- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended August 1, 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: 0-25716
FINLAY ENTERPRISES, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 13-3492802
- -------------------------------- --------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
529 Fifth Avenue, New York, NY 10017
---------------------------------------- ----------
(Address of principal executive offices) (zip code)
(212) 808-2800
-----------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No ____
As of September 11, 1998, there were 10,402,653 shares of common stock, par
value $.01 per share, of the Registrant outstanding.
<PAGE>
FINLAY ENTERPRISES, INC
FORM 10-Q
QUARTERLY PERIOD ENDED AUGUST 1, 1998
INDEX
PAGE(S)
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements (Unaudited)
Consolidated Statements of Operations for the thirteen weeks and
twenty-six weeks ended August 2, 1997 and August 1, 1998..............1
Consolidated Balance Sheets as of January 31, 1998 and
August 1, 1998........................................................3
Consolidated Statements of Changes in Stockholders' Equity for the year
ended January 31, 1998 and twenty-six weeks ended August 1, 1998......4
Consolidated Statements of Cash Flows for the thirteen weeks and
twenty-six weeks ended August 2, 1997 and August 1, 1998..............5
Notes to Consolidated Financial Statements............................7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations........................13
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders..................21
Item 6. Exhibits and Reports on Form 8-K.....................................21
SIGNATURES....................................................................23
<PAGE>
PART 1 - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
FINLAY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share data)
(unaudited)
<TABLE>
<CAPTION>
Thirteen Weeks Ended
-----------------------------------
August 2, August 1,
1997 1998
------------- --------------
<S> <C> <C>
Sales...................................................... $ 148,060 $ 177,366
Cost of sales.............................................. 72,112 87,309
------------- --------------
Gross margin........................................... 75,948 90,057
Selling, general and administrative expenses............... 66,424 79,998
Depreciation and amortization.............................. 2,939 3,907
------------- --------------
Income (loss) from operations.......................... 6,585 6,152
Interest expense, net...................................... 8,449 8,025
Nonrecurring interest associated with refinancing.......... - 655
------------- --------------
Income (loss) before income taxes and extraordinary
charges............................................... (1,864) (2,528)
Provision (credit) for income taxes........................ (486) (811)
------------- --------------
Income (loss) before extraordinary charges............. (1,378) (1,717)
Extraordinary charges from early extinguishment of debt,
net of income tax benefit of $4,765.................. - 7,415
------------- --------------
Net income (loss)...................................... $ (1,378) $ (9,132)
============= ==============
Net income (loss) per share applicable to common shares:
Basic net income (loss) per share:
Before extraordinary charges........................ $ (0.19) $ (0.17)
============= ==============
Extraordinary charges from early extinguishment
of debt.......................................... $ - $ (0.71)
============= ==============
Net income (loss)................................... $ (0.19) $ (0.88)
============= ==============
Diluted net income (loss) per share:
Before extraordinary charges........................ $ (0.18) $ (0.17)
============= ==============
Extraordinary charges from early extinguishment
of debt.......................................... $ - $ (0.71)
============= ==============
Net income (loss)................................... $ (0.18) $ (0.88)
============= ==============
Weighted average shares and share equivalents outstanding.. 7,501,786 10,393,086
============= ==============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
1
<PAGE>
FINLAY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share data)
(unaudited)
<TABLE>
<CAPTION>
Twenty-Six Weeks Ended
-----------------------------------
August 2, August 1,
1997 1998
------------- --------------
<S> <C> <C>
Sales...................................................... $ 282,652 $ 338,358
Cost of sales.............................................. 137,834 165,413
------------- --------------
Gross margin........................................... 144,818 172,945
Selling, general and administrative expenses............... 131,591 156,947
Depreciation and amortization.............................. 5,692 7,701
------------- --------------
Income (loss) from operations.......................... 7,535 8,297
Interest expense, net...................................... 16,148 17,030
Nonrecurring interest associated with refinancing.......... - 655
------------- --------------
Income (loss) before income taxes and extraordinary
charges.............................................. (8,613) (9,388)
Provision (credit) for income taxes........................ (3,009) (3,469)
------------- --------------
Income (loss) before extraordinary charges............. (5,604) (5,919)
Extraordinary charges from early extinguishment of debt,
net of income tax benefit of $4,765.................. - 7,415
------------- --------------
Net income (loss)...................................... $ (5,604) $ (13,334)
============= ==============
Net income (loss) per share applicable to common shares:
Basic net income (loss) per share:
Before extraordinary charges........................ $ (0.76) $ (0.59)
============= ==============
Extraordinary charges from early extinguishment
of debt.......................................... $ - $ (0.74)
============= ==============
Net income (loss)................................... $ (0.76) $ (1.33)
============= ==============
Diluted net income (loss) per share:
Before extraordinary charges........................ $ (0.75) $ (0.59)
============= ==============
Extraordinary charges from early extinguishment
of debt.......................................... $ - $ (0.74)
============= ==============
Net income (loss)................................... $ (0.75) $ (1.33)
============= ==============
Weighted average shares and share equivalents outstanding.. 7,497,210 10,057,033
============= ==============
The accompanying notes are an integral part of these consolidated financial
statements.
2
<PAGE>
FINLAY ENTERPRISES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
(unaudited)
January 31, August 1,
1998 1998
------------- --------------
ASSETS
Current assets
Cash and cash equivalents.................................... $ 13,588 $ 2,890
Accounts receivable - department stores...................... 20,772 37,066
Other receivables............................................ 6,862 21,114
Merchandise inventories...................................... 279,766 307,273
Prepaid expenses and other................................... 1,781 3,674
------------- --------------
Total current assets...................................... 322,769 372,017
------------- --------------
Fixed assets
Equipment, fixtures and leasehold improvements............... 95,257 102,378
Less - accumulated depreciation and amortization............. 28,249 33,557
------------- --------------
Fixed assets, net......................................... 67,008 68,821
------------- --------------
Deferred charges and other assets.............................. 14,188 12,215
Goodwill....................................................... 104,271 102,384
------------- --------------
Total assets.............................................. $ 508,236 $ 555,437
============= ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Notes payable................................................ $ - $ 128,695
Accounts payable - trade..................................... 160,434 78,348
Accrued liabilities:
Accrued salaries and benefits............................. 12,694 13,646
Accrued miscellaneous taxes............................... 5,014 3,496
Accrued insurance......................................... 215 1,290
Accrued interest.......................................... 3,902 5,655
Accrued management transition and consulting.............. 1,092 808
Other..................................................... 15,558 12,555
Income taxes payable......................................... 14,246 -
Deferred income taxes........................................ 1,219 1,845
------------- --------------
Total current liabilities................................. 214,374 246,338
Long-term debt................................................. 221,026 225,000
Other non-current liabilities.................................. 497 8,483
------------- --------------
Total liabilities......................................... 435,897 479,821
------------- --------------
Stockholders' equity
Common Stock, par value $.01 per share; authorized 25,000,000
shares; issued and outstanding 9,779,050 and 10,411,653
shares, respectively....................................... 98 104
Additional paid-in capital .................................. 86,135 101,381
Distributions to investor group in excess of carryover basis. (24,390) (24,390)
Note receivable from stock sale.............................. (1,001) -
Retained earnings (deficit).................................. 18,340 5,006
Foreign currency translation adjustment...................... (6,843) (6,485)
------------- --------------
Total stockholders' equity................................ 72,339 75,616
------------- --------------
Total liabilities and stockholders' equity................ $ 508,236 $ 555,437
============= ==============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
FINLAY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(in thousands, except share data)
