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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------------
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended July 31, 1997 Commission File No.: 0-24338
VARIFLEX, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 95-3164466
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
5152 NORTH COMMERCE AVENUE
MOORPARK, CALIFORNIA 93021
(Address of principal executive offices)
Registrant's telephone number, including area code:
(805) 523-0322
-----------------------
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.001 par value per share
-----------------------
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES X NO
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Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
The aggregate market value of the Common Stock held by non affiliates of
the Registrant as of October 16, 1997 was approximately $10,475,000 based upon
the closing sale price of the Registrant's Common Stock on such date.
Shares of $.001 par value Common Stock outstanding at October 16, 1997:
6,025,397 shares.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Proxy Statement for its 1997 Annual Meeting of
Shareholders scheduled to be held on December 5, 1997 are incorporated by
reference into Part III of this Form 10-K.
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Statements in this Annual Report on Form 10-K under the captions "Business"
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations", as well as oral statements that may be made by the Company or by
officers, directors or employees of the Company acting on the Company's behalf,
that are not historical fact constitute "forward-looking statements" within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. These forward-looking
statements involve risks and uncertainties, including, but not limited to: the
risk of reduction in consumer demand for the product categories in which the
Company does business or for the Company's products in particular; the risk that
the Company may not continue to expand and diversify its business and product
lines; the risks inherent in the design and development of new products and
product enhancements, including those associated with patent issues and
marketability; the risk of loss of one or more of the Company's major customers;
the risk that the Company may not be able to continue to provide its products at
prices which are competitive or that it can continue to design and market
products that appeal to consumers even if price competitive; and, the risk that
the Company may not be able to obtain its products and supplies on substantially
similar terms, including cost, in order to sustain its operating margins.
Additionally, the Company's business, operations and financial condition are
subject to risks which are described in the Company's reports and statements
filed from time to time with the Securities and Exchange Commission, including
this Report.
PART I
ITEM 1. BUSINESS
(a) GENERAL DEVELOPMENT OF BUSINESS.
Variflex, Inc. (the "Company") is a leading marketer in the United States
of in-line skates, skateboards, bicycle and recreational safety helmets and
athletic protective equipment (such as wrist guards, elbow pads and knee pads
used by skaters and skateboarders). The Company designs and develops these
products which are then manufactured to the Company's detailed specifications by
independent contractors. The Company also designs, manufactures and markets
snowboards and related accessories and other products. The Company distributes
its products throughout the United States and to foreign countries.
The Company was originally incorporated by Raymond H. Losi and Raymond H.
Losi, II, in California in 1977, and reincorporated in Delaware in March 1994.
Both Raymond H. Losi and Raymond H. Losi, II are executive officers of the
Company. The Company has two wholly-owned subsidiaries, Oketa Ltd., a Hong Kong
corporation incorporated in May 1987 to facilitate sales through international
letters of credit, and Static Snowboards, Inc., a Delaware corporation
incorporated in April 1995 for the purpose of manufacturing and marketing
snowboards. Unless the context otherwise requires, references in this Form 10-K
to the "Company" refer to Variflex, Inc. and its subsidiaries.
(b) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS.
For each of its last three fiscal years, the Company has been engaged in
only one industry segment, namely the manufacture and distribution of sporting
and athletic goods. Financial information concerning the Company's business is
included in Items 6, 7, 8 and 14.
(c) NARRATIVE DESCRIPTION OF BUSINESS.
(1) PRODUCTS.
The Company's principal products are in-line roller skates, which feature
wheels mounted in a straight line on a composite plastic chassis, functioning
much like the blade on an ice skate. The Company currently sells 27 models of
in-line skates to the mass market under the Variflex(TM) brand. These models are
sold under various names, including Assault(TM), Alien(TM), Comet XT(TM),
Crystal(TM), Dasher(TM), Excell(TM), Firebird(TM), Fury(TM), GX-2(TM),
Maverick(TM), Mystic(TM), Nighthawk(TM), Ranger(TM), Reactor(TM), Roadwolf(TM),
Sabre XT(TM), Shadow(TM), Silhouette(TM), Ventura(TM), VFX(TM), Voltage(TM) and
X-2(TM), or versions thereof. Overall, the Company has 10 adult and young adult
models and 18 youth models.
The Company's in-line roller skates generally consist of a molded polymer
boot with, depending upon the model, either an integrated wheel chassis or a
wheel chassis riveted to the bottom of the boot, and high density polyurethane
wheels mounted on ball bearings and bolted through the wheel chassis. The boot
contains a removable breathable nylon liner which increases comfort. The wheel
chassis is, depending on the model, made of either fiberglass-filled nylon or
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various plastics. Each chassis holds four wheels mounted in line, and each pair
of skates has either one or two brakes, consisting of a hard rubber pad mounted
on the rear of the chassis.
The Company also markets and distributes skateboards, skoot skates and
scooters. The Company presently offers six different models of skateboards under
the Variflex(TM) brand and two models under the Static(TM) brand, four different
models of the Variflex Skoot Skate, which is a skateboard with a removable
handle for young children and beginners, and five models of scooters in two
different sizes. Additionally, the Company offers a line of skating and
skateboarding protective equipment, such as knee pads, elbow pads and wrist
guards, as well as accessories and replacement parts such as bearings, wheels
and straps.
