SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 0-22696
DISC GRAPHICS, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-3678012
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10 Gilpin Avenue, Hauppauge, New York 11788-8831
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (631) 234 -1400
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 and 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 30, 1999, 5,518,352 shares of the Registrant's Common Stock, par
value $.01, were outstanding.
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DISC GRAPHICS, INC.
FORM 10-Q
Quarter Ended September 30, 1999
INDEX
Page
PART I - FINANCIAL INFORMATION
Item 1 Financial Statements
Consolidated Balance Sheets as of September 30, 1999 (unaudited)
and December 31, 1998.......................................... 3
Consolidated Statements of Income for the Three and
Nine Months Ended September 30, 1999 and 1998 (unaudited) ..... 4
Consolidated Statements of Cash Flows for the Nine Months
Ended September 30, 1999 and 1998 (unaudited) ................. 5
Notes to Unaudited Consolidated Financial Statements ............... 6
Item 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations ......................................9
Item 3 Quantitative and Qualitative Disclosures About Market Risk..........14
PART II - OTHER INFORMATION
Item 1 Legal Proceedings ..................................................16
Item 2 Changes in Securities and Use of Proceeds ..........................16
Item 3 Defaults Upon Senior Securities ....................................16
Item 4 Submission of Matters to a Vote of Security Holders ................16
Item 5 Other Information ..................................................16
Item 6(a) Exhibits ...........................................................16
Item 6(b) Reports on Form 8-K ................................................16
Signatures....................................................................17
Exhibit Index ................................................................18
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PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
<TABLE>
DISC GRAPHICS, INC.
Consolidated Balance Sheets
As of September 30, 1999 (unaudited) and December 31, 1998
September 30, 1999
(unaudited) December 31, 1998
------------------- -----------------
Assets
Current assets:
<S> <C> <C>
Cash $ 154,394 $ 43,313
Accounts receivable, net of allowance for doubtful accounts
of $1,360,000 and $1,332,000, respectively 14,116,074 12,721,102
Inventories 3,030,402 2,379,627
Prepaid expenses and other current assets 401,438 271,462
Deferred income taxes 963,000 963,000
----------- -------
Total current assets 18,665,308 16,378,504
Plant and equipment, net 11,502,539 9,997,743
Goodwill, net of amortization of $376,000 and $222,000, respectively 6,363,269 1,265,210
Covenant not to compete, net of amortization of $50,000 950,000 - - - -
Security deposits and other assets 2,699,650 730,084
---------- --------
Total assets $ 40,180,766 $ 28,371,541
========== ==========
Liabilities and Stockholders' Equity
Current liabilities:
Current maturities of equipment notes payable $ 77,010 $ 123,948
Current portion of long-term debt 387,500 112,613
Current maturities of capitalized lease obligations payable 1,462,230 1,433,328
Accounts payable and accrued expenses 7,438,127 5,208,478
Income taxes payable 747,073 815,952
----------- ----------
Total current liabilities
10,111,940 7,694,319
Long term debt, less current maturities 9,335,825 1,415,625
Equipment notes payable, less current maturities - - - - - 53,325
Capitalized lease obligations payable, less current maturities 3,720,519 3,944,868
Deferred income taxes 1,323,000 1,323,000
---------- ----------
Total liabilities 24,491,284 14,431,137
Stockholders' equity:
Preferred stock:
$.01 par value; authorized 5,000 shares; no shares issued
and outstanding - - - - - - - - - -
Common stock:
$.01 par value; authorized 20,000,000 shares; issued
5,548,761 shares 55,488 55,488
Additional paid in capital 5,009,671 5,009,671
Retained earnings 10,655,929 8,906,581
----------- ---------
15,721,088 13,971,740
Less:
Treasury stock, at cost, 30,409 and 30,349 shares at
September 30, 1999 and December 31, 1998, respectively (31,606) (31,336)
-------- --------
Total stockholders' equity 15,689,482 13,940,404
----------- ----------
Total liabilities and stockholders' equity $ 40,180,766 $ 28,371,541
=========== ===========
See accompanying notes to unaudited Consolidated Financial Statements
</TABLE>
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<TABLE>
DISC GRAPHICS, INC.