<TABLE>
<CAPTION>
Distributions
to
Common Stock investor group Note Foreign
--------------------- Additional in Receivable Retained Currency Total
Number Paid-in excess of from Earnings Translation Stockholders'
of shares Amount Capital carryover basis Stock Sale (Deficit) Adjustment Equity
----------- ------ ----------- ---------------- ------------ ----------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, February 1, 1997. 7,558,838 $ 76 $ 47,725 $ (24,390) $ (1,001) $ 3,145 $ (3,050) $ 22,505
Net income (loss)....... - - - - - 15,195 - 15,195
Foreign currency
translation adjutment.. - - - - - - (3,793) (3,793)
Issuance of Common
Stock.................. 2,196,971 22 38,102 - - - - 38,124
Exercise of stock
options............... 23,241 - 308 - - - - 308
----------- ------ ----------- ---------------- ------------ ----------- ------------ ------------
Balance, January 31, 1998 9,779,050 98 86,135 (24,390) (1,001) 18,340 (6,843) 72,339
Net income (loss)....... - - - - - (13,334) - (13,334)
Foreign currency
translation adjustment. - - - - - - 358 358
Issuance of Common
Stock.................. 567,310 6 13,753 - - - - 13,759
Note receivable
repayment.............. - - - - 1,001 - - 1,001
Exercise of stock
options................ 65,293 - 1,493 - - - - 1,493
Balance, August 1, ----------- ------ ---------- ---------------- ------------ ----------- ------------ ------------
1998 (unaudited)........ 10,411,653 $ 104 $ 101,381 $ (24,390) $ - $ 5,006 $ (6,485) $ 75,616
=========== ====== ========== ================ ============ =========== ============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
FINLAY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
Thirteen Weeks Ended
------------------------------
August 2, August 1,
1997 1998
------------ -------------
CASH FLOWS FROM OPERATING ACTIVITIES
<S> <C> <C>
Net income (loss).............................................................. $ (1,378) $ (9,132)
Adjustments to reconcile net income (loss) to net cash used in
operating activities:
Depreciation and amortization.................................................. 3,254 4,237
Imputed interest on debentures................................................. 2,385 -
Write-off deferred financing costs and debt discount........................... - 3,900
Redemption premiums............................................................ - 7,102
Other extraordinary charges from early extinguishment of debt.................. - 1,178
Other, net..................................................................... (597) 271
Changes in operating assets and liabilities:
(Increase) decrease in accounts and other receivables....................... 1,505 (5,577)
(Increase) decrease in merchandise inventories.............................. 23,165 (6,801)
(Increase) decrease in prepaid expenses and other........................... (657) 762
Decrease in accounts payable and accrued liabilities........................ (31,056) (4,039)
------------ -------------
NET CASH USED IN OPERATING ACTIVITIES.................................... (3,379) (8,099)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of equipment, fixtures and leasehold improvements.................... (5,102) (3,721)
Other, net..................................................................... (1,171) 27
------------ -------------
NET CASH USED IN INVESTING ACTIVITIES.................................... (6,273) (3,694)
------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from revolving credit facility........................................ 117,722 295,125
Principal payments on revolving credit facility................................ (107,410) (166,430)
Prepayment of notes............................................................ - (135,000)
Prepayment of debentures....................................................... - (50,266)
Payment of redemption premiums................................................. - (7,102)
Capitalized financing costs.................................................... - (336)
Other, net..................................................................... 112 (1,532)
------------ -------------
NET CASH PROVIDED FROM (USED IN) FINANCING ACTIVITIES.................... 10,424 (65,541)
------------ -------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH.................................. (81) (171)
------------ -------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS......................... 691 (77,505)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD................................... 2,762 80,395
------------ -------------
CASH AND CASH EQUIVALENTS, END OF PERIOD......................................... $ 3,453 $ 2,890
============ =============
Supplemental disclosure of cash flow information:
Interest paid.................................................................. $ 2,017 $ 3,178
Income taxes paid.............................................................. 3,400 197
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
FINLAY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
Twenty-Six Weeks Ended
------------------------------
August 2, August 1,
1997 1998
------------ -------------
CASH FLOWS FROM OPERATING ACTIVITIES
<S> <C> <C>
Net income (loss).............................................................. $ (5,604) $ (13,334)
Adjustments to reconcile net income (loss) to net cash used in
operating activities:
Depreciation and amortization.................................................. 6,315 8,359
Imputed interest on debentures................................................. 4,634 2,527
Write-off deferred financing costs and debt discount........................... - 3,900
Redemption premiums............................................................ - 7,102
Other extraordinary charges from early extinguishment of debt.................. - 1,178
Other, net..................................................................... (951) 315
Changes in operating assets and liabilities:
Increase in accounts and other receivables.................................. (18,267) (30,388)
Increase in merchandise inventories......................................... (2,146) (26,824)
Increase in prepaid expenses and other...................................... (675) (1,876)
Decrease in accounts payable and accrued liabilities........................ (101,653) (84,107)
------------ -------------
NET CASH USED IN OPERATING ACTIVITIES.................................... (118,347) (133,148)
------------ -------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of equipment, fixtures and leasehold improvements.................... (8,477) (7,178)
Other, net..................................................................... (1,718) (742)
------------ -------------
NET CASH USED IN INVESTING ACTIVITIES.................................... (10,195) (7,920)
------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from revolving credit facility........................................ 297,109 503,542
Principal payments on revolving credit facility................................ (185,587) (374,847)
Prepayment of notes............................................................ - (135,000)
Prepayment of debentures....................................................... - (89,293)
Payment of redemption premiums................................................. - (7,102)
Net proceeds from public offering of Common Stock.............................. - 13,759
Proceeds from senior note offering............................................. - 150,000
Proceeds from senior debenture offering........................................ - 75,000
Proceeds from repayment of note receivable..................................... - 1,001
Capitalized financing costs.................................................... - (6,144)
Other, net..................................................................... 126 (397)
------------ -------------
NET CASH PROVIDED FROM FINANCING ACTIVITIES.............................. 111,648 130,519
------------ -------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH.................................. (499) (149)
------------ -------------
DECREASE IN CASH AND CASH EQUIVALENTS.................................... (17,393) (10,698)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD................................... 20,846 13,588
------------ -------------
CASH AND CASH EQUIVALENTS, END OF PERIOD......................................... $ 3,453 $ 2,890
============ =============
Supplemental disclosure of cash flow information:
Interest paid.................................................................. $ 10,548 $ 12,746
Income taxes paid.............................................................. 8,013 1,111
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
6
<PAGE>
FINLAY ENTERPRISES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Finlay
Enterprises, Inc. (the "Company" or the "Registrant"), and its wholly owned
subsidiary, Finlay Fine Jewelry Corporation and its wholly owned subsidiaries
("Finlay Jewelry"), have been prepared in accordance with generally accepted
accounting principles for interim financial information. References to "Finlay"
mean collectively, the Company and Finlay Jewelry. In the opinion of management,
the accompanying unaudited consolidated financial statements contain all
adjustments necessary to present fairly the financial position of the Company as
of August 1, 1998, and the results of operations and cash flows for the thirteen
weeks and twenty-six weeks ended August 2, 1997 and August 1, 1998. Due to the
seasonal nature of the business, results for interim periods are not indicative
of annual results. The unaudited consolidated financial statements have been
prepared on a basis consistent with that of the audited consolidated financial
statements as of January 31, 1998 referred to below. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to the rules and regulations of the Securities and Exchange
Commission (the "Commission").