The Company also markets and distributes a line of bicycle and recreational
safety helmets. The helmets are marketed to cyclists, skateboarders and in-line
skaters. The Company presently has five adult helmet models, five young adult
models, five youth models, one child model and one toddler model. Each model
features ventilated aerodynamic designs with adjustable harnesses, and each
comes in a variety of colors and graphics. The Company's helmets are
manufactured by independent contractors through a process of injecting a
polyurethane foam to form a strong, lightweight protective inner shell bonded to
a hard PVC outer shell. All of the Company's helmets meet or exceed the
standards of the American Society for Testing and Materials (ASTM). The
Company's helmets are sold under the Chaser(TM), Excell(TM), Lil' Pal(TM),
Magnum XT(TM), Spitfire(TM), Street Heat XT(TM) and Vectra(TM) names or versions
thereof.
During the fiscal year ended July 31, 1996, the Company, through its
wholly-owned subsidiary, Static Snowboards, Inc., began manufacturing and
marketing a line of snowboards. The snowboards carry the Static(TM) brand name,
and are manufactured at the Company's factory in California. The Company
presently offers three series, Freestyle, All Mountain and Kids, with each
coming in a variety of graphics and sizes. These snowboards feature a vertically
laminated wood core, an epoxy adhesive matrix, stainless steel inserts, Rockwell
48 edges, P-Tex 1000 base material, PVT Pennite top sheet and ABS sidewall
material. Also, during the fiscal year ended July 31, 1997, the Company
exercised a purchase option in an agreement first entered into during the
previous fiscal year, wherein its subsidiary, Static Snowboards, Inc., acquired
the exclusive right to manufacture, market and distribute all snowboards bearing
the Barfoot(TM) brand name. Barfoot(TM) is an existing snowboard brand (founded
in 1978) sold world-wide through the specialty market in skiing and snowboarding
pro shops and resorts.
During the fiscal year ended July 31, 1997, the Company developed and began
marketing and distributing its new Quik Shade(TM) instant canopy, designed to
offer portable shade and shelter for a variety of uses with the convenience of
easy set-up and take-down. The frames and tops for the Quik Shade(TM) are
manufactured overseas by independent contractors. The Company presently offers a
single model of the Quik Shade in four different colors, and has plans to
develop new models and accessories during the coming year.
For the fiscal years ended July 31, 1997, 1996 and 1995, these products
comprised the following percentages of the Company's total gross sales:
<TABLE>
<CAPTION>
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
In-line skates 69% 77% 81%
Skateboards and scooters 17% 10% 2%
Athletic protective equipment 5% 8% 8%
Bicycle and recreational safety helmets 5% 5% 8%
Snowboards 3% (*) -
Canopies 1% - -
Other (*) (*) (*)
---- ---- ----
Total 100% 100% 100%
==== ==== ====
</TABLE>
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(*) Less than one-half of one percent.
The Company's products are marketed in North America primarily through a
network of independent sales representatives and marketing organizations and
through attendance by representatives of the Company at industry trade shows.
The Company's customers consist primarily of national mass merchandisers, such
as Kmart, Kaybee, Sears, Target, Toys "R" Us and Wal-Mart; regional mass
merchandisers, such as Fred Meyer, Meijers, Shopko and Venture; catalog houses,
such as Service Merchandise and Spiegel; major sporting goods chains, such as
Sportmart and The Sports Authority; and international exporters, such as Krypto
International. The Company also sells to independent
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sporting goods stores and specialty shops, particularly with respect to its
Static(TM) and Barfoot(TM) products. The Company's wholly owned subsidiary,
Oketa Ltd., is used to facilitate sales and the shipment of products to
international customers and to customers in the United States who desire to
purchase product through international letter of credit transactions.
(2) STATUS OF PRODUCTS IN DEVELOPMENT.
The Company frequently changes the cosmetic features of its products, such
as graphics and colors, and attempts to develop new products or new designs for
existing products in response to customer requests or changes in consumer
preferences.
During the fiscal year ended July 31, 1997, the Company designed and
developed a new line of snowboards called Outrage(TM), offering quality features
at low price points to appeal to mass market customers. These snowboards contain
vertically laminated wood cores, stainless steel inserts, P-Tex base, PVT
Pennite top sheet and ABS sidewall materials and are manufactured at the Static
Snowboards, Inc. factory in California. The Company presently offers the
Outrage(TM) in five different graphics. The Company made its first shipments of
the Outrage(TM) snowboards in September 1997.
During the fiscal year ended July 31, 1997, the Company also introduced a
new line of bicycle and recreational safety helmets with unique "three-
dimensional" graphics. The initial designs and the manufacturing process for
these helmets were developed by a vendor with whom the Company has a long-term
working relationship. The Company has entered into an exclusive license
agreement with that individual for the right to manufacture and market the
product. The helmets will be manufactured by the Company's existing helmet
suppliers overseas. These new helmets, called 3-D(TM), are targeted to youths
and young adults and have been priced to compete directly with other helmets
currently offered in the mass market. The Company expects to make its initial
shipments of these helmets in the fall of 1997.
The Company continues to distribute products under its Static(TM) brand,
developed during fiscal 1996. The Static(TM) snowboard line offers various sizes
and graphics and are manufactured at the Company's factory in California.
Static(TM) skateboards, manufactured domestically by the Company, are offered in
a variety of graphics and "pro-spec" componentry, designed and priced to compete
with models sold in pro shops. During the fiscal year ended July 31, 1997,
however, the Company decided to discontinue its Static(TM) line of in-line
skates, due to heavy competition, significant pricing pressures and excess
inventories of "high-end" skates at retail.
Despite these and other efforts by the Company to update the designs,
features and componentry of existing products and develop potential new products
or new designs, there can be no assurance that such efforts will be successful
nor that such changes or new products will be readily acceptable to customers
and consumers.