Consolidated Statements of Income
For the Three and Nine Months Ended September 30, 1999 and 1998
(unaudited)
Three Months Ended September 30 Nine Months Ended September 30
1999 1998 1999 1998
----------------- ------------------ ----------------- -------------
<S> <C> <C> <C> <C>
Net sales $ 18,972,403 $ 15,674,053 $ 48,575,073 42,592,181
Cost of sales 14,069,134 11,225,936 36,156,572 31,406,824
----------- ----------- ----------- ----------
Gross profit 4,903,269 4,448,117 12,418,501 11,185,357
Operating Expenses:
Selling and shipping 1,833,226 1,725,206 4,894,901 4,554,107
General and administrative 1,571,153 968,397 4,127,199 3,293,586
---------- -------- ---------- ---------
Operating income 1,498,890 1,754,514 3,396,401 3,337,664
Interest expense, net 250,537 170,202 482,052 511,812
-------- -------- -------- -------
Income before provision for income taxes 1,248,353 1,584,312 2,914,349 2,825,852
Provision for income taxes 500,000 633,724 1,165,000 1,125,339
-------- -------- ---------- ---------
Net income $ 748,353 $ 950,588 $ 1,749,349 $ 1,700,513
========== =========== =========== ==========
Net income per share:
Basic $ 0.14 $ 0.17 $ 0.32 $ 0.31
=========== ============ ============ ===========
Diluted $ 0.14 $ 0.17 $ 0.32 $ 0.31
=========== ============ ============ ===========
Weighted average number of shares outstanding
Basic 5,518,352 5,499,378 5,518,364 5,459,789
Diluted 5,534,731 5,518,486 5,544,583 5,476,566
See accompanying notes to unauditied Consolidated Financial Statements
</TABLE>
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<TABLE>
DISC GRAPHICS, INC.
Consolidated Statement of Cash Flows
For the Nine Months Ended September 30, 1999 and 1998
(unaudited)
September 30, 1999 September 30, 1998
------------------ ------------------
Cash flows from operating activities:
<S> <C> <C>
Net income $ 1,749,349 $ 1,700,513
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization 1,680,160 1,489,437
Provison for doubtful accounts 357,980 402,499
Changes in assets and liabilities, net of the effect of
business acquired:
Accounts receivable (682,532) (1,554,638)
Inventory (459,934) (584,024)
Prepaid expenses and other current assets (113,260) 55,729
Accounts payable and accrued expenses 954,690 950,018
Income taxes payable (68,879) 558,788
Security deposits and other assets (1,900,465) (196,292)
---------- --------
Net cash provided by operating activities 1,517,109 2,822,030
----------- --------------
Cash flows from investing activities:
Capital expenditures (918,173) (702,803)
Purchase of net assets of business acquired (3,574,829) 18,211
Proceeds from sale of equipment - - - - 21,900
------------ ----------
Net cash used in investing activities (4,493,002) (662,692)
---------- --------
Cash flows from financing activities:
Repayments of long-term debt, net of proceeds 4,382,854 (1,022,028)
Principal payments of equipment notes payable (100,263) (236,722)
Principal payments of capital lease obligations (1,195,347) (1,574,178)
Payments of notes receivable - - - - 745,589
Purchase of treasury stock (270) (1,323)
Purchase of warrants - - - - (34,375)
------------ --------
Net cash provided by (used in) financing activities 3,086,974 (2,123,037)
---------- -----------
Net increase in cash 111,081 36,301
Cash at December 31 43,313 31,753
Cash at September 30 $ 154,394 $ 68,054
---------------- -----------------
Cash paid during the year for:
Interest $ 453,989 $ 539,005
================== ===================
Income taxes $ 1,189,354 $ 580,250
================= =================
See accompanying notes to unauditied Consolidated Financial Statements
</TABLE>
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DISC GRAPHICS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
General
The consolidated financial statements included herein have been
prepared by Disc Graphics, Inc. and subsidiaries (the "Company") without audit.
Certain information and footnote disclosures normally included in the
consolidated financial statements prepared in accordance with generally accepted
accounting principles have been omitted pursuant to the rules and regulations of
the Securities and Exchange Commission. Although the Company believes that the
disclosures herein are adequate to make the information presented not
misleading, it is recommended that these financial statements be read in
conjunction with the audited Consolidated Financial Statements and the Notes
thereto for the year ended December 31, 1998 included in the Company's Annual
Report on Form 10-K for its fiscal year ended December 31, 1998. The December
31, 1998 figures included herein were derived from such audited Consolidated
Financial Statements. In the opinion of management, the information furnished
herein reflects all adjustments that are necessary to present fairly such
information.
