<PAGE>
UNITED STATES
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 March 28, 1998
[ ] 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: 0-19902
DAMARK INTERNATIONAL, INC.
(Exact name of Registrant as specified in its charter)
Minnesota 41-1551116
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or
organization)
7101 Winnetka Avenue North
Minneapolis, Minnesota 55428
(Address of principal executive offices)
(Zip code)
(612) 531-0066
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Act of 1934 during the
preceding 12 months, and (2) has been subject to such filing requirements for
the past 90 days.
Yes X No
--- ---
On May 6, 1998, there were 7,596,248 shares of Class A Common Stock, $.01 par
value, of Damark International, Inc. outstanding.
<PAGE>
DAMARK INTERNATIONAL, INC.
INDEX
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION PAGE
------
<S> <C>
Item 1: Financial Statements
Consolidated Statements of Operations
For the quarters ended March 28, 1998 and March 29, 1997 1
Consolidated Balance Sheets
As of March 28, 1998 and December 31, 1997 2
Consolidated Statements of Cash Flows
For the quarters ended March 28, 1998 and March 29, 1997 3
Notes to Consolidated Financial Statements 4
Item 2: Management's Discussion and Analysis of
Results of Operations and Financial Condition 7
PART II. OTHER INFORMATION
Item 6: Exhibits and Reports on Form 8-K 12
Signature 13
</TABLE>
<PAGE>
DAMARK INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
Quarter Ended
----------------------
March 28, March 29,
1998 1997
--------- ---------
<S> <C> <C>
Net revenues . . . . . . . . . . . . . . . . . . . . $135,136 $128,622
Cost of products and services. . . . . . . . . . . . 91,116 93,224
--------- ---------
Gross profit. . . . . . . . . . . . . . . . . . . 44,020 35,398
Marketing and administrative expenses. . . . . . . . 42,859 34,628
--------- ---------
Operating income. . . . . . . . . . . . . . . . . 1,161 770
Interest expense, net. . . . . . . . . . . . . . . . (853) (177)
Other (expense) income, net. . . . . . . . . . . . . (102) 14
--------- ---------
Income before income taxes. . . . . . . . . . . . 206 607
Income tax provision . . . . . . . . . . . . . . . . 71 206
--------- ---------
Net income. . . . . . . . . . . . . . . . . . . . $ 135 $ 401
--------- ---------
--------- ---------
Basic and diluted earnings per common share . . . $ 0.02 $ 0.05
--------- ---------
--------- ---------
</TABLE>
See accompanying notes to consolidated financial statements
1
<PAGE>
DAMARK INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
ASSETS
March 28, December 31,
1998 1997
----------- ------------
<S> <C> <C>
Current Assets:
Cash and cash equivalents . . . . . . . . . . . . $ 229 $ 474
Trade accounts receivable, net. . . . . . . . . . 76,020 69,788
Due from vendors and other, net . . . . . . . . . 5,554 7,785
Merchandise inventories . . . . . . . . . . . . . 61,325 70,744
Deferred catalog costs. . . . . . . . . . . . . . 13,511 9,849
Other . . . . . . . . . . . . . . . . . . . . . . 5,778 1,643
----------- ------------
Total current assets . . . . . . . . . . . . . 162,417 160,283
Property and Equipment, net. . . . . . . . . . . . . 39,908 38,351
Intangible and Other Assets, net . . . . . . . . . . 7,032 7,555
----------- ------------
Total Assets . . . . . . . . . . . . . . . . . $ 209,357 $ 206,189
----------- ------------
----------- ------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable. . . . . . . . . . . . . . . . . $ 57,740 $ 49,532
Accrued liabilities . . . . . . . . . . . . . . . 18,911 18,439
Deferred membership income, net . . . . . . . . . 22,067 20,938
Deferred income taxes . . . . . . . . . . . . . . 2,675 2,675
Borrowings under revolving credit facility. . . . 41,500 44,400
----------- ------------
Total current liabilities. . . . . . . . . . . 142,893 135,984
Deferred Income Taxes. . . . . . . . . . . . . . . . 1,542 1,542
