<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 February 5, 2000
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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: 0-23440
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McNaughton Apparel Group Inc.
-----------------------------
(Exact name of registrant as specified in its charter)
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<S> <C>
Delaware 13-3747173
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(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
</TABLE>
463 Seventh Avenue, New York, N.Y. 10018
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(Address of principal executive offices)
(Zip code)
(212) 947-2960
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(Registrant's telephone number, including area code)
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(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 Exchange Act of 1934 during
the preceding 12 months (or 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 [X] Yes [_] No
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock, $0.01 Par Value, 7,564,090 shares as of March 17, 2000.
<PAGE>
INDEX TO FORM 10-Q
McNaughton Apparel Group Inc.
<TABLE>
<CAPTION>
Page No.
<S> <C>
PART I. FINANCIAL INFORMATION
ITEM 1.
Financial Statements:
Consolidated Balance Sheets at February 5, 2000 (Unaudited) and November 6, 1999 3
Consolidated Statements of Operations for the thirteen weeks ended February 5, 2000
and January 30, 1999 (Unaudited) 4
Consolidated Statements of Stockholders' Equity for the thirteen weeks ended
February 5, 2000 (Unaudited) 5
Consolidated Statements of Cash Flows for the thirteen weeks ended February 5, 2000
and January 30, 1999 (Unaudited) 6
Notes to Consolidated Financial Statements (Unaudited) 7-13
ITEM 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations 14-20
ITEM 3.
Quantitative and Qualitative Disclosures About Market Risk 21
PART II. OTHER INFORMATION 22
ITEM 1.
Legal Proceedings
ITEM 6.
Exhibits and Reports on Form 8-K
</TABLE>
2
<PAGE>
PART I - FINANCIAL INFORMATION
- ------------------------------
Item 1. Financial Statements
McNaughton Apparel Group Inc.
Consolidated Balance Sheets
(Dollars in Thousands)
<TABLE>
<CAPTION>
February 5,
2000 November 6,
(Unaudited) 1999
----------- ----------
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 4,161 $ 13,842
Due from factor 64,655 82,189
Inventory 54,058 40,917
Prepaid income taxes 5,613 2,145
Prepaid expenses and other current assets 5,385 3,787
--------- ---------
Total current assets 133,872 142,880
Fixed assets, net 10,150 10,177
Notes receivable from management stockholders 2,118 2,287
Intangible assets, net 62,336 63,198
Deferred financing costs, net 6,254 6,642
Other assets 2,911 2,914
--------- ---------
Total assets $ 217,641 $ 228,098
========= =========
Liabilities and stockholders' equity
Current liabilities:
Accounts payable $ 8,945 $ 14,237
Revolving credit loan -- 725
Income taxes payable 8,540 7,151
Accrued expenses and other current liabilities 20,028 27,160
--------- ---------
Total current liabilities 37,513 49,273
12 1/2% Senior Notes due 2005 125,000 125,000
Other long-term liabilities 3,716 3,758
--------- ---------
Total liabilities 166,229 178,031
Commitments and contingencies
Stockholders' equity:
Common stock, $0.01 par value, authorized 20,000,000 shares,
8,123,395 and 8,096,324 shares issued, respectively, and
7,347,095 and 7,445,324 shares outstanding, respectively 81 81
Capital in excess of par 24,163 23,989
Retained earnings 33,649 31,532
Treasury stock, at cost, 776,300 shares and 651,000 shares,
respectively (6,481) (5,535)
--------- ---------
Total stockholders' equity 51,412 50,067
--------- ---------
Total liabilities and stockholders' equity $ 217,641 $ 228,098
========= =========
</TABLE>
See accompanying notes.
3
<PAGE>
McNaughton Apparel Group Inc.
Consolidated Statements of Operations
(Unaudited)
<TABLE>
<CAPTION>
Thirteen Weeks Ended
------------------------------
February 5, January 30,
2000 1999
----------- -----------
(In Thousands, Except Per Share Amounts)
<S> <C> <C>
Net sales $ 87,718 $ 66,619
Cost of goods sold 63,856 51,452
-------- --------
Gross profit 23,862 15,167
Selling, general and administrative expenses 14,190 13,299
Depreciation and amortization 1,950 1,031
-------- --------
Income from operations 7,722 837
Other expense (income):
Interest expense and amortization of deferred financing costs 4,327 4,506
Interest income (193) (107)
-------- --------
Income (loss) before provision (benefit) for income taxes 3,588 (3,562)
Provision (benefit) for income taxes 1,471 (1,603)
-------- --------
Net income (loss) $ 2,117 $ (1,959)
======== ========
Basic earnings per share:
Net income (loss) $ 0.29 $ (0.26)
======== ========
Weighted average number of common shares 7,390 7,419
======== ========
Diluted earnings per share:
Net income (loss) $ 0.27 $ (0.26)
======== ========
Weighted average number of common shares assuming dilution 7,958 7,419
======== ========
</TABLE>
See accompanying notes.
4
<PAGE>
McNaughton Apparel Group Inc.
Consolidated Statements of Stockholders' Equity
for the Thirteen Weeks Ended February 5, 2000
(Unaudited)
<TABLE>
<CAPTION>
Capital
Common Stock in Excess Retained Treasury
------------
Shares Amount of Par Earnings Stock Total
------ ------ -------------- -------- ---------- -------
(In Thousands)
<S> <C> <C> <C> <C> <C> <C>
Balance at November 6, 1999 8,096 $81 $23,989 $31,532 $(5,535) $50,067
Net income for the thirteen weeks
ended February 5, 2000 - - - 2,117 - 2,117
Treasury stock acquired, 125,300
shares, at cost - - - - (946) (946)
Exercise of 19,998 stock options 20 - 122 - - 122
Tax benefit from exercise of stock
options - - 9 - - 9
Issuance of 7,073 shares of
common stock through the
employee stock purchase plan 7 - 43 - - 43
------ ------ ------------ -------- ---------- -------
Balance at February 5, 2000 8,123 $81 $24,163 $33,649 $(6,481) $51,412
====== ====== ============ ======== ========== =======
</TABLE>
See accompanying notes.
5
<PAGE>
McNaughton Apparel Group Inc.
Consolidated Statements of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
Thirteen Weeks Ended
------------------------------------
February 5, January 30,
2000 1999
--------------- ---------------
(In Thousands)
<S> <C> <C>
Net income (loss) $ 2,117 $ (1,959)
Adjustments to reconcile net income (loss) to net cash provided by (used for)
operating activities:
Depreciation and amortization of fixed assets 604 476
Amortization of intangible assets and deferred financing costs 1,734 768
Changes in operating assets and liabilities:
Due from factor 17,534 36,899
Inventory (13,141) (14,179)
Prepaid income taxes (3,468) (1,545)
Prepaid expenses and other current assets (2,082) (1,895)
Other assets 3 201
Accounts payable (5,292) (6,393)
Income taxes payable 1,389 --
Accrued expenses and other current liabilities (7,132) (5,550)
Other long-term liabilities (42) (15)
-------- --------
Net cash (used for) provided by operating activities (7,776) 6,808
-------- --------
Investing activities
Repayment of notes receivable from management stockholders 169 --
Additional purchase price -- (85)
Purchase of fixed assets (577) (1,029)
-------- --------
Net cash used for investing activities (408) (1,114)
-------- --------
Financing activities
Purchase of treasury stock (946) --
Net repayments of revolving credit loans (725) (3,839)
Proceeds from issuance of common stock 174 28
Deferred financing costs -- (187)
-------- --------
Net cash used for financing activities (1,497) (3,998)
-------- --------
Increase (decrease) in cash (9,681) 1,696
Cash at beginning of period 13,842 205
-------- --------
Cash at end of period $ 4,161 $ 1,901
======== ========
Supplemental disclosures
Income taxes paid $ 3,447 $ --
Interest paid $ 8,142 $ 7,473
</TABLE>
See accompanying notes.
6
<PAGE>
McNaughton Apparel Group Inc.
Notes to Consolidated Financial Statements
(Unaudited)
1. Summary of Significant Accounting Policies
Organization and Principles of Consolidation
Basis of Presentation
The accompanying unaudited consolidated financial statements of McNaughton
Apparel Group Inc. and its wholly-owned subsidiaries (the "Company") have been
prepared in accordance with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes necessary for a fair presentation of financial position, results of
operations and cash flows in conformity with generally accepted accounting
principles. In the opinion of management, all normal and recurring adjustments
and accruals considered necessary for a fair presentation of the Company's
financial position at February 5, 2000 and the results of operations and cash
flows for the thirteen weeks ended February 5, 2000 and January 30, 1999 have
been included. These statements should be read in conjunction with the audited
consolidated financial statements and footnotes thereto included in the
Company's Annual Report on Form 10-K filed with the Securities and Exchange
Commission. Operating results for the thirteen weeks ended February 5, 2000 are
not necessarily indicative of the results that may be expected for the fiscal
year ending November 4, 2000.
The consolidated financial statements include the accounts of McNaughton
Apparel Group Inc. and its wholly-owned subsidiaries. All material intercompany
balances and transactions have been eliminated in consolidation.
The Company operates on a 52-53 week accounting period. The Company's
fiscal year ends on October 31, if such date falls on a Saturday, or the first
Saturday following October 31.
The Company changed its name from Norton McNaughton, Inc. to McNaughton
Apparel Group Inc. on February 9, 1999. On March 13, 2000, the Company's
authorized, $0.01 par value, Common Stock ("Common Stock") increased to
30,000,000 shares from 20,000,000 shares.
Deferred Financing Costs
Deferred financing costs were incurred in connection with obtaining the
Company's current revolving credit agreement and the Company's issuance of
$125.0 million 12 1/2% Senior Notes due 2005 (the "Senior Notes"). Such deferred
financing costs are being amortized on a straight-line basis over the three-year
term of the current financing agreement and over the seven-year term of the
Senior Notes.
Revenue Recognition
Revenues are recorded at the time of shipment of merchandise. The Company
establishes reserves for sales discounts, returns and allowances. Sales
discounts represent customary trade discounts which may be negotiated with the
Company's customers as a payment term of the sale. Sales allowances represent
sales rebates which may be granted to customers and other miscellaneous
deductions from accounts receivable. The Company records sales discounts granted
as a reduction of sales at the time of shipment. Sales returns and allowances
are reserved for as a reduction of sales based upon estimated future returns and
allowances related to current sales.
Intangible Assets
Goodwill, trademarks and tradenames resulting from the acquisition of Miss
Erika, Inc. ("Miss Erika") and Jeri-Jo Knitwear, Inc. ("Jeri-Jo") are being
amortized by the straight-line method over twenty years.
Intangible contract rights acquired in connection with the agreement
entered into on August 9, 1999 with Railroad Enterprises, Inc. ("Railroad") and
Cutting Edge Services, Inc., formerly Toni-Linda Productions, Inc. ("Cutting
Edge") (the "Agreement"), are being amortized over the term of the management
arrangement being provided for in the Agreement. These intangible contract
rights have been recorded as current assets.
7
<PAGE>
McNaughton Apparel Group Inc.
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
1. Summary of Significant Accounting Policies (continued)
Earnings Per Share
Basic earnings per share is computed based on the weighted average number
of common shares outstanding during the period presented. Diluted earnings per
share is computed based on the weighted average number of common shares
outstanding during the period and the effect of dilutive options outstanding
during the period using the treasury stock method. For the thirteen weeks ended
February 5, 2000, the dilutive effect of options outstanding during the period
using the treasury stock method was approximately 568,000 shares. For the
thirteen weeks ended January 30, 1999, options outstanding during the period
using the treasury stock method were excluded from the net loss per share
computation of diluted earnings per share because they were antidilutive.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates.