Acquisition
On July 1, 1999, the Company completed the acquisition of substantially
all of the assets and certain liabilities of Contemporary Color Graphics, Inc.
("CCG") (the "Acquisition"), a commercial printer. The Company paid $3.5 million
of the purchase price in cash, and paid the balance by issuing a promissory note
in the amount of $1.0 million, a supplemental note in the amount of $1.0
million, convertible debentures in the amount of $0.6 million and assumed debt
of approximately $1.3 million, subject to adjustment. The Company paid the cash
portion of the purchase price from borrowings under its revolving credit
facility. Principal payments will commence on August 1, 2000 with respect to the
promissory note and debentures, and on August 1, 2003 with respect to the
supplemental note. CCG has the option of converting the debentures into shares
of the Company's common stock, valued at $5.50 per share, at least 30 days
before any principal or interest payment on the debentures. The Acquisition was
accounted for using the purchase method of accounting and in accordance with
generally accepted accounting principles. The allocation of the purchase price
has been based on management's best estimate of the fair value of the assets and
liabilities assumed as of July 1, 1999.
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Purchase Price
Cash $3,500,000
Promissory note 1,000,000
Supplemental Promissory note 1,000,000
Convertible Debenture 600,000
Transaction costs 75,000
-------------
6,175,000
CCG's net assets, at cost 37,200
Fair value adjustment of
plant and equipment (114,500)
--------
Net Assets (77,300)
-------
6,252,300
Allocated to
Covenant not to compete 1,000,000
---------
Excess of cost over fair value of business acquired $5,252,300
==========
<PAGE>
The following unaudited pro forma results have been prepared for
comparative purposes only and include certain adjustments such as (i) additional
amortization expense due to goodwill (15 years) and the covenant not to compete
(5 years) resulting from the Acquisition and (ii) increased interest expense due
to cash borrowed under the Company's financing agreement for the payment of the
purchase price, the repayment of CCG's notes payable and the note, supplemental
note and convertible debenture issued by the Company. These unaudited pro forma
results are not necessarily indicative of the results of operations which
actually would have resulted had the purchase been effected on January 1, 1998,
nor of future results of operations of the consolidated entities.
Nine Months Ended Nine Months Ended
September 30, 1999 September 30, 1998
(In thousands, except per share amounts)
Net sales $52,193 49,121
Net income 1,549 1,639
Net income per share:
Basic .28 .30
Diluted .28 .30
Earnings Per Share
Earnings per share are computed in accordance with the provisions of
Statement of Financial Accounting Standards (SFAS) No. 128. Basic earnings per
share are computed by dividing income available to common stockholders (which,
for the Company, equals its recorded net income) by the weighted average number
of common shares outstanding during the period. Diluted earnings per share
reflect the potential dilution that would occur if all securities exercisable or
exchangeable for or convertible into shares of common stock that were
outstanding during the period, such as stock options, warrants and convertible
debentures, were exercised or exchanged for or converted into shares of common
stock. The computation of weighted average shares outstanding used in the
calculation of diluted earnings per share does not include shares of common
stock that would be issuable upon the exercise of the Company's outstanding
Class A Warrants or the conversion of the convertible debenture, because the
exercise price of such warrants and the conversion rate of such debentures
exceeded the market price of the Company's common stock during the relevant
periods.
Inventories
Inventories consist of the following:
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September 30, 1999 December 31, 1998
Raw materials $1,933,811 $1,577,349
Work-in-process 868,718 659,552
Finished goods 227,873 142,726
----------- ----------
$3,030,402 $2,379,627
========== ==========
Non-Cash Financing and Investing Activities
Capital lease obligations of $999,900 were incurred in 1999 when the
Company entered into leases for new machinery and equipment.
New Accounting Pronouncements
The Financial Accounting Standards Board has issued Statement No. 133
related to "Accounting for Derivative Instruments and Hedging Activities".
Statement No. 133 is not expected to have a material impact on the consolidated
financial statements of the Company.
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DISC GRAPHICS, INC.
