October 31, 1998, the Company was in compliance with
all covenants. At October 31, 1998, the Company had $12.6 million outstanding on
its revolving credit facility. Letter of credit commitments outstanding under
the credit facility were $7.8 million.
In addition, the credit facility provides for term loans for capital
expenditures (Term Loans) up to an aggregate of $4.5 million. Amounts borrowed
under the Term Loans bear interest at a variable rate of
11
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either prime plus 0.50% per annum or at LIBOR plus 2.50% per annum based on
financial performance. Each Term Loan is to be repaid in 36 equal monthly
principal installments. At October 31, 1998, notes payable included a $0.7
million Term Loan which bears interest at a variable rate of prime plus 0.50%,
provides for monthly principal payments of $55,555 plus the related interest
payment, and matures in October 1999.
At October 31, 1998, notes payable also included a $2.7 million mortgage loan
collateralized by certain property. In connection with the expansion of the
Company's distribution center in 1995, the Company refinanced the mortgage loan.
This note bears interest at a fixed rate of 8.40%, provides for monthly payments
of principal and interest in the amount of $29,367, and matures in January 2011.
During the nine-month period ended October 31, 1998, the Company closed two
stores located in Escondido, California and Gurnee Mills, Illinois and opened
one new store in Orlando, Florida. Subsequent to October 31, 1998, the Company
opened three new Sharper Image stores located in King of Prussia, Pennsylvania,
West Nyack, New York, and Towson, Maryland. Total capital expenditures estimated
for the new and existing stores, including the remodel of a number of existing
stores, corporate headquarters, and the distribution center for fiscal 1998 are
approximately $7.0 to $8.0 million.
The Company believes it will be able to fund its cash needs for the remainder of
the fiscal year through internally generated cash, trade credit and the credit
facility.
Seasonality
The Company's business is highly seasonal, reflecting the general pattern
associated with the retail industry of peak sales and earnings during the
Christmas season. The secondary peak period for the Company is June, reflecting
the gifting for Father's Day and graduations. A substantial portion of the
Company's total revenues and all or most of the Company's net earnings occur in
the fourth quarter ending January 31. The Company generally experiences lower
revenues and earnings during the other quarters and, as is typical in the retail
industry, has incurred and may continue to incur losses in these quarters. The
results of operations for these interim periods are not necessarily indicative
of the results for the full fiscal year.
Year 2000 Matters
The Company recognizes that the arrival of the year 2000 poses a unique
worldwide challenge to the ability of all systems to recognize the date change
from December 31, 1999 to January 1, 2000. The year 2000 issue could result, at
the Company and elsewhere, in system failures or miscalculations causing
disruptions of operations, including, among other things, a temporary inability
to process transactions or to engage in other normal business activities. The
company has assessed its computer and business processes and is reprogramming
its computer applications to provide for their continued functionality. An
assessment of the readiness of the external entities with which it interfaces is
ongoing.
In 1996, the Company developed a detailed year 2000 Conversion Project Plan
(Plan) to address the methods to correct possible disruptions of operations due
to the year 2000 issue. The Plan took into consideration the following items:
(i) identification and inventorying of hardware, application software, and
equipment utilizing programmable logic chips to control aspects of their
operation, with potential year 2000 problems; (ii) assessment of scope of year
2000 issues for, and assigning priorities to, each item based on its importance
to the Company's operations; (iii) remediation of
12
<PAGE>
year 2000 issues in accordance with assigned priorities, by correction, upgrade,
replacement or retirement; (iv) testing for and validation of year 2000
compliance; and, (v) determination of key vendors and customers and their year
2000 compliance. Because the Company uses a variety of information technology
systems, internally-developed and third-party provided software and embedded
chip equipment, depending upon business function and location, various aspects
of the Company's year 2000 efforts are in different phases and are proceeding in
parallel. At this time, the difficult and time consuming task of identifying and
inventorying hardware and application software with year 2000 issues and
developing specific strategies for compliance has been completed. The assessment
process of internal operating systems is complete, with critical applications
being determined, planned for, and outlined. The Company's main operating system
and hardware have been upgraded for year 2000 compliance, with all critical
application conversion work having begun. This critical conversion work is
scheduled to be tested and installed by January 1999. Non-critical system
conversions have been identified and scheduled for completion by June 1999. This
conversion process encompasses all areas of operations of the Company, from
verification of the year 2000 compliance of the software accounting packages, to
email systems, to telephone systems. Based upon a detailed review and update of
the Plan performed in June 1998, conversion of all critical and non-critical
Company programs are expected to be completed with full implementation by June
1999.