(3) SOURCE OF MATERIALS.
With the exception of snowboards, all of the Company's products are sourced
from independent contractors located in the Republic of China (Taiwan), the
People's Republic of China (mainland China) and South Korea. These suppliers
manufacture, assemble and package the Company's products under the detailed
specifications of the Company's management representatives who visit frequently
to oversee quality control and work on cost containment. The independent
contractors are responsible for shipment to the Company's warehouse in Moorpark,
California, or directly to certain major customers' distribution centers and
warehouses. The raw materials and subcomponents for these products are
manufactured by independent contractors, most of which are also located in
Taiwan, mainland China and South Korea, that have been procured by the Company's
suppliers or, often, by the management of Variflex itself.
The Company submits purchase orders to its manufacturers for the production
of specific amounts of its products and has not entered into any long-term
contractual agreements. The Company negotiates the cost of its products directly
with its foreign suppliers in U.S. Dollars.
As stated above, a significant portion of the Company's products, including
various models of its in-line skates, are manufactured in mainland China, which
trades with the United States under a Most Favored Nation ("MFN") trade status.
While the Company believes that alternative manufacturing sources could be
found, maintaining existing costs will depend upon these products continuing to
be treated under MFN tariff rates. From time to time, the U.S. has threatened to
rescind MFN tariff rates and impose trade sanctions on certain goods
manufactured in China. To date, no such sanctions have been imposed that have
affected the Company or its products, however there can be no assurance with
regard to the possible imposition of sanctions in the future.
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(4) PATENTS, TRADEMARKS, LICENSES, FRANCHISES AND CONCESSIONS.
The Company holds or has pending certain design patents, but no utility
patents. In the course of its business the Company employs various trademarks
and trade names, including its own logos, in the packaging and advertising of
its products. Registration of various other trademarks for the Company's
products are pending. The Company also has registered the Variflex(TM) and
Static(TM) trademarks in the United States, and has secured a worldwide watch to
alert the Company to any unauthorized use in any other parts of the world.
(5) MAJOR CUSTOMERS.
The Company has four customers which have each individually accounted for
more than 10% of the Company's sales in one or more of the past three fiscal
years: the Kmart Corporation, based in Detroit, Michigan; Sears, Roebuck and
Co., based in Chicago, Illinois; Target Stores, based in Minneapolis, Minnesota;
and Toys "R" Us, Inc., based in Paramus, New Jersey.
Collectively, sales to Kmart, Sears, Target and Toys "R" Us represented
approximately 70%, 74%, and 78% of the Company's total gross sales for the
fiscal years ended July 31, 1997, 1996, and 1995, respectively.
Individually, sales to the Company's four largest customers as a percentage
of the Company's total gross sales were 26%, 21%, 15% and 8% for fiscal 1997;
20%, 26%, 16% and 12% for fiscal 1996; and 29%, 19%, 24% and 6% for fiscal 1995.
(6) BACKLOG.
The Company had approximately $4,523,000 in unfilled purchase orders as of
September 30, 1997, compared to approximately $6,044,000 as of September 30,
1996. The Company believes that substantially all of these unfilled orders are
firm and will be filled in the 1998 fiscal year. Of the backlog as of September
30, 1997, approximately $690,000 represented orders for products which had not
yet been received from suppliers as of that date. Substantially all of the
remaining $3,833,000 of the backlog at September 30, 1997 represents fall
booking orders of products on hand to be shipped at future dates.
(7) GOVERNMENT CONTRACTS.
The Company has no United States or foreign government contracts.
(8) COMPETITION.
The principal competitive factors in each of the Company's product
categories are price and performance. With respect to in-line skates in
particular, the main areas of difference in product performance are in the
weight and strength of the boot and frame, the hardness of the wheels, and the
quality and lubrication of the wheel bearings. The Company offers a 60-day
warranty on its products. Beyond such warranty, the Company does not offer
service on its products, and does not believe that is an important competitive
factor.
Management believes that the Company has a significant market share in the
in-line skate category, particularly in the mass market segment, where Variflex
enjoys name recognition and is considered a market leader. The Company's primary
competitors in the mass market include First Team Sports, Inc. (Skate Attack),
Roller Derby, Seneca and certain models from Rollerblade, Inc. (Blade Runner).
Primary competitors in the specialty or premium priced market for in-line skates
include Rollerblade, Inc. (Rollerblades), First Team Sports, Inc. (Ultra Wheels)
and Nike, Inc. (Bauer). In the case of athletic protective equipment, Franklin
Sports is the Company's primary competitor in the mass market. Franklin Sports
is also a primary competitor, together with Rollerblade, Inc. and First Team
Sports, Inc., in the specialty or premium priced market. Bell Sports Corp. (Bell
and BSI) and Troxel (Pro Action) are the primary competitors in the bicycle
safety helmet mass market, and also are primary competitors, together with Giro,
which was recently acquired by Bell Sports Corp., in the specialty or premium
priced market. In the snowboard industry, the largest competitors include Burton
Snowboards (Burton), Ride, Inc. (Ride, Liquid and Mercury), K2, Inc. (K2), Skis
Rossignol (Rossignol) and Morrow.
While management believes that the quality of its products and the service
it provides to its customers are important factors in retaining accounts, the
Company clearly operates in a highly competitive environment and there are no
significant technological or manufacturing barriers to entry. Management
believes that price is a major competitive factor, particularly in the mass
market. At present, the Company believes that its products in each category,
when
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compared to competitors' products of comparable quality, are currently offered
at comparable or lower prices than most or all of its competitors. However there
can be no assurance that other companies, whether new enterprises or established
members of the retail or sporting goods industries, will not be able to develop
products of comparable or higher quality at lower prices, or that the Company's
price structure will not be affected by future circumstances.