These consolidated financial statements should be read in conjunction with
the audited consolidated financial statements and notes thereto included in the
Company's annual report on Form 10-K for the fiscal year ended January 31, 1998
("Form 10-K") previously filed with the Commission.
Finlay's fiscal year ends on the Saturday closest to January 31. References
to 1995, 1996, 1997 and 1998 relate to the fiscal years ending February 3, 1996,
February 1, 1997, January 31, 1998 and January 30, 1999, respectively. Each of
the fiscal years includes fifty-two weeks except 1995, which includes
fifty-three weeks.
Net income (loss) per share has been computed in accordance with the
Statement of Financial Accounting Standards ("SFAS') No. 128, 'Earnings per
Share', which was adopted by the Company at the end of 1997. Basic and diluted
net income (loss) per share were calculated using the weighted average number of
shares outstanding during each period, with options to purchase Common Stock
included in diluted net income (loss) per share, using the treasury stock
method, to the extent that such options were dilutive. The per share amounts for
the prior period presented have been restated to reflect the adoption of SFAS
No. 128. The following is an analysis of the differences between basic and
diluted net income (loss) per share:
<TABLE>
<CAPTION>
Thirteen Weeks Ended Twenty-Six Weeks Ended
--------------------------------------------------- -------------------------------------------------
August 2, 1997 August 1, 1998 August 2, 1997 August 1, 1998
------------------------ ----------------------- ------------------------ -----------------------
Weighted average
<S> <C> <C> <C> <C> <C> <C> <C> <C>
shares outstanding...... 7,423,090 $ (0.19) 10,393,086 $ (0.88) 7,421,754 $ (0.76) 10,057,033 $ (1.33)
Dilutive stock
options................. 78,696 0.01 - - 75,456 0.01 - -
----------- ---------- ------------ --------- ----------- --------- ----------- ---------
Weighted average
shares and share
equivalents............. 7,501,786 $ (0.18) 10,393,086 $ (0.88) 7,497,210 $ (0.75) 10,057,033 $ (1.33)
=========== ========== ============ ========= =========== ========= =========== =========
</TABLE>
For each of the periods above, there were no adjustments to the Net income
(loss) applicable to common shares used to calculate basic and diluted net
income (loss) per share.
7
<PAGE>
FINLAY ENTERPRISES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION (continued)
During the first quarter of 1998, the Company adopted SFAS No. 130,
"Reporting Comprehensive Income", which became effective for fiscal years
beginning after December 15, 1997. This Statement requires disclosure of
comprehensive income, defined as the total of net income and all other nonowner
changes in equity, which under generally accepted accounting principles, are
recorded directly to the stockholders' equity section of the consolidated
balance sheet and, therefore bypass net income. In Finlay's case, the only
nonowner change in equity relates to the foreign currency translation
adjustment.
Comprehensive income (loss) is as follows (in thousands):
<TABLE>
<CAPTION>
Thirteen Weeks Ended Twenty-Six Weeks Ended
---------------------------- -------------------------------
August 2, August 1, August 2, August 1,
1997 1998 1997 1998
------------ ------------ -------------- -------------
<S> <C> <C> <C> <C>
Net income (loss)....................................... $ (1,378) $ (9,132) $ (5,604) $ (13,334)
Foreign currency translation adjustment................. (2,440) (587) (4,672) 358
------------ ------------ -------------- -------------
Comprehensive income (loss)............................. $ (3,818) $ (9,719) $ (10,276) $ (12,976)
============ ============ ============== =============
</TABLE>
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities". The Statement
establishes accounting and reporting standards requiring that all derivative
instruments be recorded in the balance sheet as either an asset or liability
measured at its fair value and that changes in the derivative's fair value be
recognized currently in earnings. SFAS No. 133 is effective for fiscal years
beginning after June 15, 1999 and is not expected to have a material impact on
the Company's financial position or results of operations.
NOTE 2 - DESCRIPTION OF BUSINESS
The Company conducts business through its wholly owned subsidiary, Finlay
Jewelry. Finlay is a retailer of fine jewelry products and primarily operates
leased fine jewelry department stores throughout the United States and France. A
significant portion of Finlay's revenues are generated in the fourth quarter due
to the seasonality of the retail industry. Approximately 72% of Finlay's
domestic sales in 1997 were from operations in two major department store
groups, of which 49% represents Finlay's domestic sales from one department
store group.
NOTE 3 - MERCHANDISE INVENTORIES
Merchandise inventories consisted of the following:
<TABLE>
<CAPTION>
(unaudited)
January 31, August 1,
1998 1998
---------------- ------------------
(in thousands)
Jewelry goods - rings, watches and other fine jewelry
<S> <C> <C>
(specific identification basis)............................... $ 286,289 $ 313,449
Less: Excess of specific identification cost over LIFO
inventory value............................................... 6,523 6,176
---------------- ------------------
$ 279,766 $ 307,273
================ ==================
</TABLE>
8
<PAGE>
FINLAY ENTERPRISES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - MERCHANDISE INVENTORIES (continued)
The LIFO method had the effect of decreasing the loss before income taxes
for the thirteen weeks ended August 2, 1997 and August 1, 1998 by $191,000 and
$439,000, respectively. The LIFO method had no effect on the loss before income
taxes for the twenty-six weeks ended August 2, 1997. The effect of applying the
LIFO method for the twenty-six weeks ended August 1, 1998 was to decrease the
loss before income taxes by $346,000. Finlay determines its LIFO inventory value
by utilizing selected producer price indices published for jewelry and watches
by the Bureau of Labor Statistics. Due to the application of APB Opinion No. 16,
inventory valued at LIFO for income tax reporting purposes was approximately
$21,000,000 lower than that for financial reporting purposes at January 31,
1998.
Approximately $219,822,000 and $247,908,000 at January 31, 1998 and August
1, 1998, respectively, of merchandise received on consignment has been excluded
from Merchandise inventories and Accounts payable-trade in the accompanying
Consolidated Balance Sheets.
Finlay Jewelry is party to a gold consignment agreement (the "Gold
Consignment Agreement"), which expires on December 31, 2001. The Gold
Consignment Agreement enables Finlay Jewelry to receive merchandise by providing
gold, or otherwise making payment, to certain vendors who currently supply
Finlay with merchandise on consignment. While the merchandise involved remains
consigned, title to the gold content of the merchandise transfers from the
vendors to the gold consignor. As a result, such vendors have reduced their
working capital requirements and associated financing costs. Consequently,
Finlay has negotiated more favorable prices and terms with the participating
vendors. Finlay Jewelry can obtain, pursuant to the Gold Consignment Agreement,
up to the lesser of (i) 85,000 fine troy ounces or (ii) $32,000,000 worth of
gold, subject to a formula as prescribed by the Gold Consignment Agreement. At
August 1, 1998, amounts outstanding under the Gold Consignment Agreement totaled
42,021 fine troy ounces, valued at approximately $12.1 million. For financial
statement purposes, the consigned gold is not included in Merchandise
inventories on the Company's Consolidated Balance Sheets and, therefore, no
related liability has been recorded.
The cost to Finlay of gold merchandise sold on consignment in some cases is
not fixed until the sale is reported to the vendor or to the gold consignor in
the case of merchandise sold pursuant to the Gold Consignment Agreement. Finlay
at times enters into futures contracts, such as options or forwards, based upon
the anticipated sales of gold product, to hedge against the risk arising from
those payment arrangements. Changes in the market value of futures contracts are
accounted for as an addition to or reduction from the inventory cost. At August
2, 1997, the gain/loss on open futures contracts was not material. The Company
did not have any open positions in futures contracts for gold at January 31,
1998 or August 1, 1998
NOTE 4 - LEASE AGREEMENTS
Finlay conducts substantially all of its operations as leased departments
in department stores. All of these leases, as well as rentals for office space
and equipment, are accounted for as operating leases. A substantial number of
such operating leases expire on various dates through 2008. All references
herein to leased departments refer to departments operated pursuant to license
agreements or other arrangements with host department stores.