Shareholders' Equity:
Class A Common Stock, $.01 par, 20 million
shares authorized; 7,636,248 and 8,025,964
shares issued and outstanding at
March 28, 1998 and December 31, 1997,
respectively. . . . . . . . . . . . . . . . . . 76 80
Class B Common Stock, $.01 par, 2 million
shares authorized; None issued and
outstanding . . . . . . . . . . . . . . . . . . -- --
Paid-in capital. . . . . . . . . . . . . . . . . . 71,580 75,452
Accumulated deficit. . . . . . . . . . . . . . . . (6,734) (6,869)
----------- ------------
Total shareholders' equity. . . . . . . . . . . 64,922 68,663
----------- ------------
Total Liabilities and Shareholders' Equity . $ 209,357 $ 206,189
----------- ------------
----------- ------------
</TABLE>
See accompanying notes to consolidated financial statements
2
<PAGE>
DAMARK INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(AMOUNTS IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
Quarter Ended
---------------------
March 28, March 29,
1998 1997
--------- ---------
<S> <C> <C>
OPERATING ACTIVITIES:
Net income. . . . . . . . . . . . . . . . . . . . . . $ 135 $ 401
Adjustments to reconcile net income to net cash
provided by (used for) operations:
Depreciation and amortization . . . . . . . . . 2,559 1,932
Gain on sale of property, equipment and land. . (2) (152)
Changes in working capital items -
Receivables. . . . . . . . . . . . . . . . . (4,001) (4,632)
Merchandise inventories. . . . . . . . . . . 9,419 (14,453)
Deferred catalog costs and other
current assets. . . . . . . . . . . . . . (7,797) (1,076)
Accounts payable and accrued liabilities . . 8,680 14,412
Deferred membership income . . . . . . . . . 1,129 (324)
--------- ---------
Net cash provided by (used for) operations . . . . 10,122 (3,892)
--------- ---------
INVESTING ACTIVITIES:
Property and equipment additions, net. . . . . . . (3,874) (1,066)
Other, net . . . . . . . . . . . . . . . . . . . . 283 (1)
--------- ---------
Net cash used for investing activities . . . . . . (3,591) (1,067)
--------- ---------
FINANCING ACTIVITIES:
(Payments) borrowings under revolving
credit facility, net. . . . . . . . . . . . . . (2,900) 5,000
Repurchase and retirement of common stock. . . . . (4,373) (74)
Net proceeds from employee exercise of stock options 497 33
--------- ---------
Cash (used for) provided by financing
activities. . . . . . . . . . . . . . . . . . . (6,776) 4,959
--------- ---------
Net decrease in cash and cash equivalents. . . . . (245) --
Cash and cash equivalents, beginning of period . . 474 2
--------- ---------
Cash and cash equivalents, end of period . . . . . $ 229 $ 2
--------- ---------
--------- ---------
SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid during the period. . . . . . . . . . $ 611 $ 79
Income taxes paid during the period. . . . . . . . $ 980 $ 450
--------- ---------
</TABLE>
See accompanying notes to consolidated financial statements
3
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION
The unaudited consolidated financial statements included herein have been
prepared by Damark International, Inc. (the "Company") pursuant to the
Rules and Regulations of the Securities and Exchange Commission. The
information furnished in these financial statements includes normal
recurring adjustments and reflects all adjustments, which are, in the
opinion of management, necessary for a fair presentation of such financial
statements. 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 such
rules and regulations. Although the Company believes that the disclosures
are adequate to make the information presented not misleading, it is
suggested that these financial statements be read in conjunction with the
audited consolidated financial statements and notes thereto included in the
Company's 1997 Annual Report to Shareholders and the Form 10-K filed with
the Securities and Exchange Commission.