SFAS 130, "Reporting Comprehensive Income" and SFAS 131, "Disclosures about
Segments of an Enterprise and Related Information"
The Financial Accounting Standards Board issued SFAS No. 130, which is
effective for fiscal years beginning after December 15, 1997. SFAS No. 130
requires disclosure of all components of comprehensive income on an annual and
interim basis. Comprehensive income is defined as the change in equity of a
business enterprise during a period from transactions and other events and
circumstances from non-owner sources. The Company adopted this statement in
fiscal 1999 and such adoption did not have a material effect on the financial
statements.
The Financial Accounting Standards Board issued SFAS No. 131, which is
effective for fiscal years beginning after December 15, 1997. This statement
changes the way that companies report information about operating segments in
financial statements. The Company operates entirely in one segment, women's
apparel, which is sold through diverse distribution channels to many markets. It
is not possible, therefore, to divide the Company's business into meaningful
industry segments. The Company's operations and sales are only in the United
States, therefore, geographical segments are not applicable.
2. Acquisitions and Related Earn-out Obligations
Miss Erika
- ----------
On September 30, 1997, the Company completed the acquisition of
substantially all the assets and the assumption of substantially all the
liabilities of Miss Erika, a privately-held manufacturer of women's moderately-
priced apparel. The purchase price of Miss Erika consisted of $24.0 million in
cash paid at the closing, the assumption of $2.5 million of indebtedness and
certain other contractual obligations. In addition, the Company agreed to pay an
additional contingent payment in cash and/or the Company's Common Stock based
upon earnings achieved by Miss Erika for the two fiscal years ended November 6,
1999. As originally agreed, the aggregate contingent payment payable by the
Company was equal to the amount by which four times the average of Miss Erika's
earnings before interest expense, income taxes, depreciation and amortization,
as defined in the Miss Erika purchase agreement ("Miss Erika EBITDA"), for the
two fiscal years ended November 6, 1999, exceeded $24.0 million. The additional
consideration paid for Miss Erika has been accounted for as additional purchase
price and has been reflected in intangible assets. At the Company's discretion,
the Company was permitted, subject to a maximum number of shares, to pay all or
any portion of the contingent payment in shares of Common Stock. The Miss Erika
purchase agreement, as originally executed, limited the number of shares of
Common Stock payable by the Company to a number of shares which, after giving
effect to their issuance, did not exceed 12% of the aggregate number of
outstanding shares of Common Stock at the time of payment. Following the early
discounted payment of a portion of the Miss Erika earn-out obligation described
below, this percentage limit was amended to 2.822%. The Company has agreed to
cause the shares of Common Stock issued as a contingent payment to be registered
under the Securities Act of 1933, as amended (the "Securities Act").
On August 4, 1999, the Company retired, at a discount, 64.3% of the
earn-out obligation payable to the sellers of Miss Erika for $10.0 million in
cash. The portion of the earn-out obligation which was retired was owned by two
investment funds and their affiliates who were interested in monetizing their
portion of the contingent earn-out payment due to closure of the funds in which
these investments were held. The early cash payment saved the Company
approximately $10.0 million, net of consent fees of $1.2 million paid to senior
noteholders
8
<PAGE>
McNaughton Apparel Group Inc.
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
2. Acquisitions (continued)
Miss Erika (continued)
- ----------
under the indenture dated as of June 18, 1998 governing the Senior Notes (as
amended, the "Indenture"), compared to what would have otherwise been due and
payable in February 2000. The remaining earn-out obligation, representing 35.7%,
continued to be governed by the original earn-out provisions described above.
This remaining interest was held substantially by members of the current Miss
Erika management team, none of whom desired to exercise the option of receiving
a discounted early payment of the contingent earn-out. Miss Erika achieved Miss
Erika EBITDA during fiscal 1998 and fiscal 1999 which resulted in the payment of
additional consideration of approximately $11.6 million. Payment was made in
March 2000, approximately $9.6 million of which was paid in cash and
approximately $2.0 million of which was paid in Common Stock. The Company paid
the cash portion of the remaining contingent consideration from internally
generated funds and borrowings under the Company's revolving credit facility.
The Company's financial statements at February 5, 2000 reflected a total
estimated payment of $12.0 million, of which $10.0 million was included in
accrued expenses, relating to the cash portion of the earn-out payment, and $2.0
million was included in other long-term liabilities, relating to the portion of
the earn-out payable in Common Stock.
In connection with the foregoing, the Company amended the Indenture to
provide for, among other matters, the early extinguishment of a portion of the
outstanding earn-out obligation payable to certain of the sellers of Miss Erika
and to restrict the amount of cash that may be paid with respect to the
Company's earn-out obligation incurred in connection with its acquisition of
Jeri-Jo.
Jeri-Jo
- -------
On June 18, 1998, the Company completed the acquisition of Jeri-Jo,
acquiring substantially all the assets and assuming substantially all the
liabilities of the privately-held apparel importers of moderately-priced
juniors' and misses' updated sportswear. The purchase price paid in the Jeri-Jo
acquisition was (i) $55.0 million in cash at the closing of the acquisition,
(ii) the assumption of indebtedness of $10.9 million and certain other
contractual obligations. In addition, the Company agreed to pay an additional
contingent payment in cash and its Common Stock in the event that certain
earnings targets are achieved by Jeri-Jo for the two years subsequent to the
closing of the Jeri-Jo acquisition. Such payment must be made no later than
August 30, 2000. The Jeri-Jo purchase agreement requires that the Company pay at
least 50% of the required contingent payment in cash and the Indenture limits
this cash payment to 75% of the total contingent payment. The aggregate
contingent payment payable by the Company is equal to the excess of (1) the sum
of (A) five times Jeri-Jo's average earnings before interest expense, income
taxes, depreciation and amortization, as defined in the Jeri-Jo purchase
agreement ("Jeri-Jo EBITDA"), for the two years ending June 30, 2000, plus (B)
0.50 times any such average Jeri-Jo EBITDA between $17.0 million and $20.0
million, plus (C) one times any such average Jeri-Jo EBITDA over $20.0 million,
over (2) $55.0 million. Additional consideration paid for Jeri-Jo will be
accounted for as additional purchase price and will be reflected in intangible
assets. The Company partially secured its obligation to pay the cash portion of
the contingent payment by delivery of a stand-by letter of credit in the face
amount of $30.0 million, which letter of credit may be drawn upon, in whole or
in part, in certain circumstances, including in the event of a default under the
cash contingent payment obligation. The Company has agreed to cause offers and
sales by the holders of any shares of Common Stock issued as a contingent
payment to be registered under the Securities Act, including, if requested, in
an underwritten offering. The Jeri-Jo purchase agreement provides that in
certain events, the sellers under the Jeri-Jo purchase agreement will have the
option to accelerate the Company's contingent payment obligation. In such
events, the accelerated contingent payment obligation would be payable in cash
in an amount equal to the amount by which (i) five times the greater of $17.0
million or an amount equal to Jeri-Jo's annualized EBITDA (as defined in the
Jeri-Jo purchase agreement) at the time of such event exceeds (ii) $55.0
million. The Company intends to pay the cash portion of the contingent
consideration from internally generated funds and borrowings under the Company's
revolving credit facility. Jeri-Jo achieved Jeri-Jo EBITDA for the 19 month
period ended February 5, 2000 which will result in the payment of significant
additional consideration. Based upon the Jeri-Jo EBITDA achieved for the 19
month period ended February 5, 2000, and assuming that Jeri-Jo achieves its
budgeted EBITDA for the period from February 6, 2000 through June 30, 2000 (the
end of the Jeri-Jo earn-out period), additional consideration in excess of
$135.0 million would be payable in accordance with the Jeri-Jo purchase
agreement.
3. Sales to Major Customers
For the thirteen weeks ended February 5, 2000 and January 30, 1999, net
sales made to three customers were approximately 16.0%, 14.0%, and 13.0%, and
approximately 22.0%, 14.0% and 13.0%, respectively.
9
<PAGE>
McNaughton Apparel Group Inc.
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
4. Inventory
Inventory is stated at the lower of cost (first-in, first-out basis) or market.
Inventories consist of the following:
<TABLE>
<CAPTION>
February 5, November 6,
2000 1999
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(In Thousands)
<S> <C> <C>
Raw materials $ 2,042 $ 3,116
Work in process 917 1,104
Finished goods 51,099 36,697
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$54,058 $40,917
======= =======
</TABLE>
5. Intangible Assets
Intangible assets consist of the following:
<TABLE>
<CAPTION>
February 5, November 6,
2000 1999
----------- -----------
(In Thousands)
<S> <C> <C>
Tradenames and trademarks $17,591 $17,591
Goodwill 48,921 48,921
------- -------
66,512 66,512
Less accumulated amortization 4,176 3,314
------- -------
$62,336 $63,198
======= =======
</TABLE>
6. Notes Receivable from Management Stockholders
In 1993, the Company loaned certain management stockholders $3.0 million in
the aggregate. Each loan is evidenced by a limited recourse promissory note with
interest accruing at 5.84% per annum. The Company's recourse on the promissory
notes is limited to the management stockholders' pledges of a portion of their
Common Stock of the Company.
In the event of any sale or transfer of shares of Common Stock by any of
the management stockholders, such person is required to apply a portion of the
net proceeds of the sale or transfer to the principal repayment of his loan from
the Company. No other principal payments are required under the loans except for
the payment at maturity. The loans mature on November 5, 2003 at which time full
payment is to be made by the management stockholders for the balance of their
respective loans. All necessary payments have been made under the terms of the
loans by the management stockholders.
As of February 5, 2000, the fair market value of the Company's Common Stock
pledged by the management stockholders as security for the loans was $7,215,795,
and the aggregate principal balance of all loans to management stockholders was
$2,118,000 which reflects the required principal payments of $882,000 resulting
from sales of Common Stock by management stockholders.
7. Financing Arrangements
Concurrent with the closing of the Jeri-Jo acquisition on June 18, 1998,
the Company entered into a $175.0 million secured revolving credit and letter of
credit facility with a bank lending group (as amended, the "Current Credit
Agreement"). The facility is used to finance ongoing working capital
requirements of the Company and its subsidiaries. The Current Credit Agreement
is a three-year secured revolving credit and letter of credit facility, with
interest on outstanding borrowings determined, at the Company's option, based
upon stated margins below the prime rate at Banc of America, N.A. or in excess
of LIBOR rates. Presently, the interest rate under the Current Credit Agreement
is 100 basis points below the prime rate (based upon the current prime rate, the
interest rate under the Current Credit Agreement is 7.75% per annum). Available
credit under the Current Credit Agreement is as follows: revolving credit
advances not to exceed $60.0 million to $100.0 million (depending on the fiscal
month of the Company), documentary letters of credit not to exceed
10
<PAGE>
McNaughton Apparel Group Inc.
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
7. Financing Arrangements and Extraordinary Item (continued)
$130.0 million ("Documentary LCs"), stand-by letters of credit not to exceed
$15.0 million ("Standby LCs"), and a $30.0 million stand-by letter of credit to
partially secure the Company's cash contingent payment obligation in connection
with the Jeri-Jo acquisition. Aggregate Documentary LCs and Standby LCs may not
exceed $130.0 million. Under the Current Credit Agreement, the aggregate credit
available to the Company is equal to the lesser of (i) $175.0 million or (ii)
the sum of 85% of eligible accounts receivable and 60% of eligible inventory,
plus an overadvance amount ranging from zero to $30.0 million depending on the
fiscal month of the Company and the time in such fiscal month. The Company and
its subsidiaries guarantee the Company's obligations under the Current Credit
Agreement and have granted a lien on substantially all of their respective
assets to secure the obligations under the Current Credit Agreement. The
weighted average interest rates on the revolving credit facility were 7.3% and
8.0% for fiscal 1999 and the first quarter of fiscal 2000, respectively. The
Company continues to factor accounts receivable pursuant to factoring
arrangements.