(9) RESEARCH AND DEVELOPMENT.
Estimated research and development expenses for Company-sponsored research
activities relating to the development of new products, services or techniques
or the improvement of existing products, services or techniques were not
material in fiscal 1997, fiscal 1996 and fiscal 1995.
(10) EFFECT OF ENVIRONMENTAL REGULATION.
To the extent that the Company's management can determine, there are no
federal, state or local provisions regulating the discharge of materials into
the environment or otherwise relating to the protection of the environment, with
which compliance by the Company has had or is expected to have a material effect
upon the capital expenditures, earnings or competitive position of the Company.
(11) EMPLOYEES.
As of July 31, 1997, the Company employed 132 full-time employees. None of
the Company's employees are represented by unions.
ITEM 2. PROPERTIES.
The Company's principal facility is a leased 104,000 square foot concrete
tilt-up building comprising the Company's corporate headquarters and executive
offices, as well as serving as the United States distribution center for the
Company's products, located at 5152 North Commerce Avenue, Moorpark, California,
approximately forty miles northwest of Los Angeles, California. The Company also
subleases in an immediately adjacent building approximately 27,000 square feet
consisting primarily of additional warehouse space. The leases for these
facilities expire December 31, 2000 and June 30, 1998, respectively, after which
management believes new leases can be negotiated, at those locations or for
other equivalent space, on satisfactory terms. The Company also stores inventory
in temporary facilities from time to time as required due to the timing of
shipments.
In July 1995, the Company's subsidiary, Static Snowboards, Inc. entered
into a lease agreement for a facility of approximately 30,000 square feet,
located in Huntington Beach, California, in which it has constructed and now
conducts its snowboard manufacturing operations. The lease expires September 30,
2000.
Management believes that the Company's present facilities will be adequate
for the near future.
ITEM 3. LEGAL PROCEEDINGS.
The Company may at any particular time, due to the nature of its products,
become a defendant in product liability claims, including active litigation,
arising out of personal injuries allegedly relating to its products. The Company
is presently a party to certain proceedings of this nature, none of which
management would consider outside of the normal course of business or material
to the Company. The Company believes it has adequate liability insurance for the
risks arising in the normal course of business. Coverage is on a claims made
basis, and is subject to certain deductibles.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of the Company's stockholders during
the quarter ended July 31, 1997.
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EXECUTIVE OFFICERS OF THE COMPANY.
The following sets forth the names and ages of current executive officers
of the Company, in addition to information regarding their positions with the
Company, their periods of service in such positions, and their business
experience for the past five years. Executive officers generally serve in office
for terms of approximately one year.
<TABLE>
<CAPTION>
NAME AND AGE OF Current Positions with Company and Principal
EXECUTIVE OFFICER Occupations for the Past Five Years
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<S> <C>
Raymond H. Losi Chairman of the Board and Director of the Company since its inception in
Age 74 August 1977; Chief Executive Officer of the Company since August 1989;
President of the Company from 1977 until August 1989. Mr. Losi is married to
Barbara Losi and is the father of Raymond H. Losi II, each of whom also is an
officer and director of the Company.
Raymond H. Losi, II President and Chief Operating Officer of the Company since January 1992;
Age 45 Director of the Company since 1985; Vice President of Procurement for the
Company from 1984 to January 1992; Director of Product Development for the
Company since its inception in August 1977. Mr. Losi is the son of Raymond H.
Losi, who also is an officer and director of the Company.
William B. Ogden Treasurer and Chief Financial Officer of the Company since February 1994;
Age 37 Chief Financial Officer for Cooke Media Group, Inc., operator of newspapers
and cable television systems, from April 1987 to February 1994.
Barbara Losi Secretary of the Company since 1980; Director of the Company since 1981; Chief
Age 59 Financial Officer of the Company from 1977 to July 1991. Mrs. Losi is married
to Raymond H. Losi, who also is an officer and director of the Company.
Rocco Attolico Vice President of Manufacturing and Distribution for the Company since January
Age 56 1994; Shipping Manager for the Company from July 1991 to January 1994.
Paula Coffman Vice President of Administrative Services for the Company since January 1993;
Age 33 Product and Sales Planning Manager for the Company from December 1991 to
January 1993.
Warren F. Marr Vice President of Sales for the Company since January 1990.
Age 56
</TABLE>
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PART II
Item 5. MARKET FOR COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
(A) MARKET INFORMATION.
The range of trading prices for the Company's Common Stock during each of
the quarters of the fiscal years ended July 31, 1996 and 1997 was as follows
(per share):
<TABLE>
<CAPTION>
HIGH LOW
---- ---
<S> <C> <C>
Quarter ended:
October 31, 1995 $14 3/4 $8 3/8
January 31, 1996 10 1/4 6 1/8
April 30, 1996 10 5 3/4
July 31, 1996 9 5 1/4
October 31, 1996 6 7/8 5 3/8
January 31, 1997 6 1/4 4 3/8
April 30, 1997 6 4 5/8
July 31, 1997 5 5/8 4 1/2
</TABLE>
The Company's Common Stock is traded on the Nasdaq National Market under
the symbol "VFLX."
(b) HOLDERS.
The Company believes there were approximately 1,958 holders of the
Company's Common Stock as of October 13, 1997. The number of stockholders was
computed by including an estimate of the number of those stockholders whose
stock is held for them by participants in a clearing agency as of that date.