Due to the seasonality of the Company's business, net revenues and
operating results for the quarter ended March 28, 1998 are not necessarily
indicative of the results to be expected for the full year.
The Company's fiscal year ends on December 31; however, each quarter ends
on the last Saturday of a thirteen-week period. As a result, the operating
results for the first quarter in 1998 and 1997 included 87 and 88 days,
respectively. In the Company's opinion, this difference in days does not
materially affect the comparability of the financial results for the
periods presented.
(2) EARNINGS PER COMMON SHARE
The Company adopted Statement of Financial Accounting Standards No. 128,
"Earnings Per Share" ("SFAS No. 128") as of December 31, 1997. Basic
earnings per common share ("EPS") is computed based on the weighted average
shares of common stock outstanding during the applicable periods while
diluted EPS is computed based on the weighted average shares of common
stock outstanding plus potential dilutive shares of common stock
outstanding during the applicable periods. Potential dilutive shares of
common stock include stock options, which have been granted to employees
and directors of the Company. In accordance with SFAS No. 128, EPS for the
quarter ended March 29, 1997 have been restated. The components of basic
and diluted EPS for the quarters ended March 28, 1998 and March 29, 1997,
in addition to EPS as previously reported for the quarter ended
March 29, 1997, are as follows:
<TABLE>
<CAPTION>
Weighted
Average Per
Net Shares Share
Income Outstanding Amount
---------- ----------- ---------
(in 000's) (in 000's)
Quarter ended March 28, 1998:
<S> <C> <C> <C>
Basic EPS . . . . . . . . . . . . . . . $ 135 7,859 $ 0.02
Assumed conversions of stock options. . 391
---------- ----------- ---------
Diluted EPS . . . . . . . . . . . . . . $ 135 8,250 $ 0.02
---------- ----------- ---------
---------- ----------- ---------
Quarter ended March 29, 1997:
Basic EPS . . . . . . . . . . . . . . . $ 401 8,054 $ 0.05
Assumed conversions of stock options. . 354
---------- ----------- ---------
Diluted EPS . . . . . . . . . . . . . . $ 401 8,408 $ 0.05
---------- ----------- ---------
---------- ----------- ---------
EPS, as previously reported . . . . . . $ 401 8,408 $ 0.05
---------- ----------- ---------
---------- ----------- ---------
</TABLE>
4
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
(3) FINANCING ARRANGEMENTS
The Company has a $60 million credit facility, available through December
31, 2000, consisting of a revolving line of credit and letter of credit
facility. The entire facility is available for stand-by and documentary
letters of credit and working capital requirements, in each case, subject
to a defined borrowing base. Borrowings outstanding under the line of
credit bear interest, at the Company's option, at the reference rate of
interest or LIBOR plus 1.50% and are collateralized by receivables,
inventories, intangible assets and property and equipment other than
buildings, land and vehicles. At March 28, 1998, the Company had borrowings
outstanding of $41.5 million under its revolving line of credit and letters
of credit outstanding of $5.2 million, issued primarily for the purchase of
inventory from foreign sources.
The agreement with respect to the credit facility includes covenants,
which, among other matters, require the Company to satisfy certain
financial tests and ratios and place certain limitations on incurring
additional indebtedness and on the level of capital expenditures. The
Company is in compliance with all covenants of its credit facility at March
28, 1998.
(4) COMMON STOCK AND STOCK OPTION TRANSACTIONS
During the first quarters of 1998 and 1997, the Company repurchased, in
open market transactions, 237,500 and 7,500 shares, respectively, of its
Class A Common Stock ("Common Stock"), at an aggregate cost of
approximately $2.4 million and $74,000, respectively.