The Current Credit Agreement contains a number of restrictive covenants,
including covenants which limit incurrence of liens and indebtedness, limit
transactions with affiliates, acquisitions, sales of assets, investments and
other restricted payments, and require that the Company maintain certain fixed
charge coverage, cash flow coverage and leverage ratios and meet specified
minimum levels of working capital and net worth. At February 5, 2000, the
Company was in compliance with all of its restrictive and financial covenants.
On June 18, 1998, the Company also issued the Senior Notes due 2005. The
proceeds of the Senior Notes were used to finance the Jeri-Jo acquisition and to
refinance then existing indebtedness of the Company and Jeri-Jo. The Company's
obligations under the Senior Notes are unsecured and are guaranteed by all of
the Company's subsidiaries. The Indenture contains a number of restrictive
covenants, including covenants which limit the incurrence of liens and
indebtedness, limit transactions with affiliates, sales of assets, investments
and other restricted payments. On August 3, 1999, the Company executed the First
Supplemental Indenture, which amended the Indenture to provide for, among other
matters, the early extinguishment of a portion of the outstanding earn-out
obligation payable to certain of the sellers of Miss Erika and to restrict the
amount of cash that may be paid with respect to the Company's earn-out
obligation incurred in connection with its acquisition of Jeri-Jo.
At February 5, 2000, the Company had no borrowings under the Current Credit
Agreement and letters of credit outstanding of $122.7 million. The Company had
total additional available credit of $22.8 million under the Current Credit
Agreement as of that date pursuant to the borrowing base formula set forth
above. In addition, the Company had cash and cash equivalents totaling $4.2
million. At January 30, 1999, the Company had no borrowings under the Current
Credit Agreement and letters of credit outstanding of $88.6 million. The Company
had total additional available credit of $22.7 million as of January 30, 1999
pursuant to the borrowing base formula set forth therein, and cash and cash
equivalents totaling $1.9 million.
Long-term debt at February 5, 2000 and January 30, 1999 consisted of $125.0
million 12 1/2 % Senior Notes due June 3, 2005. The Senior Notes mature in full
on June 3, 2005. There are no required principal payments prior to the maturity
date.
8. Accrued Expenses and Other Current Liabilities
Accrued expenses and other current liabilities consist of the following:
<TABLE>
<CAPTION>
February 5, November 6,
2000 1999
--------------------------
(In Thousands)
<S> <C> <C>
Miss Erika earn-out obligation $10,000 $10,000
Interest on $125.0 million 12 1/2%
Senior Notes 2,605 6,837
Reserve for litigation 932 932
Contractual bonuses payable 857 2,706
Payable to Railroad and Cutting Edge
in connection with the Agreement 1,742 1,967
Profit sharing contribution payable 1,131 879
Other accrued expenses and current
liabilities 2,761 3,839
------- -------
$20,028 $27,160
======= =======
</TABLE>
11
<PAGE>
McNaughton Apparel Group Inc.
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
9. Stock Repurchase
The Company's Board of Directors has authorized a stock repurchase program,
under which the Company may repurchase up to $11.5 million of the Company's
Common Stock. The Company expects that the shares may be purchased from time to
time in the open market and in block transactions. As of February 5, 2000, the
Company has purchased a total of 776,300 shares at an aggregate cost of
approximately $6.5 million. The Company's Current Credit Agreement and the
Indenture limit the amounts which may be expended on stock purchases.
10. Legal Proceedings
On July 14, 1998, Norton McNaughton of Squire, Inc.'s ("Norton")
distribution and cutting contractors, Railroad Enterprises and Cutting Edge,
respectively (collectively, "Plaintiffs"), filed an action in the New York State
Supreme Court for New York County which, as amended, was entitled Cutting Edge
------------
Services, Inc. and Railroad Enterprises, Inc. v. Norton McNaughton of Squire,
- -----------------------------------------------------------------------------
Inc. and Norton McNaughton, Inc. Plaintiffs had claimed that Norton breached its
- --------------------------------
contracts with them because, among other things, Miss Erika and Jeri-Jo had
failed to use Plaintiffs' services as allegedly required under Norton's
contracts with Plaintiffs. This action sought substantial compensatory and
punitive damages and related declaratory relief concerning rights under the
contracts. In connection with the Cutting Edge and Railroad lawsuit, as well as
other pending litigation, the Company established a litigation reserve of $2.5
million in fiscal 1998.
On August 9, 1999, the Company and Norton entered into an Agreement with
Railroad and Cutting Edge, pursuant to which, among other matters, the foregoing
lawsuit was terminated and Norton purchased certain assets of Railroad and
Cutting Edge, including fixed assets, machinery and equipment at their
facilities, and Railroad's and Cutting Edge's rights under their existing
agreements with Norton. The purchase price (the "Purchase Price") was $5.5
million payable as follows: $3.0 million at closing; thereafter, $108,333.33 per
month, payable at month-end from July 31, 1999 through March 31, 2000, and
$508,333.33 per month payable at month-end from April 30, 2000 through May 31,
2000, $408,333.33 payable on June 30, 2000, and $100,000 payable on December 31,
2000. Norton also retained Railroad to provide consulting services relating to
the relocation of its warehouse and distribution facilities to South Carolina
for a total fee of $500,000 payable on a monthly basis over a one-year period.
The Agreement also provided for the termination of Norton's then existing
long-term agreements with Railroad and Cutting Edge. Railroad has agreed to
manage the assets Norton purchased and to continue performing all of Norton's
receiving, warehousing and distribution services from Railroad's New Jersey
facilities through June 30, 2000, although Norton may, at its option, extend
this time period until August 31, 2000. Norton has extended this time period
until July 31, 2000.
Pursuant to the Agreement, Railroad and Cutting Edge agreed to obtain
releases of Norton's limited guarantees from the landlords of their respective
warehouse leases. On September 23, 1999, Norton received a release from the
landlord of Cutting Edge's warehouse lease in exchange for a payment of
approximately $230,000. As provided in the Agreement, this amount is being
withheld from subsequent Purchase Price installments. In addition, also as
provided in the Agreement, the Purchase Price has been reduced by the amount due
under Norton's guarantee of Railroad's lease, which totals $500,000. Finally,
the Agreement provided for the early termination of Norton's East Rutherford,
New Jersey piece goods warehouse sublease from Cutting Edge, which occurred on
September 30, 1999.
The $5.5 million Purchase Price was allocated to current assets in the
amount of $2.2 million, representing the estimated value of the intangible
contract rights acquired, fixed assets in the amount of $600,000, and the
remaining $2.7 million was offset against the $2.5 million reserve for
litigation established in fiscal 1998 with the balance being charged to expense
in fiscal 1999. The intangible contract rights are being amortized over the term
of the management arrangement provided for in the Agreement and the fixed assets
are being amortized over five years. The Company fully expensed in fiscal 1999
its obligation of $500,000 under the Railroad consulting arrangement provided
for in the Agreement.
The Company is involved in certain other legal actions and claims arising
in the ordinary course of business. It is the opinion of management that such
litigation and claims will be resolved without material adverse effect on the
Company's business, financial condition, results of operations and cash flow. At
February 5, 2000, the Company had a reserve for litigation of approximately
$900,000 in connection with an ongoing claim. See Item 2, "Management's
Discussion and Analysis of Financial Condition and Results of Operations".
12
<PAGE>
McNaughton Apparel Group Inc.
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
11. Shareholder Rights Plan
On January 19, 1996, the Company's Board of Directors adopted a Shareholder
Rights Plan in which shareholders of record on February 8, 1996 received a
dividend distribution of one common share purchase right for each outstanding
share of the Common Stock held. Each right entitles the holder to purchase
Common Stock at an initial exercise price of $32.00.
The rights are not exercisable or transferable apart from the Common Stock
until the earlier to occur of (i) ten days following a public announcement that
a person or group of affiliated or associated persons have acquired beneficial
ownership of 20% or more of the outstanding Common Stock of the Company, or (ii)
ten business days following the commencement of, or announcement of, an
intention to make a tender offer or exchange offer, the consummation of which
would result in the beneficial ownership by a person or group of 20% or more of
such outstanding Common Stock.
The rights are redeemable by the Company's Board of Directors at a price of
$0.01 per right at any time prior to the acquisition by a person or group of
beneficial ownership of 20% or more of the Company's Common Stock.
If a person or group acquires 20% or more of the Company's outstanding
Common Stock, each right will entitle the holder to purchase, at the right's
exercise price, a number of shares of the Company's Common Stock having a market
value at that time of twice the right's exercise price. If the Company is
acquired in a merger or other business combination transaction, each right will
entitle its holder to purchase, at the right's exercise price, a number of the
acquiring company's common shares having a market value at that time of twice
the right's exercise price.
13
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The Company's business strategy is to expand its branded product lines,
broaden its customer base and further develop its global product sourcing
capabilities. A key component of this business strategy involves the selective
acquisition of complimentary businesses and brands. In connection therewith, the
Company completed the Miss Erika and Jeri-Jo acquisitions. As a result of the
Company's recent acquisitions, the following discussion of the Company's
historical financial condition and results of operations is not necessarily
indicative of future results.
On September 30, 1997, the Company completed the acquisition of
substantially all the assets and the assumption of substantially all the
liabilities of Miss Erika, a privately-held manufacturer of women's
moderately-priced apparel. The purchase price of Miss Erika consisted of $24.0
million in cash paid at the closing, the assumption of $2.5 million of
indebtedness and certain other contractual obligations. In addition, the Company
agreed to pay an additional contingent payment in cash and/or Common Stock in
the event that certain earnings targets were achieved by Miss Erika for the two
fiscal years ended November 6, 1999. On August 4, 1999, the Company retired, at
a discount, 64.3% of the earn-out obligation payable to the sellers of Miss
Erika for $10.0 million in cash. The remaining earn-out obligation, representing
35.7%, was paid in March 2000. See "Liquidity and Capital Resources".
On June 18, 1998, the Company completed the acquisition of substantially
all of the assets of Jeri-Jo and assumed substantially all the liabilities of
the privately-held apparel importers of moderately-priced juniors' and misses'
updated sportswear. The purchase price paid in the Jeri-Jo acquisition was (i)
$55.0 million in cash at the closing of the acquisition, (ii) the assumption of
funded indebtedness of $10.9 million and certain other contractual obligations.
In addition, the Company agreed to pay an additional contingent payment in cash
and Common Stock in the event that certain earnings targets are achieved by
Jeri-Jo for the two years subsequent to the closing of the Jeri-Jo acquisition.
See "Liquidity and Capital Resources".
Concurrent with the closing of the Jeri-Jo acquisition, the Company entered
into a $175.0 million secured revolving credit and letter of credit facility
with a bank lending group (as amended, the "Current Credit Agreement"). The
facility is used to finance ongoing working capital requirements of the Company
and its subsidiaries.
On June 18, 1998, the Company also sold $125.0 million of unsecured 12 1/2%
Senior Notes due 2005 (the "Senior Notes"). The terms and conditions of the
Senior Notes are governed by an indenture (as amended, the "Indenture"). The
proceeds of the Senior Notes were used to finance the Jeri-Jo acquisition and to
refinance then existing indebtedness of the Company and Jeri-Jo. The Company's
obligations under the Senior Notes are guaranteed by all of the Company's
subsidiaries.
The Company's continuing focus on improving profitability has also led the
Company to undertake certain merchandising initiatives to improve gross profit
and gross profit margins with respect to the Norton McNaughton product lines.
The Company has reduced the number of products (i.e., reduced the number of
SKU's) offered in any particular collection of its Norton McNaughton product
lines in an effort to minimize the number of unrelated items unsold by retailers
at the end of a selling period and to reduce any related sales allowances. In
addition, by taking advantage of product sourcing opportunities, the Company has
been able to offer higher quality and more diverse products to retailers at
lower price points in an effort to further enhance sales of Norton McNaughton
products and to further reduce sales allowances. As a result of these
initiatives, the revenue levels in its Norton McNaughton product lines decreased
in fiscal 1999 from those recorded in fiscal 1998. However, the Company does not
anticipate a decrease in revenue levels in its Norton McNaughton product lines
in fiscal 2000 as a consequence of those initiatives.