This Form 10-Q contains predictions, projections and other statements
about the future that are intended to be "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. Such
forward-looking statements involve known and unknown risks, uncertainties, and
other important factors that could cause the actual results, performance or
achievements of the Company, or industry results, to differ materially from
those expressed or implied by such statements. Such risks, uncertainties, and
other important factors include, among others: the Company's ability to sustain
current growth rates in net sales of certain products; the effects of recent
equipment purchases on the Company's operations; the Company's ability to
continue to improve efficiencies through the purchase or lease of equipment; the
effects of the Company's ISO certification efforts; the amounts required for
capital expenditures in future periods; the availability and cost of materials;
potential effects of Year 2000 problems on the Company's business; and
continuing industry-wide pricing pressures and other industry conditions. Such
forward-looking statements speak only as of the date of this Report, and the
Company disclaims any obligation or undertaking to update such statements. Each
forward- looking statement that the Company believes is material is accompanied
by one or more cautionary statements identifying important factors that could
cause actual results to differ materially from those described in the
forward-looking statement. The cautionary statements are set forth following the
forward-looking statement, in other sections of this Form 10-Q, and/or in the
Company's other documents filed with the Securities and Exchange Commission,
whether or not such documents are incorporated herein by reference. In assessing
forward-looking statements, readers are urged to read carefully all such
cautionary statements.
Item 2. Management's Discussion and Analysis of Financial Condition And
Results of Operations
General
The following discussion and analysis of the financial condition and
results of operations of Disc Graphics, Inc. and its subsidiaries (collectively
"Disc Graphics" or the "Company") for the three- and nine-month periods ended
September 30, 1999 should be read in conjunction with the unaudited Consolidated
Financial Statements and the Notes thereto included elsewhere in this Report,
and the Company's Annual Report on Form 10-K for its fiscal year ended December
31, 1998, as filed with the Securities and Exchange Commission (the "1998 Form
10-K"). Results for the periods reported herein are not necessarily indicative
of results that may be expected for the full year or in future periods.
Results of Operations for the Three Months Ended September 30, 1999 and 1998
Net Sales
Net sales for the three months ended September 30, 1999 were approximately
$18,972,000 compared to approximately $15,674,000 for the same period in 1998,
representing an increase of approximately $3,298,000, or 21.0%. This increase
was primarily attributable to an approximate $1,484,000 increase in net sales of
commercial packaging products, as well as increases in net sales of all other
product categories. The increase in net sales of commercial packaging products
resulted from the Company's acquisition on July 1, 1999 of Contemporary Color
Graphics, Inc. ("CCG") (the "Acquisition"). The Company continues to experience
industry-wide pressure to reduce the per-unit price in most categories of
products, and has somewhat offset price reductions by increasing the unit volume
of sales of these products. See "Gross Profit," below.
Gross Profit
The Company recognized gross profit of approximately $4,903,000 (a 25.8%
profit margin) for the three months ended September 30, 1999, as compared to
approximately $4,448,000 (a 28.4% profit margin) for the same period in 1998,
representing an increase of approximately $455,000, or 10.2%. The increased
dollar amount is primarily due to the increase in net sales. The decrease of 2.6
percentage points in gross profit margin is due to industry wide pressure to
reduce the per-unit price in
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most product categories, along with expenses related to the installation of the
Company's new 56 inch high-speed diecutter and facility preparation for its 56
inch seven color press. The installation of this new equipment and the expansion
of our Hauppauge facility, by leasing additional space, will continue into the
first several months of the year 2000 and may continue to have an adverse impact
on earnings. The Company believes that its integration of this new equipment
should enhance its operating efficiencies and improve its ability to compete in
new markets, but there can be no assurance that the Company will be able to
achieve these goals. See "Liquidity and Capital Resources".
Selling, General, and Administrative Expenses
Selling, general and administrative ("SG&A") expenses for the three months
ended September 30, 1999 were approximately $3,404,000 (17.9% of net sales)
compared to approximately $2,694,000 (17.2% of net sales) for the same period a
year ago, an increase of approximately $711,000. The increase in dollar amount
of SG&A is primarily due to normal operating expenses and the amortization of
goodwill, in each case associated with the Acquisition. In addition, on April
29, 1999, the Company entered into a consulting agreement with a Quality
Registrar to assist the Company in becoming ISO certified. The Company expects
to receive its ISO 9001 certification in the year 2000. The Company expects
there to be direct consulting and indirect operating expenses associated with
this project over the next year, which may impact future operating results. The
Company believes that this investment will ultimately transform the processes of
the organization to achieve improved product quality delivered on time. The
Company believes that this commitment to improve customer satisfaction should
enhance its competitive edge in current and new markets, but there can be no
assurance of this. The remainder of the increase is due to normal inflationary
increases, and revenue related expenses such as freight to customers and
commissions. See "Liquidity and Capital Resources".