On January 30, 1998, Mark A. Cohn, chairman, president and chief executive
officer of the Company, assigned to the Company an option to purchase
456,548 shares of Common Stock from David A. Russ, a former officer who has
retired from the Company. The exercise price of $8.95 per share as of
January 30, 1998 increases incrementally to $9.18 per share on June 1,
1998, on which date the option expires. During first quarter 1998, the
Company purchased 213,550 shares of Common Stock under this option at an
aggregate cost of approximately $1.9 million.
On January 30, 1998, the Company granted to Mark A. Cohn an option to
purchase 400,000 shares of the Company's Common Stock at $10.00 per share.
The option vests in five equal annual installments beginning in 1999 and
expires 10 years from the date of grant.
On January 30, 1998, the Company's Board of Directors approved a stock
purchase plan for non-employee directors consisting of 50,000 shares of the
Company's Common Stock. Under the plan, each director is limited to
purchasing a maximum of 5,000 shares per month, at a price equal to an
average of the last reported sale price for the Company's Common Stock for
the twenty trading days prior to notification.
(5) RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
On March 4, 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-1 "Accounting for the Costs of Computer
Software Developed for Internal Use" ("SOP 98-1"). SOP 98-1 provides
guidance on accounting for the costs of computer software that is
developed or obtained for internal use. SOP 98-1 is effective for fiscal
years beginning after December 15, 1998, however earlier application is
encouraged. The Company adopted SOP 98-1 during first quarter 1998 and
approximately $393,000 ($.03 per share) of direct costs were capitalized in
accordance with the pronouncement.
5
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
(6) SHAREHOLDER RIGHTS PLAN
On April 15, 1998, the Board of Directors adopted a Shareholder Rights Plan
(the "Plan") and subsequently declared a dividend of one Preferred Share
Purchase Right (the "Right") on each outstanding share of the Company's
Common Stock, payable on May 1, 1998 to shareholders of record on that
date. Each Right entitles its holder to purchase from the Company, one
one-hundredth of a share of a new Series C Junior Participating Preferred
Stock, par value $.01, at an exercise price of $65.00, subject to
adjustment. Generally, the Rights become exercisable only in the event a
third party accumulates, or announces a tender offer that would result in
the accumulation of 20 percent or more of the Company's Common Stock. In
that event, each Right allows its holder (except for the Rights held by the
20 percent shareholder) to purchase at the then-current exercise price of
the Rights, a number of shares of Common Stock having a market value of
twice such price. In addition, if the Company is acquired in a merger or
other business combination subsequent to the accumulation of 20 percent or
more of the Company's Common Stock, each Right entitles its holder to
purchase at the then-current exercise price of the Rights, a number of the
acquiring company's common shares having a market value of twice such
price. Prior to the acquisition by a third party of 20 percent or more of
the Company's Common Stock, the Rights are redeemable for $.01 per Right at
the option of the Board of Directors. The Rights expire on May 1, 2008.
6
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
RESULTS OF OPERATIONS
The selected financial data below under the caption "Statements of Operations
Data" for each of the periods presented are derived from the Company's
consolidated financial statements.
<TABLE>
<CAPTION>
Statements of Operations Data: First Quarter
-------------------------------------
($in millions) 1998 1997
----------------- -----------------
<S> <C> <C> <C> <C>
Net revenues. . . . . . . . . . $135.1 100.0% $128.6 100.0%
Gross profit. . . . . . . . . . 44.0 32.6 35.4 27.5
Marketing and administrative
expenses. . . . . . . . . . . 42.9 31.7 34.6 26.9
Operating income. . . . . . . . 1.2 0.9 .8 0.6
Net income. . . . . . . . . . . $ .1 0.1% $ .4 0.3%
------- ------ ------- ------
------- ------ ------- ------
</TABLE>
NET REVENUES
Net revenues of $135.1 million for the quarter ended March 28, 1998 increased
$6.5 million, or 5.1% over net revenues for the comparable period last year.
The increase in net revenues was primarily due to the continued success of the
Company's expanded membership portfolio and the addition of client services
marketing to the Company's marketing channels, offset by lower sales
productivity from the back-end member segment. Net revenues include membership
fees earned from the Company's clubs, net product sales, shipping and handling
revenue and list revenue.