The Company continually monitors the success, in terms of sales,
profitability and customer acceptance, of its product lines. In the event that
one or more of its product lines does not meet the Company's expectations, the
Company will discontinue their production.
The Company continually explores cost savings opportunities in an attempt
to reduce overhead and improve operating income. In connection therewith, the
Company will relocate the warehousing and distribution operations for its Norton
product lines to South Carolina during the third fiscal quarter of 2000. On
August 9, 1999, the Company and Norton entered into an Agreement with Railroad,
its distribution contractor, and Cutting Edge, its cutting contractor, which
provided for the termination of its existing long-term agreements therewith.
Pursuant to the Agreement, Norton purchased certain assets of Railroad and
Cutting Edge, including fixed assets, machinery and equipment at their
facilities, and Railroad's and Cutting Edge's rights under their existing
agreements with Norton. Railroad has agreed to manage the assets Norton
purchased and to continue performing all of Norton's receiving, warehousing and
distribution services from Railroad's New Jersey facilities through June 30,
2000, although Norton may, at its option, extend this time period until August
31, 2000. Norton has extended this time period until July 31, 2000. See
"Liquidity and Capital Resources" and Part II, Item 1, "Legal Proceedings".
As is the norm in the apparel industry, the Company engages in promotional
activity with its customers which affects the Company's sales, gross profit and
gross profit margins. Accordingly, the Company's sales, gross profit and gross
profit margins vary from quarter to quarter and year to year. In addition, the
Company generally ships its products in accordance with normal apparel industry
shipping cycles. This may result in shipments to customers occurring before or
after a particular fiscal quarter end, thereby affecting both fiscal
14
<PAGE>
quarter to quarter comparisons and quarter to quarter results during a fiscal
year. Correspondingly, sales, gross profit and gross profit margins may be
affected by the timing of shipping cycles or the delivery of finished goods.
The Company contracts for the manufacture of all of its products and
substantially all of its products are produced overseas. Contract manufacturing
allows the Company to avoid significant capital expenditures for manufacturing
facilities and the fixed costs of maintaining a large production work force.
Foreign contract manufacturing allows it to take advantage of lower
manufacturing costs, thereby allowing it to reduce prices to its customers. The
Company believes that foreign sourcing for moderately-priced merchandise also
allows it to avail itself of a well-equipped and skilled labor force, thereby
allowing it to produce a higher quality, better-valued product for its
customers. The Company offsets the longer lead time necessary for foreign
sourced fabrics and manufacturing by early and timely attention to production
planning.
This Quarterly Report on Form 10-Q, including this Management's Discussion
and Analysis of Financial Condition and Results of Operations, contains
forward-looking information about the Company's anticipated operating results.
The Company's ability to achieve its projected results is dependent on many
factors which are outside of management's control. Some of the most significant
factors would be a deterioration in retailing conditions for women's and
juniors' apparel, an increase in price pressures and other competitive factors,
any of which could result in an unanticipated decrease in gross profit margins,
unanticipated problems arising with the integration of Miss Erika's and
Jeri-Jo's businesses, the unanticipated loss of a major customer, the
unanticipated loss of a major contractor or supplier, unanticipated problems
arising out of Norton's relocation of its distribution function to South
Carolina where the activities will be performed "in-house", and weather
conditions which could impact retail traffic and the Company's ability to ship
on a timely basis. Accordingly, there can be no assurance that the Company will
achieve its anticipated operating results.
15
<PAGE>
Results of Operations
- ---------------------
The following table is derived from the Company's Consolidated Statements
of Operations and sets forth, for the periods indicated, selected operating data
as a percentage of net sales:
<TABLE>
<CAPTION>
Thirteen Weeks Ended
---------------------------------------------
February 5, 2000 January 30, 1999
-------------------- --------------------
<S> <C> <C>
Net sales 100.0% 100.0%
Cost of goods sold 72.8 77.2
------ ------
Gross profit 27.2 22.8
Selling, general and administrative expenses 16.2 20.0
Depreciation and amortization 2.2 1.5
------ ------
Income from operations 8.8 1.3
Interest expense and amortization of deferred financing costs 4.9 6.8
Interest income (0.2) (0.2)
------ ------
Income (loss) before provision (benefit) for income taxes 4.1 (5.3)
Provision (benefit) for income taxes 1.7 (2.4)
------ ------
Net income (loss) 2.4% (2.9)%
====== ======
</TABLE>
Quarter Ended February 5, 2000 Compared to Quarter Ended January 30, 1999
- -------------------------------------------------------------------------
Net Sales
Net sales were $87.7 million for the first quarter of fiscal 2000 compared
to $66.6 million for the first quarter of fiscal 1999. The increase in net sales
of $21.1 million was attributable to an increase in net sales of $8.7 million,
or 51.1%, in the Erika product lines, an increase of $6.6 million, or 32.7%, in
the Energie, Currants and Jamie Scott product lines and an increase of $5.1
million, or 24.9%, in the Norton McNaughton product lines.
Gross Profit
Gross profit margin was 27.2% for the first quarter of fiscal 2000 compared
to 22.8% for the first quarter of fiscal 1999. The increase in gross profit
margin was attributable to the Energie, Currants and Jamie Scott product lines
and the Norton McNaughton product lines. The improvement in gross profit margin
was primarily attributable to increases in initial markup and a decrease in
off-price sales of inventory.
Depreciation and Amortization
Depreciation and amortization was $2.0 million for the first quarter of
fiscal 2000 compared to $1.0 million for the first quarter of fiscal 1999. The
increase was primarily attributable to the Miss Erika early earn-out payment in
August 1999 which increased goodwill, the accrual of the remaining Miss Erika
earn-out obligation in October 1999 which increased goodwill and the
amortization of the intangibles resulting from the August 1999 Railroad
agreement.
Selling, General and Administrative Expenses
Selling, general and administrative expenses ("SG&A" expenses) were $14.2
million, or 16.2% of net sales, for the first quarter of fiscal 2000 as compared
to $13.3 million, or 20.0% of net sales, for the first quarter of fiscal 1999.
The increase in SG&A expense of $0.9 million was due to an increase in variable
distribution expense due to an increase in sales volume, increases in personnel
costs, an increase in merchandising and advertising expense and an increase in
bad debt expense. These increases were offset in part by a decrease in shipping
rates caused by a change in rates under the agreement with an outside
distribution contractor. The latter is wholly offset by amortization of the
intangible assets acquired in the agreement with such outside distribution
contractor - see Depreciation and Amortization above. The decrease in SG&A as a
percentage of net sales was primarily attributable to the spreading of the fixed
component of SG&A expenses over higher net sales in the first quarter of fiscal
2000.
Interest Expense
Interest expense decreased to $4.3 million in the first quarter of fiscal
2000 from $4.5 million in the first quarter of fiscal 1999.
Earnings Per Share Before Goodwill Amortization
Earnings per share before goodwill amortization increased in the first
quarter of fiscal 2000 to $0.31 per diluted share, from a loss per diluted share
of $0.22 in the first quarter of fiscal 1999.
16
<PAGE>
Liquidity and Capital Resources
- -------------------------------
The Company is highly leveraged and significant additional earn-out
payments will be required to be made by the Company in August 2000 in connection
with the Jeri-Jo acquisition. On February 5, 2000, the Company had $125.0
million of Senior Notes outstanding, no borrowings under the Current Credit
Agreement, and obligations under undrawn letters of credit in the aggregate face
amount of approximately $122.7 million. Under the terms of its credit
documentation, the Company can incur substantial additional indebtedness in the
future. At February 5, 2000, the Company had total additional available credit
of $22.8 million under the Current Credit Agreement pursuant to the borrowing
base formula set forth therein, as well as cash and cash equivalents of $4.2
million. In addition, the Company has partially secured its obligation to pay
the cash portion of the Jeri-Jo earn-out with a $30.0 million stand-by letter of
credit (which is currently reducing the Company's availability under the Current
Credit Agreement), which funds will become available for payment of the earn-out
when the latter becomes due and payable. Based upon actual results of Miss
Erika, the Company paid approximately $11.6 million in additional consideration
to certain of the sellers of Miss Erika in March 2000, approximately $9.6
million of which was paid in cash and approximately $2.0 million of which was
paid in shares of Common Stock. In addition, based on Jeri-Jo's results through
February 5, 2000, and assuming Jeri-Jo achieves its budgeted results through
June 30, 2000, the Company will be required to pay the sellers of Jeri-Jo in
excess of $135.0 million in August 2000, with at least 50% thereof being payable
in cash and the balance payable in shares of Common Stock.
The Company's ability to make earn-out payments and scheduled payments of
principal of, to pay the interest on, to refinance, as needed, its indebtedness,
and to fund working capital requirements and planned capital expenditures, will
depend on its future performance, which, to a certain extent, is subject to
general economic, financial, competitive, legislative, regulatory and other
factors that are beyond its control. Based upon current and budgeted levels of
operations, management believes that cash flow from operations and cash,
together with available borrowings under the Current Credit Agreement, will be
adequate to meet the Company's liquidity needs for fiscal 2000.
The Company's liquidity requirements arise from the funding of the
Company's working capital needs, primarily inventory and accounts receivable,
interest on indebtedness, planned capital expenditures, and, additionally, from
the Company's earn-out obligation pursuant to the acquisition of Jeri-Jo. The
Company's primary sources of working capital are cash flow from operations and
advances under the Current Credit Agreement. The Company's borrowing
requirements for working capital purposes are seasonal, with peak working
capital needs generally arising at the end of the first and third fiscal
quarters and extending through the second and fourth fiscal quarters.
The Company had working capital of $96.4 million at February 5, 2000 as
compared to $93.6 million at November 6, 1999. The increase in working capital
resulted primarily from net income for the thirteen weeks ended February 5,
2000.
The Company sells its accounts receivable to a factor without recourse, up
to a maximum established by the factor for each customer. Receivables sold in
excess of these limitations are subject to recourse in the event of nonpayment
by the customer. The factor receives a commission for all purchased accounts
receivable which is calculated based on the net amount of gross sales less sales
discounts.
On September 30, 1997, the Company completed the acquisition of
substantially all the assets and the assumption of substantially all the
liabilities of Miss Erika, a privately-held manufacturer of women's moderately-
priced apparel. The purchase price of Miss Erika consisted of $24.0 million in
cash paid at the closing, the assumption of $2.5 million of indebtedness and
certain other contractual obligations. In addition, the Company agreed to pay an
additional contingent payment in cash and/or Common Stock based upon earnings
achieved by Miss Erika for the two fiscal years ended November 6, 1999. As
originally agreed, the aggregate contingent payment payable by the Company was
equal to the amount by which four times the average of Miss Erika's earnings
before interest expense, income taxes, depreciation and amortization, as defined
in the Miss Erika purchase agreement ("Miss Erika EBITDA"), for the two fiscal
years ended November 6, 1999, exceeded $24.0 million. The additional
consideration paid for Miss Erika has been accounted for as additional purchase
price and has been reflected in intangible assets. At the Company's discretion,
the Company was permitted, subject to a maximum number of shares, to pay all or
any portion of the contingent payment in shares of Common Stock. The Miss Erika
purchase agreement, as originally executed, limited the number of shares of
Common Stock payable by the Company to a number of shares which, after giving
effect to their issuance, did not exceed 12% of the aggregate number of
outstanding shares of Common Stock at the time of payment. Following the early
discounted payment of a portion of the Miss Erika earn-out obligation described
below, this percentage limit was amended to 2.822%. The Company has agreed to
cause the shares of Common Stock issued as a contingent payment to be registered
under the Securities Act of 1933, as amended (the "Securities Act").