Net Interest Expense
Net interest expense for the three months ended September 30, 1999 was
approximately $251,000 compared to approximately $170,000 for the same period in
the prior year. Interest expense includes interest payable under the Company's
revolving credit facility, its capital lease obligations on equipment and its
note, supplemental note and debenture issued in connection with the Acquisition.
The increase in net interest expense is due to increased borrowings under the
Company's revolving credit facility and accrued interest payable on the note,
supplemental note and debenture related to the Acquisition.
Income Taxes
The provision for income taxes for the three months ended September 30,
1999 was $500,000 compared to approximately $635,000 for the same period in
1998, a decrease of approximately $135,000. This decrease was due to the
decrease in pre-tax income, with no significant change in the effective tax
rate.
Net Income
Net income for the three months ended September 30, 1999 was approximately
$748,000, compared to approximately $951,000 for the same period in the prior
year, a decrease of approximately $202,000, or 21.3%. This decrease was
primarily due to industry wide pricing pressure which has adversely impacted
SG&A, and accordingly, gross margins.
Results of Operations for the Nine Months Ended September 30, 1999 and 1998
Net Sales
Net sales for the nine months ended September 30, 1999 were approximately
$48,575,000 compared to approximately $42,592,000 for the same period in 1998,
representing an increase of approximately $5,983,000, or 14.0%. The product
categories that significantly contributed to the increase in net sales for
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the 1999 nine month period are video and entertainment software packaging and
music/audio packaging. Within the video and entertainment software category,
entertainment software, specifically computer games, continues to be the primary
driver in sales growth. Music/audio packaging sales also increased as a result
of increased unit volume within this category, which enabled the Company to
offset pricing pressures in the music/video packaging industry.
Gross Profit
The Company recognized gross profit of approximately $12,419,000 (a 25.6%
profit margin) for the nine months ended September 30, 1999, as compared to
approximately $11,185,000 (a 26.3% profit margin) for the same period in 1998,
representing an increase of approximately $1,233,000, or 11.0%. The increased
dollar amount is primarily due to the increase in net sales. The decrease of 0.7
percentage points in gross profit margin is due to industry wide pressure to
reduce the per-unit price in several categories, along with the costs related to
facility expansion and the installation of new equipment. The Company is
continuing its focus on improving manufacturing processes and making capital
investments in more efficient equipment. See "Results of Operation for the Three
Months Ended September 30, 1999 and 1998 -- Gross Profit" and "Liquidity and
Capital Resources".
Selling, General, and Administrative Expenses
Selling, general and administrative ("SG&A") expenses for the nine months
ended September 30, 1999 were approximately $9,022,000 (18.6% of net sales)
compared to approximately $7,848,000 (18.4% of net sales) for the same period a
year ago, an increase of approximately $1,174,000. The increase in SG&A is due
in part to normal operating expenses and amortization of goodwill, in each case
related to the Acquisition. The Company also incurred both consulting and
operating expenses in the first three quarters of 1999 in connection with the
preliminary stages of its ISO 9001 certification process. The remainder of the
increase is due to other normal inflationary increases and revenue related
expenses such as freight to customers and commissions. See "Result of Operations
for the Three Months Ended September 30, 1999 and 1998 - Selling, General and
Administrative Expenses".
Net Interest Expense
Net interest expense for the nine months ended September 30, 1999 was
approximately $482,000 compared to approximately $512,000 for the same period of
the prior year. Interest expense includes interest payable under the Company's
revolving credit facility, its capital lease obligations on equipment and its
note, supplemental note and debenture issued in connection with the Acquisition.
Between the comparison periods, borrowing has generally decreased, offset in
part by the increased borrowing in July 1999 in connection with the Acquisition.
The net change was a slight decline in interest expense of approximately
$30,000. The Company's outstanding borrowings will continue to result in
increased interest expense in future periods.
Income Taxes
The provision for income taxes for the nine months ended September 30,
1999 was $1,165,000 compared to approximately $1,125,000 for the same period in
1998, an increase of approximately $40,000. This increase was due to the
increase in pre-tax income, with no significant change in the effective tax
rate.
Net Income
Net income for the nine months ended September 30, 1999 was approximately
$1,749,000, compared to approximately $1,701,000 for the same period in the
prior year.