There were 126 holders of record of the Company's Common Stock on October 13,
1997.
(c) DIVIDENDS.
The Company has never paid cash dividends and has no present intention to
pay cash dividends in the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA.
<TABLE>
<CAPTION>
Years Ended July 31,
(In thousands, except per share data)
------------------------------------
1997 1996 1995 1994 1993
-------- ------- -------- ------- -------
<S> <C> <C> <C> <C> <C>
Operations Data:
Net sales $51,661 $72,379 $100,317 $80,000 $61,100
Pre-tax income (loss) (3,083) 680 11,193 11,176 4,383
Net income (loss) (1,805) 564 6,921 6,584 2,783
Net income (loss) per share ($0.30) $0.09 $1.15 $1.40 $0.61
Weighted avg. shares outstanding 6,025 6,039 6,039 4,696 4,574
Balance Sheet Data:
Total assets $47,893 $49,405 $ 51,221 $47,456 $16,393
Working capital 25,251 28,346 31,022 25,494 9,683
Long-term obligations - - 103 58 831
Stockholders' equity 43,100 44,812 44,359 37,004 9,739
</TABLE>
The Company's initial public stock offering, completed in June 1994, had a
significant impact upon the balance sheet data above. The Company's net proceeds
after fees and expenses were approximately $20,723,000.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
RESULTS OF OPERATIONS
YEAR ENDED JULY 31, 1997 COMPARED TO YEAR ENDED JULY 31, 1996
NET SALES. Net sales for the fiscal year ended July 31, 1997 totaled
$51,661,000, a decrease of $20,718,000, or 29% from fiscal 1996 net sales of
$72,379,000. Decreases in volume and average selling prices with respect to the
Company's in-line skate, athletic protective equipment and bicycle and
recreational safety helmet categories were the principal factors leading to the
decline in total sales.
With respect to in-line skates, gross sales for fiscal 1997 totaled
$36,932,000, a decrease of approximately $20,214,000, or 35%, compared to fiscal
1996, as unit volume in fiscal 1997 totaled 2,027,000 units, a decrease of
approximately 600,000, or 23%. The average price per unit (gross revenues
divided by units sold) of the Company's in-line skates was approximately $18.22
during fiscal 1997, compared to $21.75 for fiscal 1996. The decrease in in-line
skate sales was primarily due to heavy inventory levels at retail throughout
much of the year, as well as an industry-wide decline in consumer demand for in-
line skates in general compared to prior year. These factors, as well as the
influences of strong competition in the mass market, in turn led to continued
significant pricing pressures within the category during the year.
Gross sales for athletic protective equipment during fiscal 1997 totaled
$2,697,000, a decrease of approximately $2,971,000, or 52%, compared to fiscal
1996, while unit volume in fiscal 1997 was 516,000, a decrease of approximately
519,000, or 50%. The Company's sales of these products generally correlate with
sales of in-line skates; thus the decrease in sales of protective equipment also
is primarily attributable to the factors discussed above. Additionally, consumer
preferences within the market have led to substantially all of the Company's
sales of protective equipment now being made via multiple-unit packages, usually
"triple packs" containing three pairs of pads one pair each of knee pads, elbow
pads and wrist guards which yields less total revenue than sales of separate
single-unit packages.
Gross sales of bicycle and recreational safety helmets during fiscal 1997
totaled $2,508,000, a decrease of approximately $1,554,000, or 38%, compared to
fiscal 1996, while unit volume decreased approximately 173,000, or 33%, to a
total of 347,000 units during fiscal 1997. These decreases in comparison with
the prior year are primarily due to continued high inventory levels at the
retail level, increased competition and pricing pressures within the category
and less safety awareness programs and legislation designed to promote helmet
use by bicyclists. The year-over-year decrease in gross sales is greater as a
percentage than the decrease in unit volume due to discounting and other price
reductions in response to competitive pressures in the marketplace. The average
price per unit for the Company's helmets was approximately $7.22 during fiscal
1997, compared to $7.81 during fiscal 1996. Competition and high inventory
levels continue to put downward pressure on retail and wholesale prices
throughout the industry.
Gross sales of skateboards and scooters during fiscal 1997 totaled
$9,273,000, an increase of approximately $1,972,000, or 27%, compared to fiscal
1996, on total volume of 669,000 units, an increase of approximately 143,000
units, or 27%. A resurgence in the demand for skateboards began during fiscal
1996 and carried through the first half of fiscal 1997, with momentum then
slowing in the latter half of the year as more inventory became available at
retail and a greater proportion of the Company's shipments represented customer
re-orders. Fiscal 1996 sales had increased 300% from the prior year. During
fiscal 1997, the Company introduced a new line of children's scooters, which
accounted for approximately $549,000 in gross sales on 17,000 units.
Gross sales of snowboards and snowboarding accessories, such as bindings,
leashes and miscellaneous apparel items, totaled $1,483,000 during fiscal 1997,
which was the Company's first full year in the category. Gross sales for fiscal
1996 totaled $159,000. The Company sold a total of approximately 9,700
snowboards during fiscal 1997, compared to approximately 1,100 in the prior
year.
Sales to the Company's four largest accounts, each of which is a major mass
market merchandiser, represented 70% of the Company's gross sales in fiscal
1997, compared to 74% in fiscal 1996. This decrease is the result of several
factors, including the growth of the Company's snowboard business during the
year, increases in sales of the Company's Static(TM) brand skateboards and the
introduction during fiscal 1997 of the Company's new Quik Shade(TM) canopies; a
significant portion of these sales were made through the sporting goods and
specialty markets rather than mass market channels.