On August 4, 1999, the Company retired, at a discount, 64.3% of the
earn-out obligation payable to the sellers of Miss Erika for $10.0 million in
cash. The portion of the earn-out obligation which was retired was owned by two
investment funds and their affiliates who were interested in monetizing their
portion of the contingent earn-out payment due to closure of the funds in which
these investments were held. The early cash payment saved the Company
approximately $10.0 million, net of consent fees of $1.2 million paid to senior
noteholders under the Indenture, compared to what would have otherwise been due
and payable in February 2000. The remaining earn-out obligation, representing
35.7%, continued to be governed by the original earn-out provisions described
above. This remaining interest was held substantially by members of the current
Miss Erika management team, none of whom desired to exercise the option of
receiving a discounted early payment of the contingent earn-out. Miss Erika
achieved Miss Erika EBITDA
17
<PAGE>
during fiscal 1998 and fiscal 1999 which resulted in the payment of additional
consideration of approximately $11.6 million. Payment was made in March 2000,
approximately $9.6 million of which was paid in cash and approximately $2.0
million of which was paid in Common Stock. The Company paid the cash portion of
the remaining contingent consideration from internally generated funds and
borrowings under the Company's revolving credit facility. The Company's
financial statements at February 5, 2000 reflected a total estimated payment of
$12.0 million, of which $10.0 million was included in accrued expenses, relating
to the cash portion of the earn-out payment and $2.0 million was included in
other long-term liabilities, relating to the portion of the earn-out payable in
Common Stock.
On June 18, 1998, the Company completed the acquisition of Jeri-Jo,
acquiring substantially all the assets and assuming substantially all the
liabilities of the privately-held apparel importers of moderately-priced
juniors' and misses' updated sportswear. The purchase price paid in the Jeri-Jo
acquisition was (i) $55.0 million in cash at the closing of the acquisition,
(ii) the assumption of indebtedness of $10.9 million and certain other
contractual obligations. In addition, the Company agreed to pay an additional
contingent payment in cash and its Common Stock in the event that certain
earnings targets are achieved by Jeri-Jo for the two years subsequent to the
closing of the Jeri-Jo acquisition. Such payment must be made no later than
August 30, 2000. The Jeri-Jo purchase agreement requires that the Company pay at
least 50% of the required contingent payment in cash and the Indenture limits
this cash payment to 75% of the total contingent payment. The aggregate
contingent payment payable by the Company is equal to the excess of (1) the sum
of (A) five times Jeri-Jo's average earnings before interest expense, income
taxes, depreciation and amortization, as defined in the Jeri-Jo purchase
agreement ("Jeri-Jo EBITDA"), for the two years ending June 30, 2000, plus (B)
0.50 times any such average Jeri-Jo EBITDA between $17.0 million and $20.0
million, plus (C) one times any such average Jeri-Jo EBITDA over $20.0 million,
over (2) $55.0 million. Additional consideration paid for Jeri-Jo will be
accounted for as additional purchase price and will be reflected in intangible
assets. The Company partially secured its obligation to pay the cash portion of
the contingent payment by delivery of a stand-by letter of credit in the face
amount of $30.0 million, which letter of credit may be drawn upon, in whole or
in part, in certain circumstances, including in the event of a default under the
cash contingent payment obligation. The Company has agreed to cause offers and
sales by the holders of any shares of Common Stock issued as a contingent
payment to be registered under the Securities Act, including, if requested, in
an underwritten offering. The Jeri-Jo purchase agreement provides that in
certain events, the sellers under the Jeri-Jo purchase agreement will have the
option to accelerate the Company's contingent payment obligation. In such
events, the accelerated contingent payment obligation would be payable in cash
in an amount equal to the amount by which (i) five times the greater of $17.0
million or an amount equal to Jeri-Jo's annualized EBITDA (as defined in the
Jeri-Jo purchase agreement) at the time of such event exceeds (ii) $55.0
million. The Company intends to pay the cash portion of the contingent
consideration from internally generated funds and borrowings under the Company's
revolving credit facility. Jeri-Jo achieved Jeri-Jo EBITDA for the 19 month
period ended February 5, 2000 which will result in the payment of significant
additional consideration. Based upon the Jeri-Jo EBITDA achieved for the 19
month period ended February 5, 2000, and assuming that Jeri-Jo achieves its
budgeted EBITDA for the period from February 6, 2000 through June 30, 2000 (the
end of the Jeri-Jo earn-out period), additional consideration in excess of
$135.0 million would be payable in accordance with the Jeri-Jo purchase
agreement.
Concurrent with the closing of the Jeri-Jo acquisition on June 18, 1998,
the Company entered into a $175.0 million secured revolving credit and letter of
credit facility with a bank lending group (as amended, the "Current Credit
Agreement"). The facility is used to finance ongoing working capital
requirements of the Company and its subsidiaries. The Current Credit Agreement
is a three-year secured revolving credit and letter of credit facility, with
interest on outstanding borrowings determined, at the Company's option, based
upon stated margins below the prime rate at Banc of America, N.A. or in excess
of LIBOR rates. Presently, the interest rate under the Current Credit Agreement
is 100 basis points below the prime rate (based upon the current prime rate, the
interest rate under the Current Credit Agreement is 7.75% per annum). Available
credit under the Current Credit Agreement is as follows: revolving credit
advances not to exceed $60.0 million to $100.0 million (depending on the fiscal
month of the Company), documentary letters of credit not to exceed $130.0
million ("Documentary LCs"), stand-by letters of credit not to exceed $15.0
million ("Standby LCs"), and a $30.0 million stand-by letter of credit to
partially secure the Company's cash contingent payment obligation in connection
with the Jeri-Jo acquisition. Aggregate Documentary LCs and Standby LCs may not
exceed $130.0 million. Under the Current Credit Agreement, the aggregate credit
available to the Company is equal to the lesser of (i) $175.0 million or (ii)
the sum of 85% of eligible accounts receivable and 60% of eligible inventory,
plus an overadvance amount ranging from zero to $30.0 million depending on the
fiscal month of the Company and the time in such fiscal month. The Company and
its subsidiaries guarantee the Company's obligations under the Current Credit
Agreement and have granted a lien on substantially all of their respective
assets to secure the obligations under the Current Credit Agreement. The
weighted average interest rates on the revolving credit facility were 7.3% and
8.0% for fiscal 1999 and the first quarter of fiscal 2000, respectively. The
Company continues to factor accounts receivable pursuant to factoring
arrangements.
On June 18, 1998, the Company also issued the Senior Notes due 2005. The
proceeds of the Senior Notes were used to finance the Jeri-Jo acquisition and to
refinance then existing indebtedness of the Company and Jeri-Jo. The Company's
obligations under the Senior Notes are unsecured and are guaranteed by all of
the Company's subsidiaries. The Indenture contains a number of restrictive
covenants, including covenants which limit the incurrence of liens and
indebtedness, limit transactions with affiliates, sales of assets, investments
and other restricted payments, as defined therein.
18
<PAGE>
The Current Credit Agreement contains a number of restrictive covenants,
including covenants which limit the incurrence of liens and indebtedness, limit
transactions with affiliates, acquisitions, sales of assets, investments and
other restricted payments, and require that the Company maintain certain fixed
charge coverage, cash flow coverage and leverage ratios and meet specified
minimum levels of working capital and net worth. At February 5, 2000, the
Company was in compliance with all of its restrictive and financial covenants
under the Current Credit Agreement and Indenture.
On August 9, 1999, the Company and Norton entered into an agreement with
Railroad and Cutting Edge, pursuant to which, among other matters, contract
disputes were settled, Norton purchased certain assets of Railroad and Cutting
Edge, including fixed assets, machinery and equipment at their facilities, and
Railroad's and Cutting Edge's rights under their existing agreements with
Norton. The Purchase Price was $5.5 million payable as follows: $3.0 million at
closing; thereafter, $108,333.33 per month, payable at month-end from July 31,
1999 through March 31, 2000, and $508,333.33 per month payable at month-end from
April 30, 2000 through May 31, 2000, $408,333.33 payable on June 30, 2000, and
$100,000 payable on December 31, 2000. Norton has also retained Railroad to
provide consulting services relating to the relocation of its warehouse and
distribution facilities to South Carolina for a total fee of $500,000 payable on
a monthly basis over a one-year period. See Part II, Item 1, "Legal
Proceedings".
The Agreement also provided for the termination of Norton's then existing
long-term agreements with Railroad (distribution) and Cutting Edge (cutting).
Railroad has agreed to manage the assets Norton purchased and to continue
performing all of Norton's receiving, warehousing and distribution services from
Railroad's New Jersey facilities through June 30, 2000, although Norton may, at
its option, extend this time period until August 31, 2000. Norton has extended
this time period until July 31, 2000.
Pursuant to the Agreement, Railroad and Cutting Edge agreed to obtain
releases of Norton's limited guarantees from the landlords of their respective
warehouse leases. On September 23, 1999, Norton received a release from the
landlord of Cutting Edge's warehouse lease in exchange for a payment of
approximately $230,000. As provided in the Agreement, this amount is being
withheld from subsequent Purchase Price installments. In addition, also as
provided in the Agreement, the Purchase Price has been reduced by the amount due
under Norton's guarantee of Railroad's lease, which totals $500,000. Finally,
the Agreement provided for the early termination of Norton's East Rutherford,
New Jersey piece goods warehouse sublease from Cutting Edge, which occurred on
September 30, 1999.
The Company's capital expenditures were approximately $0.6 million and $1.0
million in the first quarter of fiscal 2000 and the first quarter of fiscal
1999, respectively. The Company anticipates that in fiscal 2000 it will incur
capital expenditures of approximately $6.3 million to $6.8 million, primarily in
connection with Norton's new warehouse and distribution facility in South
Carolina, which will include an automated materials handling system, management
information systems, including hardware and software, machinery and equipment
and furniture and fixtures. The Company expects to finance these capital
expenditures from internally generated funds and advances under the Current
Credit Agreement.
The Company's Board of Directors has authorized a stock repurchase program,
under which the Company may repurchase up to $11.5 million of the Company's
Common Stock. The Company expects that the shares may be purchased from time to
time in the open market and in block transactions. As of February 5, 2000, the
Company has purchased a total of 776,300 shares at an aggregate cost of
approximately $6.5 million. The Company's Current Credit Agreement and the
Indenture limit the amounts which may be expended on stock purchases.
The moderate rate of inflation over the past few years has not had a
significant impact on the Company's sales or profitability. Inflation is not
expected to have a significant impact on the Company's business.
Seasonality
- -----------
Historically, the Company has achieved its highest sales in the fourth
quarter and, to a lesser extent, the second quarter of each fiscal year. As a
result of the Miss Erika and Jeri-Jo acquisitions, the Company anticipates that
it will experience its highest sales in the second quarter and, to a lesser
extent, the fourth quarter of each fiscal year. This pattern results primarily
from the timing of shipments for each season, although the timing of shipments
can vary from quarter to quarter and season to season. Spring season merchandise
is generally shipped in the Company's second fiscal quarter between February and
April, and fall season merchandise is generally shipped in the Company's fourth
fiscal quarter between August and October.
19
<PAGE>
The Year 2000 Issue
- -------------------
The Company believes it has resolved the potential impact of the year 2000
(the "Year 2000") on its processing of date sensitive information and network
systems.
The Company, to date, has not experienced any negative effects due to the
Year 2000 problem, either internally or with its customers or vendors. If the
Company encounters Year 2000 problems during the year 2000, and if customers or
vendors cannot rectify Year 2000 issues, the Company could incur additional
costs, which may be substantial, to develop alternative methods of managing its
business and replacing non-compliant equipment, and may experience delays in
receipts from vendors, shipments to customers, or payments to vendors. The
Company has contingency plans for critical functions in the event of
non-compliance by its customers and vendors.
20
<PAGE>
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The following table provides information about the Company's financial
instruments that are sensitive to changes in interest rates. The table presents
principal cash flows and weighted-average interest rates by expected maturity
dates for the Company's debt obligations at February 5, 2000.