9
<PAGE>
FINLAY ENTERPRISES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - LEASE AGREEMENTS (continued)
Substantially all of the department store leases provide that the title to
certain fixed assets of Finlay transfers upon termination of the leases, and
that Finlay will receive the undepreciated value of such fixed assets from the
host store in the event such transfers occur. The values of such fixed assets
are recorded at the inception of the lease arrangement and are reflected in the
accompanying Consolidated Balance Sheets.
In many cases, Finlay is subject to limitations under its lease agreements
with host department stores which prohibit Finlay from operating departments for
other store groups within a certain geographical radius of the host store.
The store leases provide for the payment of fees based on sales, plus, in
some instances, installment payments for fixed assets. Lease expense, included
in Selling, general and administrative expenses, is as follows (unaudited):
<TABLE>
<CAPTION>
Thirteen Weeks Ended Twenty - Six Weeks Ended
------------------------------ -------------------------------
August 2, August 1, August 2, August 1,
1997 1998 1997 1998
-------------- ------------ ------------- ------------
<S> <C> <C> <C> <C>
Minimum fees.......................... $ 1,968 $ 5,088 $ 3,810 $ 9,656
Contingent fees....................... 21,814 23,853 41,705 45,251
============== ============ ============= ============
Total............................... $ 23,782 $ 28,941 $ 45,515 $ 54,907
============== ============ ============= ============
</TABLE>
NOTE 5 - STOCKHOLDERS' EQUITY
On March 5, 1997, an executive officer of the Company received options
under the Company's Long Term Incentive Plan (the "1993 Plan") to purchase an
aggregate of 139,719 shares of Common Stock at an exercise price of $14.00 per
share. Such options vest and become exercisable on January 2, 2001.
On March 6, 1997, the Board of Directors of the Company adopted the 1997
Long Term Incentive Plan (the "1997 Plan"), which was approved by the Company's
stockholders in June 1997. The 1997 Plan, which is similar to the 1993 Plan, is
intended as a successor to the 1993 Plan and provides for the grant of the same
types of awards as are currently available under the 1993 Plan. The Board of
Directors adopted an amendment to the 1997 Plan, which was approved by the
Company's stockholders in June 1998, pursuant to which options available for
issuance under the 1997 Plan were increased to 850,000. Of the 850,000 shares of
the Company's Common Stock that have been reserved for issuance pursuant to the
1997 Plan, a total of 481,915 shares are subject to options granted to certain
senior management, key employees and a director. The exercise prices of such
options range from $13.875 per share to $24.313 per share.
Upon the commencement of his employment, an executive officer of the
Company purchased 138,525 shares of Common Stock (the "Purchased Shares"), at a
price of $7.23 per share. The aggregate purchase price of these shares was paid
in the form of a note issued to the Company in the amount of $1,001,538.
Pursuant to the terms of the note, the amount of the note has historically been
reflected as a reduction to equity and reflected in the Company's Consolidated
Balance Sheets as Note receivable from stock sale. On April 24, 1998, the
executive officer sold 100,000 of the Purchased shares and repaid the note
("Note Receivable Repayment").
10
<PAGE>
FINLAY ENTERPRISES, INC. NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
NOTE 6 - OTHER TRANSACTIONS
On April 24, 1998, the Company completed a public offering of 1,800,000
shares of its Common Stock at a price of $27.50 per share (the "Equity
Offering"), of which 567,310 shares were sold by the Company and 1,232,690
shares were sold by certain selling stockholders. Concurrently with the Equity
Offering, the Company and Finlay Jewelry completed the public offering of $75.0
million aggregate principal amount of 9% Senior Debentures due May 1, 2008 (the
"Senior Debentures") and $150.0 million aggregate principal amount of 8-3/8%
Senior Notes due May 1, 2008 (the "Senior Notes"), respectively. In addition, on
April 24, 1998, the existing revolving credit agreement (the "Revolving Credit
Agreement") was amended to increase the line of credit thereunder to $275.0
million and to make certain other changes.
On May 1, 1998, the Company prepaid all of the $39.0 million of accreted
interest on the Company's 12% Senior Discount Debentures due 2005 (the "Old
Debentures") as of such date, in accordance with the indenture relating to the
Debentures (the "Old Debenture Indenture"). The Company exercised its option to
prepay all such accreted interest to reduce outstanding indebtedness and to take
advantage of the resulting tax benefits relating to the deductibility of such
prepayment in 1998.
On May 26, 1998, the net proceeds to the Company from the Equity Offering,
the sale of the Senior Debentures, the Note Receivable Repayment and the
repayment of approximately $1.0 million of an intercompany liability by Finlay
Jewelry (the "Intercompany Repayment") were used to redeem the Company's Old
Debentures, including associated premiums. Also, on May 26, 1998, Finlay Jewelry
used the net proceeds from the sale of the Senior Notes to redeem Finlay
Jewelry's 10-5/8% Senior Notes due 2003 (the "Old Notes"), including associated
premiums, and to make the Intercompany Repayment. The above transactions,
excluding the Equity Offering, are referred to herein as the "Refinancing". The
Company recorded, in the second quarter, a pre-tax extraordinary charge of
approximately $12.2 million, including $7.1 million for redemption premiums and
approximately $3.9 million to write off deferred financing costs and debt
discount associated with the Old Debentures and the Old Notes. As a result of
certain call requirements associated with the Old Debentures and the Old Notes,
the debt could not be repaid until May 26, 1998. Thus, for twenty-five days in
the second quarter, Finlay was required to maintain as outstanding both the new
debt issued on April 24, 1998 as well as the old debt retired on May 26, 1998.
The net effect of carrying the new and old debt, offset by reduced interest
expense on the Company's revolving credit facility and interest income on excess
cash balances, was an increase to interest expense of $0.7 million.
On October 6, 1997, Finlay completed the acquisition of certain assets of
the Diamond Park Fine Jewelers division of Zale Corporation ("Diamond Park"), a
leading operator of departments, for approximately $63.0 million. By acquiring
Diamond Park (the "Diamond Park Acquisition"), Finlay added 139 departments that
had total sales of approximately $103.0 million for the twelve months ended
January 31, 1998 and also added new host store relationships with Mercantile
Stores, Marshall Field's and Parisian. Finlay financed the Diamond Park
Acquisition with borrowings under the Revolving Credit Agreement.
11
<PAGE>
FINLAY ENTERPRISES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - UNAUDITED PRO FORMA FINANCIAL INFORMATION
The following table presents the calculation of pro forma earnings per
share data for the thirteen weeks and twenty-six weeks ended August 1, 1998. The
pro forma consolidated financial information excludes the extraordinary charge
of $12.2 million, on a pre-tax basis, including $7.1 million for redemption
premiums and approximately $3.9 million to write off deferred financing and debt
discount costs associated with the Old Debentures and the Old Notes. The income
tax benefit on the extraordinary charges totaled $4.8 million. In addition, the
pro forma consolidated financial information excludes the nonrecurring interest
associated with refinancing as a result of certain call requirements on the debt
retired.