MEMBERSHIP REVENUE
Membership fees increased 56% to $21.9 million in first quarter 1998, as
compared to $14.1 million for first quarter 1997. This increase in
membership fees was largely due to continued strategic advancements made by
the Company over the past year in the membership services business. During
1997, the Company began to test market its membership programs on behalf of
large customer list-owning clients (client service channel) and the Company
increased its use of outbound telemarketing services to market its expanded
portfolio of membership programs (direct-to-consumer channel). Within the
Company's nascent client service channel, two full-scale relationships with
nationally recognized financial institutions were secured during first
quarter 1998 and one large test relationship was secured subsequent to
quarter end.
In total, approximately 317,000 net new members were added to the Company's
clubs in first quarter 1998, representing a 76.1% increase over the 180,000 net
new members acquired during first quarter 1997. Of this total, 67,000 net new
members were added through the client service channel and approximately 250,000
net new members were acquired through the direct-to-consumer channel.
During first quarter 1998, club membership renewals of 228,000 increased 16%
over the comparable period in the prior year. As of March 28, 1998, club
membership totaled 1,442,000 members.
<TABLE>
<CAPTION>
Club Membership
(in thousands)
------------------
<S> <C> <C>
Club membership, at December 31, 1997
and 1996. . . . . . . . . . . . . . . 1,358 1,044
Quarter-to-Date Activity:
New club members.. . . . . . . . . . . . 317 180
Club members renewed . . . . . . . . . . 228 197
Expiration & cancellations . . . . . . . (461) (338)
------- -------
Net increase in club membership . . . 84 39
Club membership, at end of first
quarter 1998 and 1997 . . . . . . . 1,442 1,083
------- -------
------- -------
</TABLE>
DIRECT-TO-CONSUMER PRODUCT SALES
Approximately 37.7 million catalogs were mailed during first quarter 1998 as
compared to 34.2 million catalogs for the comparable period in the prior year.
Sales per catalog mailed for first quarter 1998 were $3.54, an 11.1% decline
from first quarter 1997, reflecting softness in response to the members only
catalogs which have the highest sales productivity rates. The Company continues
to review its marketing and merchandising strategies in an effort to improve
sales productivity.
7
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
(CONTINUED)
NET REVENUES (CONTINUED)
DIRECT-TO-CONSUMER PRODUCT SALES (CONTINUED)
The following table reflects catalog statistics for first quarter 1998 and 1997:
<TABLE>
<CAPTION>
Catalog Statistics: First Quarter
------------------- --------------------
1998 1997
--------- ---------
<S> <C> <C>
Number of catalogs mailed
(in thousands). . . . . . . . . . . . 37,700 34,200
Response rate - total company. . . . . . 2.12% 2.33%
Sales per catalog:
Front-end prospect. . . . . . . . . . $ 2.13 $ 2.03
Back-end customers. . . . . . . . . . $ 3.22 $ 3.64
Back-end members. . . . . . . . . . . $ 6.60 $ 8.16
Total company . . . . . . . . . . . . $ 3.54 $ 3.98
--------- ---------
--------- ---------
Average order - total company. . . . . . $ 167 $ 171
--------- ---------
--------- ---------
</TABLE>
Product return rates, as a percentage of gross shipped product sales, improved
to 13.2% for first quarter 1998, compared to 15.7% for first quarter 1997. This
improvement from prior year's level positively reflects the change made to the
Company's return policy in 1997. The revised policy shortened the overall return
period bringing the Company's policy more in line with industry standards. The
combination of the revised policy and the Company's increased emphasis on
selection of better quality products and more financially responsible vendors
resulted in continued improvement in product return rates for first quarter
1998.