The Company's operations are also dependent on the year 2000 readiness of third
parties that do business with the Company. In particular, the Company's
information technology systems interact with commercial electronic transaction
processing systems to handle customer credit card purchases and other point of
sale transactions, and the Company is dependent on third-party suppliers of such
infrastructure elements as telephone services, electric power, water, and
banking facilities. The Company does not depend to any significant degree on any
single merchandise vendor or upon electronic transaction processing with
individual vendors for merchandise purchases. The Plan includes identifying and
initiating formal communications with key third parties and suppliers and with
significant merchandise vendors to determine the extent to which the Company
will be vulnerable to such parties' failure to resolve their own year 2000
issues. Although the Company has not been put on notice that any known third
party problem will not be resolved, the Company has limited information and no
assurance of additional information concerning the year 2000 readiness of third
parties. The resulting risks to the Company's business are very difficult to
assess.
Through October 31, 1998 the Company has incurred approximately $250,000 on work
related to year 2000 compliance. The estimated cost for this project is between
$500,000 and $1,000,000, and is being funded through operating cash flows. The
total estimated cost for this project includes a provision for the potential
costs associated with third party vendor or supplier failures. Operating costs
related to year 2000 compliance projects will be incurred over several quarters
and will be expensed as incurred.
Based upon the planning and conversions completed to date, the Company believes
that, with modifications to existing software, conversions to new software, and
appropriate remediation of embedded chip equipment, the year 2000 issue is not
reasonably likely to pose significant operational problems for the Company's
information technology systems and embedded chip equipment as so modified and
converted.
The Company is presently unable to assess the likelihood that the Company will
experience operational problems due to unresolved year 2000 problems of third
parties that do business with the
13
<PAGE>
Company. There can be no assurance that other entities will achieve timely year
2000 compliance; if they do not, year 2000 problems could have a material impact
on the Company's operations. Where commercially reasonable to do so, the Company
intends to assess its risks with respect to failure by third parties to be year
2000 compliant and to seek to mitigate those risks. If such mitigation is not
achievable, year 2000 problems could have a material impact on the Company's
operations.
The Company's estimates of the costs of achieving year 2000 compliance and the
date by which year 2000 compliance will be achieved are based on management's
best estimates, which were derived using numerous assumptions about future
events including the continued availability of certain resources, third party
modification plans and other factors. However, there can be no assurance that
these estimates will be achieved, and actual results could differ materially
from these estimates. Specific factors that might cause such material
differences include, but are not limited to, the availability and cost of
personnel trained in year 2000 remediation work, the ability to locate and
correct all computer codes, the success achieved by the Company's suppliers in
reaching year 2000 readiness, the timely availability of necessary replacement
items and similar uncertainties.
The Company presently believes that the most reasonably likely worst-case
scenarios that the Company might confront with respect to year 2000 issues have
to do with third parties not being year 2000 compliant. The Company is presently
evaluating vendor and customer compliance and will develop contingency plans,
such as alternate vendor opportunities, after obtaining compliance evaluations.
The Company timeline is to develop contingency plans by September 1999.
Uncertainties and Risk
The foregoing discussion and analysis should be read in conjunction with the
Company's financial statements and notes thereto included with this report. The
foregoing discussion contains certain forward-looking statements that are
subject to certain risks and uncertainties that could cause actual results to
differ materially from those set forth in such forward-looking statements. Such
risks and uncertainties include, without limitation, risks of changing market
conditions in the overall economy and the retail industry, consumer demand, the
opening of new stores, actual advertising expenditures by the Company, the
success of the Company's advertising and merchandising strategy, availability of
products, transportation of products, unforeseen difficulties arising from the
Company or its vendors, suppliers or customers modifying their information
technology systems, software systems and embedded chip equipment to become year
2000 compliant, and other factors detailed from time to time in the Company's
annual and other reports filed with the Securities and Exchange Commission.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date thereof. The Company undertakes no
obligations to publicly release any revisions to these forward-looking
statements or reflect events or circumstances after the date hereof.