9
<PAGE>
By product category, in-line skates, athletic protective equipment and
helmets accounted for 69%, 5% and 5%, respectively, of the Company's total gross
sales during fiscal 1997, compared to 77%, 8% and 5%, respectively, during
fiscal 1996. Skateboards and scooters accounted for 17% of the Company's total
gross sales during fiscal 1997, compared to 10% during fiscal 1996. Snowboards
and snowboarding accessories represented 3% of total gross sales during fiscal
1997, compared to less than one-half of one percent in the prior year.
GROSS PROFIT. Gross profit for the fiscal year ended July 31, 1997
decreased by $5,620,000 compared to the fiscal year ended July 31, 1996,
representing a 46% decrease. The Company's gross profit margin as a percentage
of net sales was 13.0% in fiscal 1997, compared with 17.0% in fiscal 1996. The
decrease in gross margin is due primarily to the price reductions mentioned
above, particularly within the in-line skate and helmet categories and the
effects of higher than usual amounts of close-out sales during the year. Surplus
inventory and increased competition in the mass market, again principally with
respect to in-line skates and safety helmets, has had and continues to have an
impact upon the Company's gross margin. There can be no assurance that the
Company can continue to obtain its products from suppliers at sufficiently low
costs to fully offset the downward pressure on sales prices in order to sustain
or improve present gross profit margins.
OPERATING EXPENSES. The Company's operating expenses (consisting of
selling and marketing expenses and general and administrative expenses) for
fiscal 1997 totaled $10,599,000, or 20.5% of net sales. Operating expenses for
fiscal 1996 were $12,267,000, or 16.9% of net sales.
Selling and marketing expenses decreased by $1,327,000, or 17%, to
$6,344,000 for fiscal 1997 compared to fiscal 1996. Selling and marketing
expenses for fiscal 1997 amounted to 12.3% of net sales, compared to 10.6% in
the prior year. The increase as a percentage of net sales is due to several
factors, including increased advertising expenses for co-op programs with
certain of the Company's major customers and increases in other marketing
related expenses such as for trade shows, catalogs and promotional materials,
particularly with respect to the Company's snowboard operations, and the
increased percentage that these types of expenses, as well as corporate sales
and marketing salaries, represent upon a lower sales base. In dollars, these
increases were more than offset by decreases in sales commissions because of the
decline in sales during the year.
General and administrative expenses decreased by $341,000, or 7%, to
$4,255,000 for fiscal 1997 compared to fiscal 1996. General and administrative
expenses for fiscal 1997 amounted to 8.2% of net sales, compared to 6.3% in
fiscal 1996. The dollar decrease is primarily due to decreases in legal and
other professional fees, expenses associated with the Company's defined benefit
pension plan, donations and other expenditures resulting from management's
enhanced efforts to control administrative costs, offset in part by increases in
expenses associated with the first full year of the Company's new snowboard
operations.
OTHER INCOME (EXPENSE). Other income for the fiscal year ended July 31,
1997 was $799,000, an increase of $189,000, or 31%, compared to fiscal 1996.
This increase is due to a decrease in interest expense of $77,000 resulting from
a decrease in the level of short-term borrowings under the Company's line of
credit, as well as an increase in interest income of $112,000 due to higher
balances of marketable securities and other investments during fiscal 1997
compared to the prior year.
(BENEFIT FROM) PROVISION FOR INCOME TAXES. The Company's benefit from
income taxes during fiscal 1997 was $(1,278,000), or (41.5%) of loss before
income taxes, reflecting the federal tax benefit, net of applicable state taxes,
associated with the results of operations for the year, compared to a provision
for income taxes of $116,000, or 17.1% of income before income taxes, during
fiscal 1996. The Company's effective tax rates differ from the federal statutory
rate primarily due to interest income, most of which is exempt from federal
income taxes due to the nature of the investments from which it is derived.
RECENT RESULTS
Net sales for the three months ended July 31, 1997, which represents the
fourth quarter of the Company's fiscal year, were $10,973,000, a decrease of
15%, compared to $12,865,000 for the corresponding period of the prior year. For
the quarter, sales of in-line skates, helmets and athletic protective equipment
were down 30%, 21% and 33%, respectively, while skateboards and scooters
increased 27% and snowboards and snowboarding accessories increased 635% in
comparison to the fourth quarter of the prior year. These fluctuations were due
to similar factors as discussed above in the year-over-year comparisons for each
of these product categories.
The Company's net loss for the quarter ended July 31, 1997 was $895,000, or
$0.15 per share, compared with a net loss of $1,189,000, or $0.20 per share for
the corresponding period of the prior year. The decrease in the loss is
10
<PAGE>
primarily due to a more significant impact during the fourth quarter of the
prior year of inventory close-out sales and other price discounts.
YEAR ENDED JULY 31, 1996 COMPARED TO YEAR ENDED JULY 31, 1995
NET SALES. Net sales for the fiscal year ended July 31, 1996 totaled
$72,379,000, a decrease of $27,938,000, or 28% from fiscal 1995 net sales of
$100,317,000. This decrease was attributable to decreases in sales volume of the
Company's in-line skate, athletic protective equipment, and bicycle and
recreational safety helmet lines, resulting primarily from general weakness in
retail sales, particularly in the mass merchandise market segment, compared to
the prior fiscal year. The effect of the decreases in these three product
categories was partially offset by a significant increase in sales of
skateboards.