<TABLE>
<CAPTION>
Fiscal Year
----------------------------------------------------------------------------------------------
2000 2001 2002 2003 2004 Thereafter Total
---- ---- ---- ---- ---- ---------- -----
(Dollars In Thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Short-term debt:
Revolving credit - - - - - - -
Prime rate less 100 basis points/(1)/ 7.75% - - - - - 7.75%
Long-term debt:
$125 million Senior Notes - - - - - $125,000 $125,000
Interest rate 12.5% 12.5% 12.5% 12.5% 12.5% 12.5% 12.5%
</TABLE>
___________________
(1) Prior to February 1, 2000, the rate was prime less 50 basis points.
21
<PAGE>
Part II. Other Information
Item 1. Legal Proceedings
On July 14, 1998, Norton's distribution and cutting contractors, Railroad
Enterprises and Cutting Edge, respectively (collectively, "Plaintiffs"), filed
an action in the New York State Supreme Court for New York County which, as
amended, was entitled Cutting Edge Services, Inc. and Railroad Enterprises, Inc.
----------------------------------------------------------
v. Norton McNaughton of Squire, Inc. and Norton McNaughton, Inc. Plaintiffs had
- ----------------------------------------------------------------
claimed that Norton breached its contracts with them because, among other
things, Miss Erika and Jeri-Jo had failed to use Plaintiffs' services as
allegedly required under Norton's contracts with Plaintiffs. This action sought
substantial compensatory and punitive damages and related declaratory relief
concerning rights under the contracts. In connection with the Cutting Edge and
Railroad lawsuit, as well as other pending litigation, the Company established a
litigation reserve of $2.5 million in fiscal 1998.
On August 9, 1999, the Company and Norton entered into an Agreement with
Railroad and Cutting Edge, pursuant to which, among other matters, the foregoing
lawsuit was terminated and Norton purchased certain assets of Railroad and
Cutting Edge, including fixed assets, machinery and equipment at their
facilities, and Railroad's and Cutting Edge's rights under their existing
agreements with Norton. The purchase price (the "Purchase Price") was $5.5
million payable as follows: $3.0 million at closing; thereafter, $108,333.33 per
month, payable at month-end from July 31, 1999 through March 31, 2000, and
$508,333.33 per month payable at month-end from April 30, 2000 through May 31,
2000, $408,333.33 payable on June 30, 2000, and $100,000 payable on December 31,
2000. Norton also retained Railroad to provide consulting services relating to
the relocation of its warehouse and distribution facilities to South Carolina
for a total fee of $500,000 payable on a monthly basis over a one-year period.
The Agreement also provided for the termination of Norton's then existing
long-term agreements with Railroad and Cutting Edge. Railroad has agreed to
manage the assets Norton purchased and to continue performing all of Norton's
receiving, warehousing and distribution services from Railroad's New Jersey
facilities through June 30, 2000, although Norton may, at its option, extend
this time period until August 31, 2000. Norton has extended this time period to
July 31, 2000.
Pursuant to the Agreement, Railroad and Cutting Edge agreed to obtain
releases of Norton's limited guarantees from the landlords of their respective
warehouse leases. On September 23, 1999, Norton received a release from the
landlord of Cutting Edge's warehouse lease in exchange for a payment of
approximately $230,000. As provided in the Agreement, this amount is being
withheld from subsequent Purchase Price installments. In addition, also as
provided in the Agreement, the Purchase Price has been reduced by the amount due
under Norton's guarantee of Railroad's lease, which totals $500,000. Finally,
the Agreement provided for the early termination of Norton's East Rutherford,
New Jersey piece goods warehouse sublease from Cutting Edge, which occurred on
September 30, 1999.
The $5.5 million Purchase Price was allocated to current assets in the
amount of $2.2 million, representing the estimated value of the intangible
contract rights acquired, fixed assets in the amount of $600,000, and the
remaining $2.7 million was offset against the $2.5 million reserve for
litigation established in fiscal 1998 with the balance being charged to expense
in fiscal 1999. The intangible contract rights are being amortized over the term
of the management arrangement provided for in the Agreement and the fixed assets
are being amortized over five years. The Company fully expensed in fiscal 1999
its obligation of $500,000 under the Railroad consulting arrangement provided
for in the Agreement. See Part I, Item 2, "Management's Discussion and Analysis
of Financial Condition and Results of Operations".
The Company is involved in certain other legal actions and claims arising
in the ordinary course of business. It is the opinion of management that such
litigation and claims will be resolved without material adverse effect on the
Company's business, financial condition, results of operations and cash flow. At
February 5, 2000, the Company had a reserve for litigation of approximately
$900,000 in connection with an ongoing claim.
Item 6. Exhibits and Reports on Form 8-K
Exhibit 3.1* Certificate of Second Amendment of Certificate of Incorporation
of McNaughton Apparel Group Inc.
Exhibit 3.2 Certificate of Amendment of Certificate of Incorporation of
McNaughton Apparel Group Inc. (incorporated herein by reference
to Exhibit 3.1 of the Registrant's Form 10-Q for the quarter
ended January 30, 1999).
Exhibit 3.3 By-Laws of McNaughton Apparel Group Inc. (incorporated herein by
reference to Exhibits to the Registrant's Registration Statement
on Form S-1 No. 33-74200).
22
<PAGE>
Exhibit 10.1* Fifth Amendment, dated as of March 21, 2000 to the Amended and
Restated Financing Agreement, dated as of June 18, 1998, as
amended through the date hereof, by and among McNaughton Apparel
Group Inc., formerly known as Norton McNaughton, Inc., Norton
McNaughton of Squire, Inc., Miss Erika, Inc., Jeri-Jo Knitwear,
Inc., formerly known as JJ Acquisition Corp., the lenders party
thereto, NationsBanc Commercial Corporation, as collateral agent
for the Lenders, The CIT Group/Commercial Services, Inc., as
administrative agent for the Lenders and Fleet Bank NA, as
documentation agent for the Lenders.
Exhibit 27 Financial Data Schedule (For SEC use only).
________________________
*Filed herewith.
The Registrant filed no current reports on Form 8-K for the thirteen weeks ended
February 5, 2000.
23
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MCNAUGHTON APPAREL GROUP INC.
(Registrant)
By /s/ Amanda J. Bokman
---------------------------------
Date: March 21, 2000 AMANDA J. BOKMAN
Vice President, Chief Financial Officer,
Secretary and Treasurer
(Duly Authorized Officer and Principal
Financial and Accounting Officer)
24
<PAGE>
EXHIBIT 3.1
CERTIFICATE OF AMENDMENT
OF
CERTIFICATE OF INCORPORATION
OF
McNAUGHTON APPAREL GROUP INC.
Pursuant to Section 242 of
the General Corporation Law of
the State of Delaware
------------------------------
McNaughton Apparel Group Inc., a corporation organized and existing
under and by virtue of the General Corporation Law of the State of Delaware (the
"Corporation"), DOES HEREBY CERTIFY:
FIRST: The Certificate of Incorporation of the Corporation is hereby
amended by deleting the first sentence of ARTICLE FOURTH of the Certificate of
Incorporation in its entirety and substituting in lieu thereof the following:
"FOURTH: The total number of shares of capital stock which the Corporation
shall have the authority to issue is 1,000,000 shares of Preferred Stock,
$1.00 par value per share (the "Preferred Stock") and 30,000,000 shares of
Common Stock, $.01 par value per share (the "Common Stock").
SECOND: The amendment to the Certificate of Incorporation of the
Corporation set forth in this Certificate of Amendment has been duly adopted in
accordance with the applicable provisions of Section 242 of the General
Corporation Law of the State of Delaware, (a) the Board of Directors of the
Corporation having duly adopted a resolution setting forth such amendment and
declaring its advisability at a meeting of the Board of Directors on January 7,
2000 and (b) the stockholders of the Corporation having duly adopted such
amendment by vote of the majority of the outstanding stock entitled to vote
thereon at the annual meeting of stockholders called
<PAGE>
and held upon notice in accordance with Section 222 of the General Corporation
Law of the State of Delaware.
IN WITNESS WHEREOF, the undersigned has caused its corporate seal to
be affixed and this Certificate of Amendment of its Certificate of Incorporation
to be executed as of the 14th day of March, 2000.
McNAUGHTON APPAREL GROUP INC.
By: /s/ Amanda J. Bokman
----------------------------------
Name: Amanda J. Bokman
Title: Vice President, Chief Financial
Officer, Secretary and Treasurer
ATTEST:
/s/ Laura Lentini
- ----------------------------
Name: Laura Lentini
Title: Controller
<PAGE>
EXHIBIT 10.1
FIFTH AMENDMENT
TO
AMENDED AND RESTATED FINANCING AGREEMENT
Fifth Amendment, dated as of March 21, 2000 to the Amended and
Restated Financing Agreement, dated as of June 18, 1998, as amended through the
date hereof (the "Financing Agreement"), by and among McNaughton Apparel Group
Inc., a Delaware corporation, formerly known as Norton McNaughton, Inc. (the
"Company"), Norton McNaughton of Squire, Inc., a New York corporation
("Squire"), Miss Erika, Inc., a Delaware corporation ("Miss Erika"), Jeri-Jo
Knitwear, Inc., a Delaware corporation formerly known as JJ Acquisition Corp.
("Jeri-Jo" and together with Squire and Miss Erika, each a "Borrower" and
collectively, the "Borrowers"), the lenders party thereto (each a "Lender" and
collectively the "Lenders"), Banc of America Commercial Corporation, as
successor by merger to NationsBanc Commercial Corporation, as collateral agent
for the Lenders (in such capacity, the "Collateral Agent"), The CIT
Group/Commercial Services, Inc., as administrative agent for the Lenders (in
such capacity, the "Administrative Agent") and Fleet Bank NA, as documentation
agent for the Lenders (in such capacity, the "Documentation Agent" and together
with the Collateral Agent and the Administrative Agent, each an "Agent" and
collectively, the "Agents").
The Company, the Borrowers, the Lenders and the Agents desire
to amend certain terms and conditions in the Financing Agreement as hereafter
set forth. Accordingly, the Company, the Borrowers, the Agents and the Lenders
hereby agree as follows:
1. Definitions. All capitalized terms used herein and not
otherwise defined herein are used herein as defined in the Financing Agreement.
2. New Definition. The following definition of the new term
"Jeri-Jo Earn Out L/C" is hereby added to Section 1.01 of the Financing
Agreement to read as follows:
"'Jeri-Jo Earn Out L/C' means the Letter of Credit in the
stated amount of $30,000,000 issued by the L/C Issuer in connection
with the Jeri-Jo Earn Out Payment."
3. L/C Subfacility. The definition of the term "L/C
Subfacility" in Section 1.01 of the Financing Agreement is hereby amended in its
entirety to read as follows:
"'L/C Subfacility' means that portion of the Total Commitment
equal to (i) prior to the time that the Jeri-Jo Earn Out L/C is no
longer outstanding, whether as a result of a drawing and/or a
cancellation of such Letter of Credit, $160,000,000 and (ii) on and
after the time that the Jeri-Jo Earn Out L/C is no longer
outstanding, whether as a result of a drawing and/or a cancellation
such
<PAGE>
Letter of Credit, $130,000,000, or, in each case, such other amount
as shall be agreed to in writing by the Agents, the Lenders and the
Borrowers."
4. Overadvance Amount. The definition of the term "Overadvance
Amount" in Section 1.01 of the Financing Agreement is hereby amended in its
entirety to read as follows:
"'Overadvance Amount' means (i) for the Borrowers on a
combined basis, for each Fiscal Month, the amount (A) at anytime
during such Fiscal Month (other than the last day of such Fiscal
Month) and (B) on the last day of such Fiscal Month, in each case as
set forth on Schedule 1.01E attached hereto, corresponding to each
such Fiscal Month, which amounts shall be allocated among the
Borrowers by the Administrative Agent pursuant to the terms of
Section 2.01(b) hereof and (ii) for each Borrower on an individual
basis, the portion of the relevant amount set forth in clause (i)
above allocated by the Administrative Agent to such Borrower
pursuant to Section 2.01(b) hereof as such amounts may be reduced as
provided in Section 2.07(g) hereof."