In thousands, except share and
per share amounts
<TABLE>
<CAPTION>
(unaudited)
August 1, 1998
--------------------------------------
Thirteen Twenty-Six
Weeks Ended Weeks Ended
---------------- ----------------
<S> <C> <C>
Net income (loss) per Consolidated Statements of Operations......... $ (9,132) $ (13,334)
Add: Extraordinary charges from early extinguishment of
debt, net of income tax benefit.............................. 7,415 7,415
Add: Nonrecurring interest associated with refinancing,
net of income tax benefit.................................... 400 400
---------------- ----------------
Pro Forma net income (loss)......................................... $ (1,317) $ (5,519)
================ ================
Pro Forma net income (loss) per share applicable to
common shares:
Basic net income (loss) per share............................... $ (0.13) $ (0.55)
================ ================
Diluted net income (loss) per share............................. $ (0.13) $ (0.55)
================ ================
Weighted average shares and share equivalents outstanding........... 10,393,086 10,057,033
================ ================
</TABLE>
12
<PAGE>
PART I - FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations
Results of Operations
The following table sets forth operating results as a percentage of sales
for the periods indicated:
Statements of Operations Data
(unaudited)
<TABLE>
<CAPTION>
Thirteen Weeks Ended Twenty-Six Weeks Ended
---------------------------- -----------------------------
August 2, August 1, August 2, August 1,
1997 1998 1997 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Sales................................................. 100.0% 100.0% 100.0% 100.0%
Cost of sales......................................... 48.7 49.2 48.8 48.9
----------- ----------- ----------- -----------
Gross margin...................................... 51.3 50.8 51.2 51.1
Selling, general and administrative expenses.......... 44.9 45.1 46.5 46.4
Depreciation and amortization......................... 2.0 2.2 2.0 2.3
----------- ----------- ----------- -----------
Income (loss) from operations..................... 4.4 3.5 2.7 2.4
Interest expense, net................................. 5.7 4.5 5.7 5.0
Nonrecurring interest associated with refinancing..... - 0.4 - 0.2
----------- ----------- ----------- -----------
Income (loss) before income taxes and
extraordinary charges........................... (1.3) (1.4) (3.0) (2.8)
Provision (credit) for income taxes................... (0.4) (0.5) (1.0) (1.0)
----------- ----------- ----------- -----------
Income (loss) before extraordinary charges........ (0.9) (0.9) (2.0) (1.8)
Extraordinary charges from early extinguishment
of debt, net of income tax benefit.............. - 4.2 - 2.2
----------- ----------- ----------- -----------
Net income (loss)................................. (0.9)% (5.1)% (2.0)% (4.0)%
=========== =========== =========== ===========
</TABLE>
Thirteen Weeks Ended August 1, 1998 Compared with Thirteen Weeks Ended August 2,
1997
Sales. Sales for the thirteen weeks ended August 1, 1998 increased $29.3
million, or 19.8%, over the comparable period in 1997. Comparable department
sales (departments open for the same months during comparable periods) increased
2.8%. Management attributes this increase in comparable department sales to the
following Company initiatives: (i) emphasizing its "Key Item" and "Best Value"
merchandising programs, which provide a targeted assortment of items at
competitive prices; (ii) increasing focus on holiday and event-driven promotions
as well as host store marketing programs; (iii) positioning the Company's
departments as a "destination location" for fine jewelry, and (iv) continuing
project PRISM (Promptly Reduce Inefficiencies and Sales Multiply), a program
designed to allow Finlay's sales associates more time for customer sales and
service. During the second quarter, Sonab, the Company's French subsidiary,
experienced lower sales trends due to the transition from a promotional pricing
strategy to an everyday low price strategy. This change was made as a result of
Sonab reassessing its pricing policy following certain local French court
decisions and the adverse impact of such change is expected to continue for the
balance of the year. Sales from the operation of net new departments
(departments not included in comparable department sales) contributed $25.2
million, which included $25.0 million from the former Diamond Park departments.
During the thirteen weeks ended August 1, 1998, Finlay opened eight departments
and closed five departments. The
13
<PAGE>
openings were all within existing store groups, with the exception of two
departments opened in new store groups in the United Kingdom. The closings were
all within existing store groups.
Gross margin. Gross margin for the period increased by $14.1 million,
primarily as a result of the sales increase. As a percentage of sales, gross
margin decreased by 0.5%, which is primarily attributed to (i) lower gross
margins experienced by the former Diamond Park departments, particularly as the
merchandise acquired as part of the Diamond Park Acquisition continues to be
sold and (ii) duplicative freight costs relating to certain operational aspects
of the Company's new central distribution facility that are not yet fully
functional. These factors were offset by a $0.2 million decrease in the LIFO
provision.
Selling, general and administrative expenses. Selling, general and
administrative expenses ("SG&A") increased $13.6 million, or 20.4%, due
primarily to payroll expense and lease fees associated with the increase in the
Company's sales. The increased sales generated by the former Diamond Park
departments enabled the Company to leverage administrative and certain other
expenses. Offsetting this were higher than anticipated expenses relating to the
central distribution facility, increased medical expenses associated with the
implementation of a new medical benefit plan and rising wage rates related to a
challenging employment market. These factors are expected to have a similar
effect on performance for the balance of the year. In addition, the Company
increased its advertising expenditures, net of increased vendor participation,
as compared with the 1997 period. As a result of the factors discussed above,
SG&A as a percentage of sales increased by 0.2%.
Depreciation and amortization. Depreciation and amortization increased by
$1.0 million, reflecting an increase in capital expenditures for the most recent
twelve months, depreciation on Finlay's new central distribution facility and
amortization related to the Diamond Park Acquisition, offset by the effect of
certain assets becoming fully depreciated. The increase in fixed assets was due
to the addition of new departments, including the former Diamond Park
departments, and the renovation of existing departments.
Interest expense, net. Interest expense decreased by $0.4 million
reflecting a lower weighted average interest rate (8.2% for the 1998 period
compared to 10.1% for the comparable period in 1997) relating to the lower
interest rates on the Senior Debentures and the Senior Notes as compared to the
Old Debentures and the Old Notes offset by an increase in average borrowings
($379.0 million for the period in 1998 compared to $327.9 million for the
comparable period in 1997). The increase in average borrowings is a result of
additional indebtedness outstanding under the Revolving Credit Agreement
(adjusted to exclude the timing impact of the call requirements on the Old
Debentures and the Old Notes, discussed below).
Nonrecurring interest associated with refinancing. As a result of certain
call requirements associated with the Old Debentures and the Old Notes, the debt
could not be repaid until May 26, 1998. Thus, for twenty-five days in the second
quarter, Finlay was required to maintain as outstanding both the new debt issued
on April 24, 1998 as well as the old debt retired on May 26, 1998. The net
effect of carrying the new and old debt, offset by reduced interest expense on
the Company's revolving credit facility and interest income on excess cash
balances, was an increase to interest expense of $0.7 million.
Provision (credit) for income taxes. The income tax provision for the 1998
and 1997 periods reflects effective tax rates of 40.5% and 41.5%, respectively.
14
<PAGE>
Extraordinary charges from early extinguishment of debt, net of income tax
benefit. In conjunction with the repayment of the Old Debentures and the Old
Notes, the Company recorded a pre-tax extraordinary charge of $12.2 million,
including $7.1 million for redemption premiums and approximately $3.9 million to
write off deferred financing and debt discount costs associated with the Old
Debentures and the Old Notes. The income tax benefit on the extraordinary
charges totaled $4.8 million.
Net income (loss). The net loss of $9.1 million for the 1998 period was
$7.8 million higher than the net loss of $1.4 million for the comparable period
as a result of the factors discussed above.