With respect to in-line skates, gross sales for fiscal 1996 totaled
$57,145,000, a decrease of approximately $25,921,000, or 31%, compared to fiscal
1995, as unit volume in fiscal 1996 totaled 2,627,000 units, a decrease of
approximately 1,235,000, or 32%. The average price per unit (gross revenues
divided by units sold) of the Company's in-line skates was approximately $21.75
during fiscal 1996, compared to $21.51 for fiscal 1995. As discussed above, the
decrease in in-line skate sales was primarily due to a soft retail market, as
well as to a decline in consumer demand for in-line skates in general as
compared to the significant annual growth in this market experienced over the
past few years. These factors in turn led to high levels of inventory at retail,
which further affected the amount of new skate orders placed by the Company's
customers.
Gross sales for athletic protective equipment during fiscal 1996 totaled
$5,668,000, a decrease of approximately $2,684,000, or 32%, compared to fiscal
1995, while unit volume in fiscal 1996 was 1,035,000, a decrease of
approximately 846,000, or 45%. The Company's sales of these products generally
correlate with sales of in-line skates; thus the decrease in sales of athletic
protective equipment is attributable to the same factors discussed above. The
decrease in gross sales is less as a percentage than the decrease in unit volume
due to a greater proportion of sales of "triple packs" and other combination
packages during fiscal 1996.
Gross sales of bicycle and recreational safety helmets during fiscal 1996
totaled $4,063,000, a decrease of approximately $4,238,000, or 51%, compared to
fiscal 1995, while unit volume decreased approximately 307,000, or 37%, to a
total of 520,000 units during fiscal 1996. These decreases in comparison with
the prior year are primarily due to higher inventories of these products at
certain of the Company's major customers, a weaker sell-through at retail during
the holidays and significantly less legislation at the state and local levels
aimed toward mandatory helmet use by bicyclists. The year-over-year decrease in
gross sales is greater as a percentage than the decrease in unit volume due to
discounting and other price reductions in response to competitive pressures in
the marketplace. The average price per unit for the Company's helmets was
approximately $7.81 during fiscal 1996, compared to $10.03 during fiscal 1995.
Competitive influences and high inventory levels continue to put downward
pressure on retail and wholesale prices throughout the industry.
Gross sales of skateboards during fiscal 1996 totaled $7,301,000, an
increase of approximately $5,475,000, or 300%, compared to fiscal 1995, on total
volume of 525,000 units, an increase of approximately 380,000 units, or 261%.
These increases are due to a significant surge in the popularity of and demand
for skateboards during fiscal 1996 and the ability of the Company to respond to
that demand and fill the pipelines for its customers. The increase in gross
sales is greater as a percentage than the increase in unit volume due to an
increase in demand for higher quality componentry and also due to the Company's
introduction during fiscal 1996 of its higher-priced Static(TM) brand
skateboards for the pro and specialty market. The average price per unit for the
Company's skateboards was approximately $13.90 during fiscal 1996, compared to
$12.57 during fiscal 1995.
Sales to the Company's four largest accounts represented approximately 74%
of the Company's total sales in fiscal 1996, compared to 78% in fiscal 1995.
This decrease is the result of significantly less shipments during fiscal 1996,
particularly of the Company's in-line skate, protective equipment and helmet
products, to two major retail customers. The Company believes that the decreases
in sales to these customers during fiscal 1996 are primarily due to excess
inventory resulting from overforecasted consumer demand as opposed to declines
in the Company's share of shelf space. The decrease in the percentage of total
sales represented by the Company's four largest accounts, each of which is a
national mass merchandiser, is also due in part to the Company's introduction of
its Static(TM) lines of products for the sporting goods and specialty markets.
By product category, in-line skates, athletic protective equipment and
helmets accounted for 77%, 8% and 5%, respectively, of the Company's total gross
sales during fiscal 1996, compared to 81%, 8% and 8%, respectively, during
11
<PAGE>
fiscal 1995. Skateboards accounted for 10% of the Company's total gross sales
during fiscal 1996, compared to 2% during fiscal 1995, as a result of a
significant increase in consumer demand for skateboards during the year.
GROSS PROFIT. Gross profit for the fiscal year ended July 31, 1996
decreased by $11,439,000 compared to the fiscal year ended July 31, 1995,
representing a 48% decrease. The Company's gross profit margin as a percentage
of net sales was 17.0% in fiscal 1996, compared with 23.7% in fiscal 1995. The
decrease in gross margin is due to a combination of factors, including the
impact, particularly during the third and fourth quarters of fiscal 1996, of
price discounts offered in connection with the close-out of certain models of
in-line skates and bicycle safety helmets, markdown credits and returns
negotiated between the Company and certain of its customers in connection with
excess retail inventory issues, and write-downs for increases in the Company's
inventory reserves. Increased competition in the mass market, particularly with
respect to in-line skates and safety helmets, also has had and continues to have
an impact upon the Company's gross margin.
OPERATING EXPENSES. The Company's operating expenses (consisting of
selling and marketing expenses and general and administrative expenses) for
fiscal 1996 totaled $12,267,000, or 16.9% of net sales. Operating expenses for
fiscal 1995 were $12,861,000, or 12.8% of net sales.
Selling and marketing expenses decreased by $113,000, or 1%, to $7,671,000
for fiscal 1996 compared to fiscal 1995. Selling and marketing expenses for
fiscal 1996 amounted to 10.6% of net sales, compared to 7.8% in the prior year.
The increase as a percentage of net sales is due to several factors, including
wages and benefits associated with additional marketing personnel, increased
advertising expenses for co-op programs with certain of the Company's major
customers and for the promotion of the Company's new Static(TM) brand of
products, and increases in other marketing related expenses such as for trade
shows, catalogs and promotional materials. In dollars, these increases were more
than offset by decreases in sales commissions because of the decline in sales
during the year.