14
<PAGE>
PART II
OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3.1 Certificate of Incorporation. (Incorporated by reference to
Exhibit 3.1 to Registration Statement on Form S-1
(Registration No. 33-12755).)
3.2 Bylaws. (Incorporated by reference to Exhibit 3.2 to
Registration Statement on Form S-1 (Registration No.
33-12755).)
10.1 Amended and Restated Stock Option Plan. (Incorporated by
reference to Registration Statement on Form S-8 filed on
January 19, 1996 (Registration No. 33-3327).)
10.2 1994 Non-Employee Director Stock Option Plan dated October 7,
1994. (Incorporated by reference to Registration Statement on
Form S-8 filed on January 19, 1996 (Registration No.
33-3327).)
10.3 Cash or Deferred Profit Sharing Plan, as amended.
(Incorporated by reference to Exhibit 10.2 to Registration
Statement on Form S-1 (Registration No. 33-12755).)
10.4 Cash or Deferred Profit Sharing Plan Amendment No. 3.
(Incorporated by reference to Exhibit 10.15 to Form 10-K for
fiscal year ended January 31, 1988.)
10.5 Cash or Deferred Profit Sharing Plan Amendment No. 4.
(Incorporated by reference to Exhibit 10.16 to Form 10-K for
fiscal year ended January 31, 1988.)
10.6 Form of Stock Purchase Agreement dated July 26, 1985 relating
to shares of Common Stock purchased pursuant to exercise of
employee stock options. (Incorporated by reference to Exhibit
10.3 to Registration Statement on Form S-1 (Registration No.
33-12755).)
10.7 Form of Stock Purchase Agreement dated December 13, 1985
relating to shares of Common Stock purchase pursuant to
exercise of employee stock options. (Incorporated by reference
to Exhibit 10.4 to Registration Statement on Form S-1
(Registration No. 33-12755).)
10.8 Form of Stock Purchase Agreement dated November 10, 1986
relating to shares of Common Stock purchased pursuant to
exercise of employee stock options. (Incorporated by reference
to Exhibit 10.5 to Registration Statement on Form S-1
(Registration No. 33-12755).)
10.9 Form of Director Indemnification Agreement. (Incorporated by
reference to Exhibit 10.42 to Registration Statement on Form
S-1 (Registration No. 33-12755).)
15
<PAGE>
10.10 Real Estate Installment Note and Mortgage dated October 4,
1993 among the Company and Lee Thalheimer, Trustee for the
Alan Thalheimer Trust. (Incorporated by reference to Exhibit
10.20 to Form 10-K for fiscal year ended January 31, 1994)
10.11 Financing Agreement dated September 21, 1994 between the
Company and CIT Group/Business Credit Inc. (Incorporated by
reference to Exhibit 10.12 to Form 10-Q for the quarter ended
October 31, 1994)
10.12 The Sharper Image 401(K) Savings Plan (Incorporated by
reference to Exhibit 10.21 to Registration Statement of Form
S-8 (Registration No. 33-80504) dated June 21, 1994))
10.13 Chief Executive Officer Compensation Plan dated February 3,
1995. (Incorporated by reference to Exhibit 10.24 to the Form
10-K for the fiscal year ended January 31, 1995.)
10.14 Annual Report for the Sharper Image 401(K) Savings Plan
(incorporated by reference to Form 11-K (Registration No.
33-80504) for the plan year ended December 31, 1995.)
10.15 Split-Dollar Agreement between the Company and Mr. R.
Thalheimer, its Chief Executive Officer dated October 13,
1995, effective as of May 17, 1995. (Incorporated by reference
to Exhibit 10.17 to the Form 10-K for the fiscal year ended
January 31, 1996.)