Twenty-Six Weeks Ended August 1, 1998 Compared with Twenty-Six Weeks Ended
August 2, 1997
Sales. Sales for the twenty-six weeks ended August 1, 1998 increased $55.7
million, or 19.7%, over the comparable period in 1997. Comparable department
sales increased 3.1%. Management attributes this increase in comparable
department sales primarily to the "Key Item" and "Best Value" merchandising
programs and to the marketing initiatives discussed above. During the second
quarter, Sonab experienced lower sales trends due to the transition from a
promotional pricing strategy to an everyday low price strategy. This change was
made as a result of Sonab reassessing its pricing policy following certain local
French court decisions and the adverse impact of such change is expected to
continue for the balance of the year. Sales from the operation of net new
departments contributed $46.9 million, which included $46.0 million from the
former Diamond Park departments. During the twenty-six weeks ended August 1,
1998, Finlay opened 22 departments and closed 27 departments. The openings were
all within existing store groups, with the exception of two departments opened
in new store groups in the United Kingdom. The closings included all five
departments in Dillard's and all seven departments in Debenhams, with the
remaining 15 departments closed within existing store groups.
Gross margin. Gross margin for the period increased by $28.1 million,
primarily as a result of the sales increase. As a percentage of sales, gross
margin decreased by 0.1%, which is primarily attributed to (i) lower gross
margins experienced by the former Diamond Park departments, particularly as the
merchandise acquired as part of the Diamond Park Acquisition continues to be
sold and (ii) duplicative freight costs relating to certain operational aspects
of the Company's central distribution facility that are not yet fully
functional. These factors were offset by a $0.3 million decrease in the LIFO
provision.
Selling, general and administrative expenses. SG&A increased $25.4 million,
or 19.3%, due primarily to payroll expense and lease fees associated with the
increase in the Company's sales. The increased sales generated by the former
Diamond Park departments enabled the Company to leverage administrative and
certain other expenses. Offsetting this were higher than anticipated expenses
relating to the central distribution facility, increased medical expenses
associated with the implementation of a new medical benefit plan and rising wage
rates related to a challenging employment market. These factors are expected to
have a similar effect on performance for the balance of the year. As a result of
the factors discussed above, SG&A as a percentage of sales decreased by 0.1%
Depreciation and amortization. Depreciation and amortization increased by
$2.0 million, reflecting an increase in capital expenditures for the most recent
twelve months, depreciation on Finlay's new central distribution facility and
amortization related to the Diamond Park Acquisition, offset by the effect of
certain assets becoming fully depreciated. The increase in fixed assets was due
to the addition of new departments, including the former Diamond Park
departments and the renovation of existing departments.
15
<PAGE>
Interest expense, net. Interest expense increased by $0.9 million
reflecting an increase in average borrowings ($353.7 million for the period in
1998 compared to $310.9 million for the comparable period in 1997) primarily as
a result of an increase in the outstanding balance of the Old Debentures due to
the accretion of interest and additional indebtedness outstanding under the
Revolving Credit Agreement (adjusted to exclude the timing impact of the call
requirements on the Old Debentures and the Old Notes, discussed above). The
increase in average borrowings was partially offset by a lower weighted average
interest rate (9.1% for the 1998 period compared to 10.2% for the comparable
period in 1997) relating to the lower interest rates on the Senior Debentures
and the Senior Notes as compared to the Old Debentures and the Old Notes.
Nonrecurring interest associated with refinancing. For the reasons
discussed above, the Company incurred nonrecurring interest expense of $0.7
million relating to the net effect of carrying the new and old debt, offset by
reduced interest expense on the Company's revolving credit facility and interest
income on excess cash balances.
Provision (credit) for income taxes. The income tax provision for the 1998
and 1997 periods reflects effective tax rates of 40.5% and 41.5%, respectively.
Extraordinary charges from early extinguishment of debt, net of income tax
benefit. In conjunction with the repayment of the Old Debentures and the Old
Notes, the Company recorded a pre-tax extraordinary charge of $12.2 million,
including $7.1 million for redemption premiums and approximately $3.9 million to
write off deferred financing and debt discount costs associated with the Old
Debentures and the Old Notes. The income tax benefit on the extraordinary
charges totaled $4.8 million.
Net income (loss). The net loss of $13.3 million for the 1998 period was
$7.8 million higher than the net loss of $5.6 million for the comparable period
as a result of the factors discussed above.
Liquidity and Capital Resources
Finlay's primary capital requirements are for funding working capital for
new departments and for working capital growth of existing departments and, to a
lesser extent, capital expenditures for opening new departments and renovating
existing departments. For the twenty-six weeks ended August 2, 1997 and August
1, 1998, capital expenditures totaled $8.5 million and $7.2 million,
respectively. For 1997, capital expenditures totaled $19.3 million, which
included construction costs related to the Company's central distribution
facility, and in 1996 totaled $17.5 million. Total capital expenditures for 1998
are estimated to be approximately $15.0 million. Although capital expenditures
are limited by the terms of the Revolving Credit Agreement, to date this
limitation has not precluded the Company from satisfying its capital expenditure
requirements.
Finlay's operations substantially preclude customer receivables and in
recent years, on average, approximately 50% of Finlay's domestic merchandise has
been carried on consignment. Accordingly, management believes that relatively
modest levels of working capital are required in comparison to many other
retailers. The Company's working capital balance was $125.7 million at August 1,
1998, an increase of $17.3 million from January 31, 1998. The increase resulted
primarily from an income tax receivable relating to the prepayment of accreted
interest on the Company's Old Debentures, the net proceeds to the Company from
the Equity Offering and the sale of the Senior Debentures and the Senior Notes,
partially offset by the use of such proceeds to prepay the Old Debentures and
the Old Notes, the impact of the interim net loss exclusive of depreciation and
amortization and capital expenditures. Based
16
<PAGE>
on the seasonal nature of Finlay's business, working capital requirements and
therefore borrowings under the Revolving Credit Agreement can be expected to
increase on an interim basis during the first three quarters of any given fiscal
year. See "-Seasonality".
The seasonality of Finlay's business causes working capital requirements to
reach their highest level in the months of October and November in anticipation
of the year-end holiday season. Accordingly, Finlay experiences seasonal cash
needs as inventory levels peak. The Revolving Credit Agreement provides Finlay
with a line of credit of up to $275.0 million to finance seasonal cash and other
working capital needs. Amounts outstanding under the Revolving Credit Agreement
presently bear interest at a rate equal to, at Finlay's option, (i) the Index
Rate (as defined in the Revolving Credit Agreement) plus 0.5% or (ii) adjusted
LIBOR plus 1.5%. Commencing in December 1998, amounts outstanding under the
Revolving Credit Agreement will bear interest at a rate equal to, at Finlay's
option, (i) the Index Rate plus a margin ranging from zero to 1.0% or (ii)
adjusted LIBOR plus a margin ranging from 1.0% to 2.0%, in each case depending
on the financial performance of the Company.
In each year, Finlay is required to reduce the outstanding revolving credit
balance and letter of credit balance under the Revolving Credit Agreement to
$50.0 million or less and $20.0 million or less, respectively, for a 30
consecutive day period (the "Balance Reduction Requirement"). The indentures
relating to the Senior Debentures and the Senior Notes do not have a balance
reduction requirement. Borrowings under the Revolving Credit Agreement at August
1, 1998 were $128.7 million, compared to a zero balance at January 31, 1998 and
$111.5 million at August 2, 1997. The average amounts outstanding under the
Revolving Credit Agreement were $96.4 million and $122.2 million (adjusted for
the impact of the temporary paydown of the revolving credit facility due to
certain call requirements associated with the Old Debentures and the Old Notes)
for the twenty-six weeks ended August 2, 1997 and August 1, 1998, respectively.