5. Pricing Grid. The definition of the term "Pricing Grid" in
Section 1.01 of the Financing Agreement is hereby amended in its entirety to
read as follows:
"'Pricing Grid' means the pricing grid attached hereto as
Exhibit 1.01D-1".
6. Revolving Credit Loans. Section 2.01(b) of the Financing
Agreement is hereby amended by deleting clause (i)(C) thereof and substituting
in lieu thereof the following:
"(c) for each Fiscal Month, the maximum amount of Revolving
Credit Loans corresponding to each such Fiscal Month as set forth on
Schedule 1.01E attached hereto."
7. Settlement Period. The first sentence of Section 2.05(b)(i)
of the Financing Agreement is hereby amended in its entirety to read as follows:
"With respect to each Eurodollar Loan, on the first and the
last day of each Interest Period and, with respect to all periods
for which the Administrative Agent, on behalf of the Lenders, has
funded Loans pursuant to subsection 2.05(a), on the first Business
Day after the last day of each week, or such shorter period as the
Administrative Agent may from time to time select (any such period
being herein called a "Settlement Period"), the Administrative Agent
shall notify each Lender of the average daily unpaid principal
amount of the Loans outstanding during such Settlement Period."
8. Prepayment of Loans. The first sentence of Section 2.07(c)
of the Financing Agreement is hereby amended in its entirety to read as follows:
"If at any time (i) the Borrowing Base of the
Borrowers calculated on a combined basis is less than the sum
of the outstanding principal on all Loans
-2-
<PAGE>
outstanding plus the outstanding amount of all Letter of
Credit Obligations, (ii) the Borrowing Base of Squire on an
individual basis is less than the sum of the outstanding
principal on all A Revolving Credit Loans plus the outstanding
amount of all A Letter of Credit Obligations, (iii) the
Borrowing Base of Miss Erika on an individual basis is less
than the sum of the outstanding principal on all B Revolving
Credit Loans plus the outstanding amount of all B Letter of
Credit Obligations, or (iv) the Borrowing Base of Jeri-Jo on
an individual basis is less than the sum of the outstanding
principal on all C Revolving Credit Loans plus the outstanding
amount of all C Letter of Credit Obligations, Squire, Miss
Erika or Jeri-Jo, as appropriate, will (A) immediately give
notice of such occurrence to the Administrative Agent and (B)
prepay the appropriate Loans in an amount which will reduce
the sum of the outstanding principal on all such Loans, the A
Revolving Credit Loans, the B Revolving Credit Loans, or the C
Revolving Credit Loans, as the case may be, to an amount less
than or equal to the then current Borrowing Base of the
Borrowers on a combined basis or the Borrowing Base of Squire,
Miss Erika or Jeri-Jo, on an individual basis, as the case may
be, less the outstanding amount of all Letter of Credit
Obligations, the outstanding amount of all A Letter of Credit
Obligations, the outstanding amount of all B Letter of Credit
Obligations, or the outstanding amount of all C Letter of
Credit Obligations, as the case may be."
9. Letters of Credit. The third sentence of Section 3.01(b) of
the Financing Agreement is hereby amended in its entirety to read as follows:
"Not more than $45 million (or $15 million on and after
the time that the Jeri-Jo Earn Out L/C is no longer
outstanding, whether as a result of a drawing and/or a
cancellation of such Letter of Credit) of such Letter of
Credit Obligations shall be Letter of Credit Obligations with
respect to standby Letters of Credit and not more than $130
million of such Letter of Credit Obligations shall be Letter
of Credit Obligations with respect to documentary Letters of
Credit (including $45 million of such Letters of Credit
available to Jeri-Jo under its Borrowing Base, subject to all
of the terms of this Agreement)."
10. Norty's Inc. Section 7.02(d)(i) of the Financing Agreement
is hereby amended in its entirety to read as follows:
"(i) Merge or consolidate with any Person, or permit
any of their Subsidiaries to merge or consolidate with, any
Person; provided, however, that (A) Norty's Inc. may merge
into Squire as long as Squire is the surviving entity in such
merger and (B) any Loan Party (other than the Borrowers)
including any Subsidiary of a Loan Party formed or acquired
after the Effective Date, may be merged into a Guarantor
(other than the Borrowers) or another such Subsidiary, or may
consolidate with another such Subsidiary, so long as (x) the
Company gives the Administrative Agent at least 60 days' prior
written notice of such merger or
-3-
<PAGE>
consolidation and (y) no Default or Event of Default shall
have occurred and be continuing either before or after giving
effect to such transactions."
11. Capital Expenditures. Section 7.02(h) of the Financing
Agreement is hereby amended in its entirety to read as follows:
"(h) Capital Expenditures. Make or be committed to make,
or permit any of its Subsidiaries to make or be committed to
make, any expenditure (by purchase or Capitalized Lease) for
fixed or capital assets other than expenditures (including
obligations under Capitalized Leases) which would not cause
the aggregate amount of all such expenditures to exceed
$8,000,000 for the Fiscal Year ending November 4, 2000, and
$5,000,000 for each Fiscal Year thereafter."
12. Share Repurchase. Section 7.02(i) of the Financing
Agreement is hereby amended to delete the amount "$1,000,000" in clause (iii)
thereof and substitute in lieu thereof "$5,000,000."
13. Financial Covenants. Section 7.02(p) of the Financing
Agreement is hereby amended in its entirety to read as follows:
"(i) Net Worth. Permit Consolidated Net Worth of the
Company and its Consolidated Subsidiaries at the end of each
Fiscal Quarter to be less than the amount set forth below
opposite each such Fiscal Quarter end:
Fiscal Quarter End Minimum Net Worth
------------------ -----------------
February 5, 2000 $ 47,000,000
May 6, 2000 $ 55,000,000
August 5, 2000 $ 57,000,000
November 4, 2000 $130,000,000
provided that, upon receipt of the financial projections
required to be delivered to the Lenders pursuant to Section
7.01(a)(vi) hereof for each Fiscal Year, the Company and the
Agents shall negotiate in good faith to determine the
Consolidated Net Worth for the Company and its Consolidated
Subsidiaries as of the end of each Fiscal Quarter covered by
such financial projections and, in the event that the Company
and the Required Lenders are unable to agree upon the amounts
of such Consolidated Net Worth on or before the date that is
30 days after the date that the Lenders have received such
financial projections, the Consolidated Net Worth at the end
of each Fiscal Quarter of the Fiscal Year covered by such
financial projections shall not be less than the amount set
forth for the last Fiscal Quarter end set forth above.
(ii) Leverage Ratio. Permit the ratio of
Consolidated Total Liabilities to Consolidated Net Worth of
the Company and its Consolidated
-4-
<PAGE>
Subsidiaries as of the end of each Fiscal Quarter to be
greater than the amount set forth below opposite each such
Fiscal Quarter end:
Maximum
Fiscal Quarter End Leverage Ratio
------------------ --------------
February 5, 2000 3.53 to 1
May 6, 2000 3.45 to 1
August 5, 2000 5.48 to 1
November 4, 2000 1.91 to 1
provided that, upon receipt of the financial projections
required to be delivered to the Lenders pursuant to Section
7.01(a)(vi) hereof for each Fiscal Year, the Company and the
Agents shall negotiate in good faith to determine the ratio of
Consolidated Total Liabilities to Consolidated Net Worth of
the Company and its Consolidated Subsidiaries as of the end of
each Fiscal Quarter covered by such financial projections and,
in the event that the Company and the Required Lenders are
unable to agree upon such ratio on or before the date that is
30 days after the date that the Lenders have received such
projections, such ratio as of the end of each Fiscal Quarter
of the Fiscal Year covered by such financial projections shall
not be greater than the ratio set forth for the last Fiscal
Quarter end set forth above.
(iii) Working Capital. Permit Working
Capital at the end of each Fiscal Quarter to be less than the
amount set forth below opposite each such Fiscal Quarter:
Minimum
Fiscal Quarter End Working Capital
------------------ ---------------
February 5, 2000 $89,000,000
May 6, 2000 $93,000,000
August 5, 2000 $29,000,000
November 4, 2000 $37,000,000
provided that, upon receipt of the financial projections
required to be delivered to the Lenders pursuant to Section
7.01(a)(vi) hereof for each Fiscal Year, the Company and the
Agents shall negotiate in good faith to determine the minimum
Working Capital as of the end of each Fiscal Quarter covered
by such financial projections and, in the event that the
Company and the Required Lenders are unable to agree upon the
amounts of such Working Capital on or before the date that is
30 days after the date that the Lenders have received such
projections, the Working Capital at the end of each Fiscal
Quarter of the Fiscal Year covered by
-5-
<PAGE>
such financial projections shall not be less than the amount
set forth for the last Fiscal Quarter end set forth above.
(iv) Fixed Charge Coverage Ratio. Permit the
ratio of Consolidated EBITDA of the Company and its
Consolidated Subsidiaries to Consolidated Fixed Charges of the
Company and its Consolidated Subsidiaries for each Fiscal
Quarter to be less than the amount set forth below opposite
each such Fiscal Quarter:
Minimum Fixed
Fiscal Quarter End Charge Coverage Ratio
------------------ ---------------------
February 5, 2000 .87 to 1
May 6, 2000 1.30 to 1
August 5, 2000 .90 to 1
November 4, 2000 1.91 to 1
provided that, upon receipt of the financial projections
required to be delivered to the Lenders pursuant to Section
7.01(a)(vi) hereof for each Fiscal Year, the Company and the
Agents shall negotiate in good faith to determine the ratio of
Consolidated EBITDA of the Company and its Consolidated
Subsidiaries to Consolidated Fixed Charges of the Company and
its Consolidated Subsidiaries as of the end of each Fiscal
Quarter covered by such financial projections and, in the
event that the Company and the Required Lenders are unable to
agree upon the amounts of such ratio on or before the date
that is 30 days after the date that the Lenders have received
such projections, such ratio for each Fiscal Quarter of the
Fiscal Year covered by such financial projections shall not be
less than the ratio set forth for the last Fiscal Quarter end
set forth above.
(v) Cash Flow Ratio. Permit the ratio of
Consolidated EBIT of the Company and its Consolidated
Subsidiaries to Consolidated Net Interest Expense of the
Company and its Consolidated Subsidiaries at the end of each
Fiscal Quarter be less than the amount set forth below
opposite each such Fiscal Quarter:
Minimum
Fiscal Quarter End Cash Flow Ratio
------------------ ---------------
February 5, 2000 1.56 to 1
May 6, 2000 3.76 to 1
August 5, 2000 1.93 to 1
November 4, 2000 2.73 to 1
-6-
<PAGE>
provided that, upon receipt of the financial projections
required to be delivered to the Lenders pursuant to Section
7.01(a)(vi) hereof for each Fiscal Year, the Company and the
Agents shall negotiate in good faith to determine the ratio of
Consolidated EBIT of the Company and its Consolidated
Subsidiaries to Consolidated Net Interest Expense of the
Company and its Consolidated Subsidiaries as of the end of
each Fiscal Quarter covered by such financial projections and,
in the event that the Company and the Required Lenders are
unable to agree upon such ratio on or before the date that is
30 days after the date that the Lenders have received such
projections, such ratio at the end of each Fiscal Quarter of
the Fiscal Year covered by such financial projections shall
not be less than the ratio set forth for the last Fiscal
Quarter set forth above."
14. Schedules. Schedule 1.01D to the Financing Agreement is
hereby amended in its entirety to read as set forth as Annex I to this
Amendment. New Schedule 1.01E is hereby added to the Financing Agreement to read
as set forth as Annex II to this Amendment.