GROSS PROFIT
The overall gross profit margin as a percentage of net revenues for first
quarter 1998 increased to 32.6% compared to first quarter 1997's gross profit
margin of 27.5%. The improved gross profit margin was the result of increased
membership fees which typically carry larger gross product margins than product
sales. Revenues generated by the Company's membership programs increased as a
result of the increase in club members added during first quarter 1998, improved
member retention and increases in selected club membership fees.
The Company's overall product profit margin is affected by the mix of sales
among the Company's six primary product segments, the mix of sales to Preferred
Buyers' Club and Insiders members who receive a 10% discount, and shipping and
handling revenue generated from product shipments. Products such as computers,
consumer electronics and home office products typically have higher price points
and lower percentage profit margins, yet provide higher actual dollar margin
contribution per unit. Conversely, product categories with lower price points,
such as home decor, home improvements and sporting goods/fitness products,
generally have higher percentage profit margins, but provide less actual dollar
margin contribution per unit.
<TABLE>
<CAPTION>
First Quarter
--------------------
1998 1997
--------- ---------
<S> <C> <C>
Percentage of Sales by Customer Segment:
Front-end prospect. . . . . . . . . . 29.0% 25.0%
Back-end customers. . . . . . . . . . 23.0 25.0
Back-end members. . . . . . . . . . . 48.0 50.0
--------- ---------
100.0% 100.0%
--------- ---------
--------- ---------
Percentage of Sales by Product Segment:
Computers . . . . . . . . . . . . . . 31.0% 32.7%
Consumer Electronics. . . . . . . . . 17.5 17.7
Home Decor. . . . . . . . . . . . . . 15.7 13.9
Home Improvements . . . . . . . . . . 15.2 13.3
Home Office . . . . . . . . . . . . . 15.1 16.4
Sporting goods/Fitness. . . . . . . . 5.5 6.0
--------- ---------
100.0% 100.0%
--------- ---------
--------- ---------
</TABLE>
8
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
(CONTINUED)
GROSS PROFIT (CONTINUED)
As indicated by the table, first quarter 1998's percentage of sales derived from
the home decor and home improvements product segments reflected an increase over
first quarter 1997. This increase is primarily due to the Company's expanded
offerings of the HOME COMFORTS catalog and related home product offerings, in
conjunction with the recently introduced Essentials for Home club program.
MARKETING AND ADMINISTRATIVE EXPENSES
Marketing and administrative expenses totaled $42.9 million in first quarter
1998 representing 31.7% of net revenues for first quarter 1998, compared to
$34.6 million, or 26.9% of net revenues for first quarter 1997. The
increase in marketing and administrative expenses reflects certain costs
incurred related to the Company's continued expansion into the membership
services industry resulting in increased usage of outbound telemarketing,
the opening of the Company's client service telemarketing center, and costs
associated with the enhancement of the Company's infrastructure capabilities
and information technology resources, partially offset by the Company's new
policy of capitalizing certain direct software costs. The softness in the
Company's back-end member sales productivity also negatively impacted
marketing and administrative expense leverage as a percent of net revenues.
INTEREST EXPENSE
Net interest expense for first quarter 1998 increased $676,000 over first
quarter 1997 as a result of increased borrowings under the Company's
revolving credit facility, necessary to fund working capital requirements
related to its installment billing plans. During 1998, offerings of
longer-duration installment billing plans will be limited and as a result
the Company anticipates that interest costs will decline throughout the
remainder of the year.
INCOME TAX PROVISION
The Company's effective tax rate was 34.5% and 33.9% for first quarter 1998 and
1997, respectively.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity, as measured by its net working capital, was $19.5
million at March 28, 1998, as compared with $24.3 million at December 31, 1997.
The Company's current ratio was 1.1 to 1.0 at March 28, 1998 as compared to 1.2
to 1.0 at December 31, 1997. The decline in the Company's net working capital
and current ratio from year-end is primarily due to the reduction of inventory
levels and timing of inventory receipts.