The maximum amount outstanding for the twenty-six weeks ended August 1, 1998 was
$154.2 million.
Finlay does not expect that significant additional working capital will be
required with respect to the operation of the former Diamond Park departments
because Finlay purchased the inventory of those Diamond Park departments which
it acquired. Inventory purchases for the former Diamond Park departments has
been and will continue to be financed in part by trade payables combined with an
increased utilization of consignment inventory compared to the amount of
consignment merchandise on hand at the time of the Diamond Park Acquisition. As
such, management believes that working capital requirements for the former
Diamond Park departments has been and will continue to be reduced as compared to
the amount of working capital required at the time of the Diamond Park
Acquisition.
Finlay's long-term needs for external financing will depend on its rate of
growth, the level of internally generated funds and the ability to continue
obtaining substantial amounts of merchandise on advantageous terms, including
consignment arrangements with its vendors. For 1997, Finlay had an average
balance of consignment merchandise of $216.5 million from over 200 vendors as
compared to an average balance of $201.8 million in 1996. As of August 1, 1998,
$247.9 million of consignment merchandise was on hand as compared to $219.8
million at January 31, 1998 and $205.5 million at August 2, 1997.
A substantial amount of Finlay's operating cash flow has been used or will
be required to pay, directly or indirectly, interest with respect to the Old
Debentures and the Old Notes and amounts due under the Revolving Credit
Agreement, including the payments required pursuant to the Balance Reduction
Requirement and, as a result of the completion of the Equity Offering and
Refinancing, the Senior Debentures and the Senior Notes. As of August 1, 1998,
Finlay's outstanding borrowings were
17
<PAGE>
$353.7 million, which included a $75.0 million balance under the Senior
Debentures, a $150.0 million balance under the Senior Notes and a $128.7 million
balance under the Revolving Credit Agreement. On May 1, 1998, the Company
prepaid in accordance with the Old Debenture Indenture, all of the $39.0 million
of accreted interest on the Old Debentures as of such date. The Company
exercised its option to prepay all such accreted interest to reduce outstanding
indebtedness and to take advantage of the resulting tax benefits relating to the
deductibility of such prepayment in 1998. In addition, on May 26, 1998, the
Company redeemed the outstanding principal amounts, including associated
premiums, of the Old Debentures and the Old Notes. Finlay funded the prepayment
and the redemptions using the proceeds from the sale of the Senior Debentures,
the Equity Offering and the sale of the Senior Notes, together with other
available funds. In connection with the redemption of the Old Debentures and the
Old Notes, the Company recorded, in the second quarter, a pre-tax nonrecurring
charge of approximately $12.2 million, including $7.1 million for redemption
premiums and approximately $3.9 million to write off deferred financing and debt
discount costs associated with the Old Debentures and the Old Notes.
Finlay Jewelry is party to the Gold Consignment Agreement, which expires on
December 31, 2001. The Gold Consignment Agreement enables Finlay Jewelry to
receive merchandise by providing gold, or otherwise making payment, to certain
vendors. Finlay Jewelry can obtain, pursuant to the Gold Consignment Agreement,
up to the lesser of (i) 85,000 fine troy ounces or (ii) $32.0 million worth of
gold, subject to a formula as prescribed by the Gold Consignment Agreement. At
August 1, 1998, amounts outstanding under the Gold Consignment Agreement totaled
42,021 fine troy ounces, valued at approximately $12.1 million. The average
amount outstanding under the Gold Consignment Agreement was $14.3 million in
1997.
An organization-wide program is currently being executed to ensure that all
systems critical to the operation of the Company are Year 2000 compliant. This
process includes the review of various information technology systems, including
the Company's core business systems, end user systems as well as non-information
technology systems. The Company is using, and will continue to use, a
combination of internal and external resources to assess, remediate and test
such systems to ensure that all are Year 2000 compliant by August 1999. The
Company is in the process of contacting its software and hardware vendors to
determine Year 2000 compliance and is communicating with all of its host stores
and merchandise vendors on their compliance and testing.
The Company has estimated the costs related to its Year 2000 efforts to be
approximately $4.0 million and is expected to incur these costs over the next
six quarters. The consequences of a disruption of the Company's operations,
whether caused by the Company's computer systems or those of any of its host
stores or vendors, could have a material adverse effect on the Company's
financial position or results of operations. In addition, there can be no
assurances that the Company will not experience significant cost overruns or
delays in addressing this issue. The Company intends to develop a contingency
plan in the event that remediation of its critical systems, or those of
significant third parties, are not completed in the required time frame.
The Company is in the process of implementing several information
technology initiatives, including the design and development of a new
merchandising system and the upgrade of point-of-sale systems and related
hardware in the majority of Finlay's departments. These projects will serve to
support future growth of the Company as well as provide improved analysis and
reporting capabilities. The cost associated with these projects is estimated to
be $10-12 million for software and implementation costs and such costs will be
included in Deferred charges and other assets with approximately $4-6 million
for hardware and related equipment to be included as a component of the
Company's capital expenditures and reflected in Fixed assets.
18
<PAGE>
Section 382 of the Internal Revenue Code of 1986, as amended (the "Code")
restricts utilization of net operating loss carryforwards ("NOLs") after an
ownership change exceeding 50%. As a result of certain recapitalization
transactions in 1993, a change in ownership of the Company exceeding 50%
occurred within the meaning of Section 382 of the Code. Similar restrictions
apply to other carryforwards. Consequently, there is a material limitation on
the Company's annual utilization of its NOLs and other carryforwards which
requires a deferral or loss of the utilization of such NOLs or other
carryforwards. The Company had, at October 31, 1997 (the Company's tax year
end), a NOL for tax purposes of approximately $12.0 million which is subject to
an annual limit of approximately $2.0 million per year. For financial reporting
purposes, no NOL existed as of January 31, 1998. An additional change in
ownership within the meaning of Section 382 of the Code has occurred as a result
of the sale of shares of Common Stock of the Company in 1997. However, there are
no additional restrictions upon the Company's ability to utilize its NOLs or
other carryforwards as a result of such ownership change.
From time to time, Finlay enters into futures contracts, such as options or
forwards, based upon the anticipated sales of gold product in order to hedge
against the risk arising from its payment arrangements. Changes in the market
value of futures contracts are accounted for as an addition to or reduction from
the inventory cost. For the year ended January 31, 1998 and the twenty-six weeks
ended August 1, 1998, the gain or loss on open futures contracts was not
material. The Company did not have any open positions in futures contracts for
gold at January 31, 1998. There can be no assurance that these hedging
techniques will be successful or that hedging transactions will not adversely
affect the Company's results of operations or financial position.
On March 19, 1998, Liberty House, one of the host stores in which Finlay
operates, filed a voluntary petition in bankruptcy under Title 11 of the United
States Code ( the "Bankruptcy Code"). The Company is currently receiving weekly
payments towards the outstanding balance that was due to the Company prior to
the filing of the bankruptcy petition, which as of September 11, 1998 totaled
$0.5 million. Finlay believes that the bankruptcy of Liberty House will not have
a material adverse effect on Finlay's financial position or results of
operations.