15. Conditions to Effectiveness. This Amendment shall be
effective as of the date hereof provided that the following conditions have been
satisfied in full (the "Amendment Effective Date").
(a) The representations and warranties contained in this
Amendment and in Article VI of the Financing Agreement shall be true and correct
in all material respects on and as of the Amendment Effective Date and the date
hereof as though made on and as of each of such dates (except where such
representations and warranties relate to an earlier date in which case such
representations and warranties shall be true and correct as of such earlier
date); no Event of Default or Default shall have occurred and be continuing on
the Amendment Effective Date or on the date hereof, or result from this
Amendment becoming effective in accordance with its terms.
(b) The Agents shall have received counterparts of this
Amendment which bear the signatures of the Company, the Borrowers and each of
the Lenders.
(c) The Administrative Agent shall have received in
immediately available funds, for the ratable benefit of the Lenders in
accordance with their Pro Rata Shares, a non-refundable amendment fee equal to
$250,000.
(d) All legal matters incident to this Amendment shall
be satisfactory to the Agents and their counsel.
16. Representations and Warranties. Each of the Company and
the Borrowers represents and warrants to the Lenders as follows:
(a) The Company and each Borrower (i) is duly organized,
validly existing and in good standing under the laws of the state of its
organization and (ii) has all requisite power, authority and legal right to
execute, deliver and perform this Amendment, all
-7-
<PAGE>
other documents executed by it in connection with this Amendment, and to perform
the Financing Agreement, as amended hereby.
(b) The execution, delivery and performance by each of
the Company and the Borrowers of this Amendment and all other documents executed
by each of them in connection with this Amendment and the performance by the
Company and the Borrowers of the Financing Agreement as amended hereby (i) have
been duly authorized by all necessary action, (ii) do not and will not violate
or create a default under the Company's or any Borrower's organizational
documents, any applicable law or any contractual restriction binding on or
otherwise affecting the Company or any Borrower or any of the Company's or such
Borrower's properties, and (iii) except as provided in the Loan Documents, do
not and will not result in or require the creation of any Lien upon or with
respect to the Company's or any Borrower's property.
(c) No authorization or approval or other action by, and
no notice to or filing with, any Governmental Authority or other regulatory body
is required in connection with the due execution, delivery and performance by
the Company or any of the Borrowers of this Amendment and all other documents
executed by it in connection with this Amendment and the performance by the
Company and the Borrowers of the Financing Agreement as amended hereby.
(d) This Amendment and the Financing Agreement, as
amended hereby, and all other documents executed in connection with this
Amendment constitute the legal, valid and binding obligations of the Company and
the Borrowers party thereto, enforceable against such Persons in accordance with
their terms except to the extent the enforceability thereof may be limited by
any applicable bankruptcy, insolvency, reorganization, moratorium or similar
laws from time to time in effect affecting generally the enforcement of
creditors' rights and remedies and by general principles of equity.
(e) The representations and warranties contained in
Article VI of the Financing Agreement are true and correct on and as of the
Amendment Effective Date and as of the date hereof as though made on and as of
the Amendment Effective Date and the date hereof (except to the extent such
representations and warranties expressly relate to an earlier date), and no
Event of Default or Default has occurred and is continuing on and as of the
Amendment Effective Date or on the date hereof after giving effect to this
Amendment.
(f) Immediately prior to the merger by Norty's Inc. into
Squire, Norty's Inc. conducts no business and does not have any assets or
liabilities except for a net operating loss.
17. Continued Effectiveness of Financing Agreement. Each of
the Company and the Borrowers hereby (i) confirms and agrees that each Loan
Document to which it is a party is, and shall continue to be, in full force and
effect and is hereby ratified and confirmed in all respects except that on and
after the Amendment Effective Date of this Amendment all references in any such
Loan Document to "the Financing Agreement", "thereto", "thereof", "thereunder"
or words of like import referring to the Financing Agreement shall mean the
-8-
<PAGE>
Financing Agreement as amended by this Amendment, and (ii) confirms and agrees
that to the extent that any such Loan Document purports to assign or pledge to
the Collateral Agent, or to grant to the Collateral Agent a Lien on any
collateral as security for the Obligations of the Company and the Borrowers from
time to time existing in respect of the Financing Agreement and the Loan
Documents, such pledge, assignment and/or grant of a Lien is hereby ratified and
confirmed in all respects.
18. Miscellaneous.
(a) This Amendment may be executed in any number of
counterparts and by different parties hereto in separate counterparts, each of
which shall be deemed to be an original, but all of which taken together shall
constitute one and the same agreement.
(b) Section and paragraph headings herein are included
for convenience of reference only and shall not constitute a part of this
Amendment for any other purpose.
(c) This Amendment shall be governed by, and construed
in accordance with, the laws of the State of New York.
(d) The Borrowers will pay on demand all reasonable
out-of-pocket costs and expenses of the Agents in connection with the
preparation, execution and delivery of this Amendment, including, without
limitation, the reasonable fees, disbursements and other charges of Schulte Roth
& Zabel LLP, counsel to the Agents.
-9-
<PAGE>
IN WITNESS WHEREOF, the parties hereto have caused this
Amendment to be executed by their respective officers thereunto duly authorized
as of the day and year first above written.
MCNAUGHTON APPAREL GROUP INC.
By:
-------------------------------------
Title:
----------------------------------
NORTON MCNAUGHTON OF SQUIRE, INC.
By:
-------------------------------------
Title:
----------------------------------
MISS ERIKA, INC.
By:
-------------------------------------
Title:
----------------------------------
JERI-JO KNITWEAR, INC.
By:
-------------------------------------
Title:
----------------------------------
AGENTS AND LENDERS
THE CIT GROUP/COMMERCIAL SERVICES,
INC., as Administrative Agent
By:
-------------------------------------
Title:
----------------------------------
BANC OF AMERICA COMMERCIAL
CORPORATION, as Collateral Agent
By:
-------------------------------------
Title:
----------------------------------
<PAGE>
FLEET BANK NA, as Documentation Agent
By:
-------------------------------------
Title:
----------------------------------
FLEET BUSINESS CREDIT CORPORATION
By:
-------------------------------------
Title:
----------------------------------
ISRAEL DISCOUNT BANK OF NEW YORK
By:
-------------------------------------
Title:
----------------------------------
SUNROCK CAPITAL CORP.
By:
-------------------------------------
Title:
----------------------------------
PNC BANK, NATIONAL ASSOCIATION
By:
-------------------------------------
Title:
----------------------------------
HELLER FINANCIAL, INC.
By:
-------------------------------------
Title:
----------------------------------
<PAGE>
ACKNOWLEDGED AND AGREED:
NORTY'S INC.
By:
-----------------------------
Title:
MCNAUGHTON APPAREL HOLDINGS INC.
By:
-----------------------------
Title:
<PAGE>
ANNEX I
SCHEDULE 1.01D-1
Pricing Grid
<TABLE>
<CAPTION>
- -------------------- ------------------- ------------------- ------------------- ------------------- --------------------
If the ratio If the ratio If the ratio If the ratio If the ratio
of Consolidated Consolidated of Consolidated of Consolidated of Consolidated
Funded Debt Funded Debt Funded Debt Funded Debt Funded Debt to
to EBITDA is to EBITDA is to EBITDA is to EBITDA is EBITDA is
greater than greater than greater than or greater than less than 2.75
or equal to 4.50 or equal to 4.00 equal to 3.25 2.75 and less
and less than 4.50 and less than 4.00 than 3.25
- -------------------- ------------------- ------------------- ------------------- ------------------- --------------------
<S> <C> <C> <C> <C> <C>
Applicable Base (-, minus) (-, minus) (-, minus) (-, minus) (-, minus)
Rate Margin 25 basis points 50 basis points 75 basis points 100 basis points 125 basis points
- -------------------- ------------------- ------------------- ------------------- ------------------- --------------------
Applicable 275 basis points 250 basis points 225 basis points 200 basis points 175 basis points
Eurodollar Rate
Margin
- -------------------- ------------------- ------------------- ------------------- ------------------- --------------------
Applicable L/C 1.00% .875% .75% .625% .50%
Percentage
- -------------------- ------------------- ------------------- ------------------- ------------------- --------------------
</TABLE>
Commencing on the Pricing Grid Effective Date, changes in the Applicable Base
Rate Margin, the Applicable Eurodollar Rate Margin or the Applicable L/C
Percentage resulting from changes in the ratio of Consolidated Funded Debt to
EBITDA shall become effective on the first day of the month following the date
of delivery to the Agents of the financial statements pursuant to Sections
7.01(a)(i) of this Agreement and shall remain in effect until the next change to
be effected pursuant to this paragraph. If any financial statements referred to
above are not delivered within the time period specified in Sections 7.01(a)(i),
then, until such financial statements are delivered, the ratio of Consolidated
Funded Debt to EBITDA as at the end of the Fiscal Quarter that would have been
covered thereby shall for the purposes hereof be deemed to be = or > 4.50. Each
determination of the ratio of Consolidated Funded Debt to EBITDA pursuant to
this paragraph shall be made with respect to the period of four consecutive
Fiscal Quarters ending at the end of the period covered by the relevant
financial statements.
<PAGE>
ANNEX II
SCHEDULE 1.01E
Maximum Revolving Credit Loans and Overadvance Amount
<TABLE>
<CAPTION>
Overadvance Overadvance
Maximum Amount on Amount During Fiscal
Revolving Last Day of Month (Other
Credit Loans Fiscal Month than Last Day)
-------------- ------------ ---------------
<S> <C> <C> <C>
March 2000 $ 60,000,000 -0- $ 5,000,000
April 2000 $ 60,000,000 -0- $ 5,000,000
May 2000 $ 60,000,000 $ 5,000,000 $ 5,000,000
June 2000 $ 60,000,000 $ 5,000,000 $10,000,000
July 2000 $ 60,000,000 $ 5,000,000 $10,000,000
August 2000 $ 80,000,000 $25,000,000 $25,000,000
September 2000 $ 80,000,000 $25,000,000 $30,000,000
October 2000 $ 80,000,000 $20,000,000 $25,000,000
November 2000 $ 75,000,000 $15,000,000 $20,000,000
December 2000 $ 75,000,000 $20,000,000 $25,000,000
January 2001 $ 75,000,000 $20,000,000 $25,000,000
February 2001 $ 90,000,000 $15,000,000 $25,000,000
March 2001 $ 100,000,000 $15,000,000 $25,000,000
April 2001 $ 100,000,000 $15,000,000 $20,000,000
May 2001 $ 90,000,000 -0- $15,000,000
June 2001 $ 70,000,000 -0- $ 5,000,000
</TABLE>
Any extension of the Termination Anniversary Date to a date after June 18, 2001
will be conditioned upon the Lenders and the Borrowers agreeing upon the Maximum
Revolving Credit Loans and Overadvance Amounts for periods subsequent to such
date.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM SEC FORM
10-Q AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> NOV-04-2000
<PERIOD-START> NOV-07-1999
<PERIOD-END> FEB-05-2000
<CASH> 4,161
<SECURITIES> 0
<RECEIVABLES> 64,655
<ALLOWANCES> 0
<INVENTORY> 54,058
<CURRENT-ASSETS> 133,872
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 217,641
<CURRENT-LIABILITIES> 37,513
<BONDS> 125,000
0
0
<COMMON> 81
<OTHER-SE> 51,331
<TOTAL-LIABILITY-AND-EQUITY> 217,641
<SALES> 87,718
<TOTAL-REVENUES> 87,718
<CGS> 63,856
<TOTAL-COSTS> 63,856
<OTHER-EXPENSES> 16,140
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4,327
<INCOME-PRETAX> 3,588
<INCOME-TAX> 1,471
<INCOME-CONTINUING> 2,117
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,117
<EPS-BASIC> 0.29
<EPS-DILUTED> 0.27
</TABLE>