Cash provided by operations totaled $10.1 million for first quarter 1998, as
compared with cash used for operations of $3.9 million for the same period in
1997. Compared to 1997 year-end, first quarter 1998 net working capital
requirements decreased due to the leveraging of accounts payable and reductions
in merchandise inventories, partially offset by increases in deferred catalog
costs. Deferred membership income, recorded net of initial direct
acquisition-related costs, increased to $22.1 million at March 28, 1998 from
$20.9 million at year-end 1997, due to increased membership revenues.
During first quarter 1998, the Company made capital expenditures of
approximately $3.9 million, compared with $2.3 million during first quarter
1997. First quarter 1998 capital expenditures included costs associated with the
closing of an existing telemarketing center and the opening of a new client
services telemarketing center in Brooklyn Center, MN. Throughout fiscal 1998,
the Company will continue to evaluate its needs for additional investments to
enhance customer service and satisfaction, information technology, and
infrastructure capability, in addition to achieving operational efficiencies.
Management currently anticipates that it will spend in the range of $8 to $10
million on capital expenditures during 1998.
9
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
(CONTINUED)
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
The Company's computer systems and those of third parties with whom it does
business will be affected when the year changes to 2000, commonly known as the
"year 2000 issue." The Company is currently conducting an internal study to
determine the full scope and related costs of modifying its computer systems to
ensure proper processing of transactions into and beyond the year 2000. The
Company has begun to incur costs associated with addressing the year 2000 issue.
Although the total costs to be incurred are not expected to be significant,
failure to achieve timely completion of required modifications or conversions or
failure of the third parties with whom the Company has relationships (vendors,
clients, credit card processors and others) to be year 2000 compliant could have
a material adverse impact on the operations and financial condition of the
company. Maintenance or modification costs incurred by the Company will be
expensed and costs of new software (whether purchased or internally developed)
will be capitalized and amortized over its applicable useful life.
The Company has a $60 million credit facility, available through December 31,
2000, consisting of a revolving line of credit and letter of credit facility.
The entire facility is available for stand-by and documentary letters of credit
and working capital requirements, in each case, subject to a defined borrowing
base. Borrowings outstanding under the line of credit bear interest, at the
Company's option, at the reference rate of interest or LIBOR plus 1.50% and are
collateralized by receivables, inventories, intangible assets and property and
equipment other than buildings, land and vehicles. At March 28, 1998, the
Company had borrowings outstanding of $41.5 million under its revolving line of
credit and letters of credit outstanding of $5.2 million, issued primarily for
the purchase of inventory from foreign sources.
The Company offers its customers varying installment billing plans with no
finance charges payable to the Company. As a result, the Company supported
installment plan receivables aggregating $48.6 million and $50.5 million at
March 28, 1998 and December 31, 1997, respectively. The Company's receivable
balance at any time is generally reflective of sales volume fluctuations, as
approximately 30% to 40% of its net revenues are financed by customers on one of
the Company's installment billing plans. Receivables, on an overall basis, are
expected to decrease during 1998 as a result of the Company limiting its
offerings of the longer-duration installment billing plans. The Company will
continue to offer certain short-term installment billing plans to its customers,
requiring the allocation of capital resources expected to be funded from
internal operations as well as availability under the revolving credit facility.
In December 1996, the Company's Board of Directors authorized the Company to
repurchase up to 400,000 shares of its Common Stock. During the first quarter of
1998, the Company repurchased, in open market transactions, 237,500 shares of
its Common Stock at an aggregate cost of approximately $2.4 million.
On January 30, 1998, Mark A. Cohn, chairman, president and chief executive
officer of the Company, assigned to the Company an option to purchase 456,548
shares of Common Stock from David A. Russ, a former officer who has retired from
the Company. The exercise price of $8.95 per share as of January 30, 1998
increases incrementally to $9.18 per share on June 1, 1998, on which date the
option expires. During first quarter 1998, the Company purchased 213,550 shares
of Common Stock under this option at an aggregate cost of approximately $1.9
million.