Finlay believes that, based upon current operations, anticipated growth,
and availability under the Revolving Credit Agreement, Finlay Jewelry will, for
the foreseeable future, be able to meet its debt service and anticipated working
capital obligations, and to make distributions to the Company sufficient to
permit the Company to meet its debt service obligations and to pay certain other
expenses as they come due. No assurances, however, can be given that Finlay
Jewelry's current level of operating results will continue or improve or that
Finlay Jewelry's income from operations will continue to be sufficient to permit
Finlay Jewelry and the Company to meet their debt service and other obligations.
Currently, Finlay Jewelry's principal financing arrangements restrict annual
distributions from Finlay Jewelry to the Company to 0.25% of Finlay Jewelry's
net sales for the preceding fiscal year and also allow distributions to the
Company to enable it to make interest payments on the Senior Debentures. The
amounts required to satisfy the aggregate of Finlay's interest expense and
required amortization payments totaled $10.6 million and $12.7 million for the
twenty-six weeks ended August 2, 1997 and August 1, 1998, respectively.
19
<PAGE>
Seasonality
Finlay's business is highly seasonal, with a significant portion of its
sales and income from operations generated during the fourth quarter of each
year, which includes the year-end holiday season. The fourth quarter accounted
for an average of 42% of Finlay's sales and 82% of its income from operations
(excluding nonrecurring charges) for 1995, 1996 and 1997. Finlay has typically
experienced net losses in the first three quarters of its fiscal year. During
these periods, working capital requirements have been funded by borrowings under
the Revolving Credit Agreement. Accordingly, the results for any of the first
three quarters of any given fiscal year, taken individually or in the aggregate,
are not indicative of annual results.
Inflation
The effect of inflation on Finlay's results of operations has not been
material in the periods discussed.
Special Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q includes "forward-looking statements"
within the meaning of Section 27A of the Securities Act of 1993 and Section 21E
of the Securities Exchange Act of 1934 (the "Exchange Act"). All statements
other than statements of historical information provided herein are
forward-looking statements and may contain information about financial results,
economic conditions, trends and known uncertainties. The forward-looking
statements contained herein are subject to certain risks and uncertainties that
could cause actual results to differ materially from those reflected in the
forward-looking statements. Factors that might cause such a difference include,
but are not limited to, those discussed under "Management's Discussion and
Analysis of Financial Condition and Results of Operations", as well as trends in
the general economy in the United States and France, competition in the retail
jewelry business, the seasonality of the retail jewelry business, the Company's
ability to increase comparable department sales and to open new departments, the
Company's estimate of the cost to address Year 2000 compliance issues, the
Company's dependence on certain host store relationships due to the
concentration of sales generated by such host stores, the availability to the
Company of alternate sources of merchandise supply in the case of an abrupt loss
of any significant supplier, the Company's ability to continue to obtain
substantial amounts of merchandise on consignment, the Company's dependence on
key officers, the Company's ability to integrate the former Diamond Park
departments (and any future acquisitions ) into its existing business, the
Company's high degree of leverage and the availability to the Company of
financing and credit on favorable terms and changes in regulatory requirements
which are applicable to the Company's business.
Readers are cautioned not to rely on these forward-looking statements,
which reflect management's analysis, judgment, belief or expectation only as of
the date hereof. The Company undertakes no obligation to publicly revise these
forward-looking statements to reflect events or circumstances that arise after
the date hereof. In addition to the disclosure contained herein, readers should
carefully review any disclosure of risks and uncertainties contained in other
documents the Company files or has filed from time to time with the Commission
pursuant to the Exchange Act.
20
<PAGE>
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of the Stockholders of the Company was held on June 22,
1998, pursuant to notice, at which Messrs. Norman S. Matthews and Warren C.
Smith, Jr. and Ms. Hanne M. Merriman were re-elected directors of the Company to
serve a three-year term in the class of directors whose term expires in 2001.
Such members have been elected to serve until the expiration of their respective
terms of office and until their successors are duly elected and qualified. At
such meeting, votes were cast as follows:
Name Votes for Votes Withheld
- ---- --------- --------------
Norman S. Matthews 6,309,264 -
Hanne M. Merriman 6,309,264 -
Warren C. Smith, Jr. 6,309,264 -
Messrs. Rohit M. Desai, Thomas H. Lee, David B. Cornstein, James Martin
Kaplan and Arthur E. Reiner continued to serve as members of the Board of
Directors after the meeting.
In addition, the proposal to approve an amendment to the Company's 1997
Long Term Incentive Plan, to increase by 500,000 the number of shares of the
Company's Common Stock available for issuance thereunder, was passed with
5,697,879 votes in favor, 776,285 votes against and zero votes abstaining.
Item 6. Exhibits and Reports on Form 8-K
A. Exhibits
2 Not applicable.
3 Not applicable.
4 Not applicable.
10 Not applicable.
11 Statement re: computation of earnings per share (not required
because the relevant computation can be clearly determined from
material contained in the financial statements).
15 Not applicable.
18 Not applicable.
19 Not applicable.
22 Not applicable.
21
<PAGE>
23 Not applicable.
24 Not applicable.
27 Financial Data Schedule.
99 Not applicable.
B. Reports on Form 8-K
On May 11, 1998, the Company filed with the Commission a Current Report on
Form 8-K regarding (i) the sale by the Company of $75.0 million aggregate
principal amount of its 9% Senior Debentures due May 1, 2008; (ii) the
concurrent sale (a) by the Company and certain stockholders of the Company of an
aggregate of 1,800,000 shares of Common Stock of the Company (of which 567,310
shares were sold by the Company and 1,232,690 shares were sold by the selling
stockholders) and (b) by Finlay Jewelry of $150.0 million aggregate principal
amount of its 8-3/8% Senior Notes due May 1, 2008; (iii) the amendment of the
Revolving Credit Agreement to increase the line of credit thereunder from $225.0
million to $275.0 million and to make certain other changes; and (iv) the
amendment of the Gold Consignment Agreement to renew the agreement through
December 31, 2001, to allow Finlay Jewelry to obtain up to the lesser of (x)
85,000 fine troy ounces or (y) $32.0 million worth of gold, and to make certain
other modifications.
22
<PAGE>
SIGNATURES
Pursuant to the requirement 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.
Date: September 11, 1998 FINLAY ENTERPRISES, INC.
By: /s/ Barry D. Scheckner
--------------------------------------
Barry D. Scheckner, Senior Vice
President and Chief Financial Officer
(As both a duly authorized officer of
Registrant and as principal financial
officer of Registrant)
23
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FINLAY
ENTERPRISES, INC. FORM 10-Q AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> JAN-30-1999
<PERIOD-START> FEB-01-1998
<PERIOD-END> AUG-01-1998
<CASH> 2,890
<SECURITIES> 0
<RECEIVABLES> 37,066
<ALLOWANCES> 0
<INVENTORY> 307,273
<CURRENT-ASSETS> 372,017
<PP&E> 102,378
<DEPRECIATION> 33,557
<TOTAL-ASSETS> 555,437
<CURRENT-LIABILITIES> 246,338
<BONDS> 225,000
0
0
<COMMON> 104
<OTHER-SE> 75,512
<TOTAL-LIABILITY-AND-EQUITY> 555,437
<SALES> 338,358
<TOTAL-REVENUES> 338,358
<CGS> 165,413
<TOTAL-COSTS> 165,413
<OTHER-EXPENSES> 164,648
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 17,685
<INCOME-PRETAX> (9,388)
<INCOME-TAX> (3,469)
<INCOME-CONTINUING> (5,919)
<DISCONTINUED> 0
<EXTRAORDINARY> 7,415
<CHANGES> 0
<NET-INCOME> (13,334)
<EPS-PRIMARY> (1.33)
<EPS-DILUTED> (1.33)
</TABLE>