Liquidity and Capital Resources
The primary source of cash for the Company's business has been cash
flow from operations and
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availability under the Company's $10 million revolving credit facility. Cash as
of September 30, 1999 was approximately $154,000, compared to approximately
$68,000 as of September 30, 1998. Cash flow from operations in the first nine
months of 1999 decreased to approximately $1,517,000 from approximately
$2,822,000 in the first nine months of 1998 primarily as a result of increased
security deposits paid by the Company for the diecutter and press discussed
below. As of September 30, 1999, the Company had working capital of
approximately $8,553,000 and $3,460,000 was available to the Company under its
revolving credit facility.
On July 1, 1999, the Company completed the acquisition of
substantially all of the assets and certain liabilities of CCG. The Company paid
$3.5 million of the purchase price in cash, and paid the balance by issuing a
promissory note in the amount of $1.0 million, a supplemental note in the amount
of $1.0 million, a convertible debenture in the amount of $0.6 million and
assumed debt of approximately $1.3 million, subject to adjustment. The Company
paid the cash portion of the purchase price and expects to service the assumed
debt from borrowings under its revolving credit facility. Principal payments
will commence on August 1, 2000 with respect to the promissory note and
debenture, and on August 1, 2003 with respect to the supplemental note. CCG has
the option of converting the debenture into shares of the Company's common
stock, valued at $5.50 per share, at least 30 days before any principal or
interest payment on the debenture. As a result of the Acquisition, the Company's
total indebtedness and future debt service obligations have increased
significantly from prior levels. The Company intends to fund these debt service
obligations from operating cash flow in future periods, and believes that it
will have sufficient funds to do so. There can be no assurance, however, that
the Company will be able to integrate CCG's business successfully or realize any
benefit from the Acquisition, or that revenues attributable to the Acquisition
will be sufficient to offset the Company's debt service obligations.
During the nine months ended September 30, 1999, the Company incurred a
total of $1.65 million of capital improvements in connection with the purchase
of and preparation for the installation of a new 56 inch high speed diecutter
and 56 inch seven color press. The Company is obligated to make additional
installment payments and expects to incur additional installation costs related
to this equipment in future periods. However, the Company is currently in
negotiations with certain lenders to refinance, by entering into operating
leases, substantially all of the $1.65 million costs incurred to date, and
expects to complete these negotiations by fourth quarter 1999 or the first
quarter of 2000. In addition, the Company anticipates that it will enter into
approximately $8 to $9 million of operating leases for additional manufacturing
equipment during the remainder of 1999 and during the first quarter of 2000. The
installation of the diecutter, press and future additional equipment are
intended primarily to increase capacity and further improve plant efficiencies.
However, there can be no assurance that the Company will be able to enter into
operating leases for such equipment on satisfactory terms, that the installation
of such equipment will result in improved efficiencies, or that the Company's
future results of operations will be improved as a result of any such plans.
Year 2000 Compliance
The Company has substantially completed the process of identifying,
assessing and developing contingency plans to address problems that may arise as
a result of the inability of the Company's computers, or those of its material
vendors and customers, to properly recognize and manipulate dates in the Year
2000 ("Y2K") beginning with the first two digits "20" instead of "19". In its
evaluation process, the Company considers a computer to be Year 2000 compliant
if: (a) any valid date, both before and after December 31, 1999 (including
February 29, 2000), does not cause an interruption in the desired operation; and
(b) (i) the computer will correctly sort, calculate and compare all dates; and
(ii) if the first two digits of the date are implicit, ( i.e., the date is
represented by only 2 digits, e.g., "99" for "1999" and "00" for "2000"), the
computer will interpret the dates consistently and with the result that "99"
always means 1999, and "00" always means 2000).
The Company's evaluation of the Year 2000 problem included the assessment
of its computer systems and its equipment and other systems that are controlled
or monitored by computers or embedded computer chips, and the ability of its
critical vendors and customers to ensure timely delivery of goods and services
and
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payment of invoices, respectively.
In March 1997, the Company installed a fully-integrated computer system
that is Year 2000 compliant. The software calculates the date incrementally from
a fixed past date, using a five-byte data field (compared to the standard
two-byte data field). For example, from the date of March 1, 1916, the software
can calculate incrementally 99,999 days from that fixed date, approximately
until the year 2189. Each software module has been examined to confirm that it
uses the five-byte date field in all date sorts, calculations and comparisons.