On January 30, 1998, the Company granted to Mark A. Cohn an option to purchase
400,000 shares of the Company's Common Stock at $10.00 per share. The option
vests in five equal annual installments beginning in 1999 and expires 10 years
from the date of grant.
On January 30, 1998, the Company's Board of Directors approved a stock purchase
plan for non-employee directors consisting of 50,000 shares of the Company's
Common Stock. Under the plan, each director is limited to purchasing a maximum
of 5,000 shares per month, at a price equal to an average of the last reported
sale price for the Company's Common Stock for the twenty trading days prior to
notification.
The Company expects to fund its operations, expected working capital
requirements and capital expenditures for the remainder of 1998 from cash
generated from operations and available borrowing capacity under its current
credit facility.
10
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
(CONTINUED)
SEASONALITY
The Company's business is subject to significant seasonal variations in
consumer demand, which the Company believes are generally associated with the
direct marketing and retail industries. Historically, the Company's net
revenues have been the largest during the fourth calendar quarter and a
significant portion of its earnings have been realized during that period.
The Company's operating results during this period may be affected by holiday
spending patterns, as well as the timing and effectiveness of catalog
mailings and general economic and other conditions. In anticipation of its
peak selling season, the Company hires additional flex-time employees in its
telemarketing, order processing and distribution areas, increases its
merchandise inventories, and incurs significant catalog production and
mailing costs. The Company's annual operating results could be adversely
affected if, among other factors, the Company's revenues were to be
substantially below seasonal expectations during the October through December
timeframe, or if a sufficient number of qualified employees would not be
available on a flex-time or other non-permanent basis.
INFLATION
Excluding increases in postage and paper costs, inflation has not had, and the
Company does not expect it to have, a material impact on operating results.
There can be no assurances, however, that the Company's business will not be
affected by inflation in the future. The Company could be adversely impacted by
substantial cost increases for paper and postage, as significant cost increases
in these areas could have a material impact on advertising and other promotional
costs in future periods. For the remainder of fiscal year 1998, the Company
expects a modest increase to the cost of paper and postage to occur during the
second half of the year.
FORWARD-LOOKING INFORMATION
Forward-looking statements contained herein are made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. Certain
important factors exist that could cause results to differ materially from those
anticipated by some of the statements made above. Investors are cautioned that
all forward-looking statements involve risks and uncertainty. The factors,
among others, that could cause actual results to differ materially include:
consumer spending and debt levels; interest rates; failure of the Company or
significant third parties to achieve year 2000 compliance, including material
costs being incurred in connection with such compliance; changes or consumer
perceptions of changes in the domestic and/or international economic and
political climates; continuity of relationships with or purchases from major
vendors; arrangements with list owners; changes in marketing strategy; labor
shortages; changes in product mix; telemarketing center integration; competitive
pressures on sales, pricing and membership services; availability of financing
on favorable terms; higher than expected installment plan default rates; and
increases in catalog production, product, postage, shipping and other costs
which cannot be recovered through improved pricing of products and services.
11
<PAGE>
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. EXHIBITS:
Exhibit 4 - Shareholder Rights Plan. Filed with the
Company's current report on Form 8-K, filed on May 4, 1998,
incorporated by reference herein.
Exhibit 27 - Financial Data Schedule
b. REPORTS ON FORM 8-K:
Filed during the quarter for which this report is filed:
Registrant did not file any reports on Form 8-K during the
quarter ended March 28, 1998.
Filed subsequent to the end of the quarter for which this
report is filed:
Form 8-K dated May 4, 1998 reporting the adoption of the
Shareholder Rights Plan.
12
<PAGE>
SIGNATURE
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.
DAMARK INTERNATIONAL, INC.
Date: May 8, 1998 By: /s/ Kim H. Plahn
----------------
Kim H. Plahn
Vice President - Finance
13
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