10.16 Assignments of Life Insurance Policy as Collateral, both dated
October 13, 1995, effective May 17, 1995. (Incorporated by
reference to Exhibit 10.18 to the Form 10-K for the fiscal
year ended January 31, 1996.)
10.17 Amendment to the Financing Agreement dated May 15, 1996
between the Company and The CIT Group/Business Credit Inc.
(Incorporated by reference to Exhibit 10.19 to the Form 10Q
for the quarter ended April 30, 1996).
10.18 Warrant to Purchase Common Stock Agreement dated May 15, 1996
between the Company and The CIT Group/Business Credit Inc.
(Incorporated by reference to Exhibit 10.20 to the Form 10Q
for the quarter ended April 30, 1996).
10.19 CAPEX Term Loan Promissory note dated October 15, 1996 between
the Company and The CIT Group/Business Credit Inc.
(Incorporated by reference to Exhibit 10.21 to the Form 10Q
for the quarter ended October 31, 1996.)
10.20 Employment Agreement between the Company and Mr. Barry
Gilbert, its Vice Chairman and Chief Operating Officer dated
and effective December 2, 1996. (Incorporated by reference to
Exhibit 10.20 to the Form 10-K for the fiscal year ended
January 31, 1997.)
10.21 Amendment to the Financing Agreement dated February 13, 1997
between the Company and The CIT Group/Business Credit Inc.
(Incorporated by reference to Exhibit 10.21 to the Form 10-K
for the fiscal year ended January 31, 1997.)
10.22 Warrant to Purchase Common Stock Agreement dated February 13,
1997 between the Company and The CIT Group/Business Credit
Inc. (Incorporated by reference to Exhibit 10.22 to the Form
10-K for the fiscal year ended January 31, 1997.)
16
<PAGE>
10.23 Amendment to the Financing Agreement dated March 24, 1997
between the Company and The CIT Group/Business Credit Inc.
(Incorporated by reference to Exhibit 10.23 to the Form 10-K
for the fiscal year ended January 31, 1997.)
10.24 Warrant to Purchase Common Stock Agreement dated April 6, 1998
between the Company and the CIT Group/Business Credit Inc.
(Incorporated by reference to Exhibit 10.24 to the Form 10-K
for the fiscal year ended January 31, 1998.)
10.25 Amendment to the Financing Agreement dated April 6, 1998
between the Company and The CIT Group/Business Credit Inc.
(Incorporated by reference to Exhibit 10.25 to the Form 10-K
for the fiscal year ended January 31, 1998.)
15.0 Letter Re: Unaudited Interim Financial Information.
27.0 Financial Data Schedule
(b) Reports on Form 8-K
The Company has not filed any reports on Form 8-K for the
three months ended October 31, 1998.
17
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
SHARPER IMAGE CORPORATION
Date: December 9, 1998 by: /s/ Barry Gilbert
--------------------------
Barry Gilbert
Vice Chairman
Chief Operating Officer
by: /s/ Tracy Y. Wan
--------------------------
Tracy Y. Wan
Executive Vice President
Chief Financial Officer
18
[Deloitte & Touche LLP Letterhead]
Exhibit 15.0
December 9, 1998
Board of Directors
Sharper Image Corporation
San Francisco, California
We have made a review, in accordance with standards established by the American
Institute of Certified Public Accountants, of the unaudited interim financial
information of Sharper Image Corporation for the periods ended October 31, 1998
and 1997, as indicated in our report dated December 9, 1998; because we did not
perform an audit, we expressed no opinion on that information.
We are aware that our report referred to above, which is included in your
Quarterly Report on Form 10-Q for the quarter ended October 31, 1998 is
incorporated by reference in Registration Statement No. 33-12755, No. 33-80504,
and No. 33-3327 on Forms S-8 of Sharper Image Corporation.
We are also aware that the aforementioned report, pursuant to Rule 436(c) under
the Securities Act of 1933, is not considered a part of the Registration
Statement prepared or certified by an accountant or a report prepared or
certified by an accountant within the meaning of Sections 7 and 11 of that Act.
Yours truly,
/s/ Deloitte & Touche LLP
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