During the fourth quarter of 1998, the Company performed a full test of the
software by advancing the date past 2000 (including February 29, 2000) and ran
each software module with test data to confirm empirically that the system
accommodates the century rollover. The test confirmed that all mission critical
modules are Y2K compliant. Several modules contained two or eight character date
fields that are not used in calculations, and are not adversely affected by the
date change. One module that contained a two-character date field that is used
in calculations was fixed and fully tested. During the third quarter of 1999,
the Company conducted additional in-house tests to verify tests performed by the
software manufacturer, and will continue such tests during the fourth quarter.
The Company has also tested the Year 2000 compatibility of each desktop
and portable computer and each piece of equipment containing an embedded
computer chip, by confirming empirically that each computer and its associated
software and each piece of equipment will function properly with dates occurring
both before and after 2000. The tests confirmed that each personal computer
either is Y2K compliant or will function properly.
The Company's business could be materially effected if its material
vendors and customers, or other vendors or customers that in the aggregate may
be material, are not themselves Year 2000 compliant. In particular, if the
Company is unable to obtain necessary supplies, services or critical machine
parts, its operations could suffer. If its major customers or a significant
number of its other customers are unable to make payments or continue purchases,
the Company's cash flow could suffer. The inability of certain utilities to
supply power or telephone service after the rollover could also adversely affect
the Company's operations. In order to assess and address such problems, the
Company surveyed all its vendors and customers to determine their likely state
of Year 2000 compliance at the rollover. The survey revealed that all material
vendors and customers report that they are Y2K compliant or will be before
December 31, 1999. The Company's is continuing to monitor the progress of its
customers and vendors towards Y2K compliance.
Although the Company is currently unaware of any vendor or customer who
will not be Year 2000 compliant, it has, and will continue to develop,
contingency plans in the event any vendors or customers are unable, in the Year
2000, to fulfill their supply or payment obligations to the Company. In
particular, the Company has taken steps to ensure that no significant vendor is
a sole-source or limited-source supplier, by arranging multiple sources for all
critical resources, by warehousing or stocking a limited supply of critical
materials and parts, and by developing the ability to fabricate critical machine
parts in an in-house facility.
The Company has reviewed with its insurer whether present policies provide
any coverage for potential business losses and liability to third parties
resulting from the Company's failure or inability to be Year 2000 compliant due
to factors not under its control. The insurer has advised that the relevant
policies do not contain exclusions for Y2K related losses and that each claim
would be evaluated during the normal adjusting process.
The Company has established a Year 2000 Compliance Committee to assess the
impact of the Year 2000 problem on the Company's business and to ensure its Year
2000 compliance. The Committee is co- chaired by the Vice President for Legal
Affairs and the Management Information Systems Manager, and consists of
representatives from all major departments and all facilities within the
Company. Management has committed all resources, both financial and personnel,
reasonably necessary to achieve Year 2000 compliance and/or implementation of
contingency plans for events outside its control. The Company does not believe
that the costs it has incurred to date or currently expects to incur in future
periods are or will be material, in the aggregate, primarily because these costs
have been and will be incurred in connection with projects begun before, and/or
budgeted without regard to, the Company's Year 2000 compliance efforts.
Although the Company believes it is fully Year 2000 compliant, there
can be no assurance that the
- 13 -
<PAGE>
Company has successfully identified all systems, vendors or customers which are
not Year 2000 compliant, that the Company will not have to increase
significantly its expenditures relating to any such non-compliance, or that its
business will not be materially adversely affected by any such non-compliance.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company finances the purchase of production equipment and other
capital expenditures through long-term debt and/or capital leases. The stated or
implicit interest rates on such obligations are generally fixed. In those
instances where rates are variable, the Company will generally fix the rate
through an interest rate swap agreement. Accordingly, the Company does not
believe it is materially exposed to changes in interest rates.
The Company does not have any sales, purchases, assets or liabilities
denominated in currencies other than the U.S. dollar, and as such is not subject
to foreign currency exchange rate risk.
- 14 -
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
In the opinion of the Company's management, there are no pending legal
proceedings, other than ordinary routine litigation incidental to the Company's
business, which either individually or in the aggregate are likely to have a
material adverse effect on the Company's financial condition, results of
operations or cash flows.
Item 2. Changes in Securities and Use of Proceeds
As discussed above, on July 1, 1999, the Company issued a $600,000
convertible debenture to CCG in partial payment of the purchase price for the
Acquisition. The convertible debenture is convertible, at CCG's option, into up
to 109,091 shares of the Company's common stock, at the rate of $5.50 per share,
at least 30 days before any principal or interest payment on the debenture. The
issuance of the convertible debenture was exempt from registration under the
Securities Act of 1933, as amended, under Section 4(2) thereof as a transaction
by an issuer not involving any public offering. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations Liquidity and Capital
Resources" and the Notes to Unaudited Consolidated Financial Statements included
herein.
Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
Item 5. Other Information
Not applicable.
Item 6(a) Exhibits
The Exhibits to this Quarterly Report on Form 10-Q are listed in the
Exhibit Index which appears elsewhere herein and is incorporated herein by
reference.
Item 6(b) Reports on Form 8-K
During its fiscal quarter ended September 30, 1999, the Company filed with
the Securities and Exchange Commission a Form 8-K dated July 1, 1999 and a Form
8-K/A dated July 1, 1999, each of which related to the acquisition of
Contemporary Color Graphics, Inc.
- 15 -
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, hereunto duly authorized.
DISC GRAPHICS, INC.
(Registrant)
November 15 , 1999
/s/ Donald Sinkin
---------------------------------------
Donald Sinkin
President & CEO
November 15 , 1999
/s/ Margaret Krumholz
---------------------------------------
Margaret Krumholz
Sr. Vice President for Finance & CFO
- 16 -
<PAGE>
DISC GRAPHICS, INC.
Quarterly Report on Form 10-Q
for the Fiscal Quarter Ended September 30, 1999
EXHIBIT INDEX
Exhibit
Number Description
2.1 Asset Purchase Agreement dated as of July 1, 1999, by and
among the Registrant, Contemporary Color Graphics, Inc.
("CCG") and the shareholders of CCG named therein (filed as
Exhibit 2.1 to the Registrant's Form 8-K dated July 1, 1999
and incorporated herein by reference).
2.2 Promissory Note dated July 1, 1999, made by the Registrant
to CCG in the principal sum of $1.0 million (filed as
Exhibit 2.2 to the Registrant's Form 8-K dated July 1, 1999
and incorporated herein by reference).
2.3 Supplemental Note dated July 1, 1999, made by the Registrant
to CCG in the principal sum of $1.0 million (filed as
Exhibit 2.3 to the Registrant's Form 8-K dated July 1, 1999
and incorporated herein by reference).
2.4 Security Agreement dated July 1, 1999 between the Registrant
and CCG (filed as Exhibit 2.4 to the Registrant's Form 8-K
dated July 1, 1999 and incorporated herein by reference).
2.5 Agreement of Amendment dated July 1, 1999, between KeyBank
National Association and the Registrant (filed as Exhibit
2.5 to the Registrant's Form 8-K dated July 1, 1999 and
incorporated herein by reference).
4.1 Convertible Debenture due July 1, 2002, issued by the
Registrant to CCG on July 1, 1999, in the principal amount
of $600,000 (filed as Exhibit 4.1 to the Registrant's Form
8-K dated July 1, 1999 and incorporated herein by
reference).
27.1* Financial Data Schedule
*Filed herewith
- 17 -
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL
INFORMATION EXTRACTED FROM THE COMPANY'S UNAUDITED
CONSOLIDATED FINANCIAL STATEMENTS FOR THE THREE
AND NINE MONTHS ENDED SEPTEMBER 30, 1999 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS
</LEGEND>
<CIK> 0000904541
<NAME> DISC GRAPHICS, INC.
<MULTIPLIER> 1
<CURRENCY> US DOLLARS
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> SEP-30-1999
<EXCHANGE-RATE> 1
<CASH> 154,394
<SECURITIES> 0
<RECEIVABLES> 15,476,489
<ALLOWANCES> (1,360,415)
<INVENTORY> 3,030,402
<CURRENT-ASSETS> 18,665,308
<PP&E> 21,536,005
<DEPRECIATION> (10,033,466)
<TOTAL-ASSETS> 40,180,766
<CURRENT-LIABILITIES> 10,111,940
<BONDS> 13,035,519
0
0
<COMMON> 55,488
<OTHER-SE> 15,633,994
<TOTAL-LIABILITY-AND-EQUITY> 40,180,766
<SALES> 48,575,073
<TOTAL-REVENUES> 48,575,073
<CGS> 36,156,572
<TOTAL-COSTS> 36,156,572
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 357,980
<INTEREST-EXPENSE> 482,052
<INCOME-PRETAX> 2,914,349
<INCOME-TAX> 1,165,000
<INCOME-CONTINUING> 1,749,349
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,749,349
<EPS-BASIC> 0.32
<EPS-DILUTED> 0.32
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