General and administrative expenses decreased by $481,000, or 9%, to
$4,596,000 for fiscal 1996 compared to fiscal 1995. General and administrative
expenses for fiscal 1996 amounted to 6.3% of net sales, compared to 5.1% in
fiscal 1995. The dollar decrease is primarily due to a decrease in product
development expenses, since in the prior year the Company was in the early and
more costly stage of developing its new Static(TM) line of products, and
reductions in expenses resulting from adjustments to certain accrual accounts,
including accrued bonuses and accrued product liability claims, offset in part
by increases in costs associated with the Company's new snowboard operations.
OTHER INCOME (EXPENSE). Other income for the fiscal year ended July 31,
1996 was $610,000, an increase of $332,000, or 119%, compared to fiscal 1995.
This increase is due to a decrease in interest expense of $235,000 resulting
from a decrease in the level of short-term borrowings under the Company's line
of credit and lower interest rates on such borrowings compared to the prior
year, as well as an increase in interest income of $97,000 due to higher
balances of marketable securities and other investments during fiscal 1996
compared to the prior year.
PROVISION FOR INCOME TAXES. The Company's provision for income taxes
during fiscal 1996 was $116,000, representing 17.1% of income before provision
for income taxes, compared to $4,272,000, or 38.2% of income before provision
for income taxes during fiscal 1995. The reduction in the Company's effective
tax rate is primarily due to interest income representing a greater portion of
income before provision for income taxes, and the fact that most of that
interest income is exempt from federal income taxes due to the nature of the
investments from which it is derived.
LIQUIDITY AND CAPITAL RESOURCES
From inception to completion of its initial public offering, the Company
funded its activities principally from cash flow generated from operations,
credit facilities with institutional lenders and, to a lesser degree, loans from
its stockholders. In June 1994, the Company completed an initial public stock
offering, issuing a total of 1,500,000 new common shares which raised
approximately $20,723,000 in proceeds to the Company, net of fees and expenses.
A portion of these proceeds was used by the Company to pay off borrowings on its
line of credit and for other working capital purposes. The remainder was
invested in marketable securities with maturities generally ranging from one to
three years.
The Company has a credit agreement with a major bank providing a $12
million revolving line of credit, with separate sublimits of $12 million for the
issuance of commercial letters of credit and $2 million for actual borrowings.
The agreement, which expires February 1, 1998, is unsecured and carries an
interest rate equal to prime minus 0.25%, and also offers certain LIBOR-based
interest options. The agreement requires that the Company satisfy certain
financial
12
<PAGE>
covenants. Over the past several years, borrowings have varied, typically
reaching highest levels in the pre-Christmas periods. However, more recently the
Company has borrowed against its line of credit less frequently due to the
ability to finance operations internally from cash and marketable securities
available for sale. Balances on the line of credit are classified as current
liabilities on the Company's balance sheet. There was no balance outstanding
under the revolving line of credit as of July 31, 1997.
The Company had cash of $7,823,000 on hand as of July 31, 1997, compared to
$3,351,000 as of July 31, 1996. Cash and marketable securities available for
sale totaled $22,782,000 as of July 31, 1997, compared to $16,612,000 as of July
31, 1996. Net working capital as of July 31, 1997 was $25,251,000 compared to
$28,346,000 as of July 31, 1996, and the Company's current ratio was 6.3:1 as of
July 31, 1997, compared to 7.2:1 as of July 31, 1996. These fluctuations are
primarily due to cash generated from operations, particularly via reductions in
inventory and collections on accounts receivable, that was invested in long-term
marketable securities.
The Company had no long-term debt as of July 31, 1997 and 1996. The Company
had net stockholders' equity of $43,100,000 as of July 31, 1997, compared to
$44,812,000 as of July 31, 1996, with such decrease due primarily to operating
results for the fiscal year ended July 31, 1997, as well as fluctuations in
unrealized gains and losses on marketable securities investments. Management
believes that inflation has not had a significant impact upon the Company's
costs and prices during the past three fiscal years.
Capital expenditures for fiscal 1997 totaled $888,000, compared to
$2,317,000 during fiscal 1996. The decrease is primarily due to equipment
purchases made in the prior year in connection with the construction of the
Company's new snowboard manufacturing facility. Of the fiscal 1997 total,
approximately $368,000 represented machinery and equipment expenditures for the
snowboard plant and $470,000 represented production molds and other related
equipment, compared to $938,000 and $1,157,000, respectively, for such
expenditures during the prior year.
FUTURE LIQUIDITY AND FINANCIAL POSITION
The Company intends to continue to focus upon building and maintaining its
existing product lines, including its new line of snowboards. The Company also
plans to continue to devote resources toward the pursuit and development of new
products, including its new line of Quik Shade(TM) instant canopies. In
addition, management continues to explore the possibility of making selected
acquisitions of other companies or products which would offer a strategic fit
with the Company's existing products and its sourcing and distribution channels
in the mass market. The Company also is considering expanding international
distribution and developing additional distribution arrangements in order to
take further advantage of growth opportunities which management believes exist
for its products outside the United States.
Management believes that its current cash position, funds available under
existing banking arrangements, and cash generated from operations will be
sufficient to meet the Company's presently projected cash and working capital
requirements for the next fiscal year assuming continued financial performance
at present levels.
FOREIGN EXCHANGE
Management does not believe that the fluctuation in the value of the dollar
in relation to the currency of its suppliers (the New Taiwan Dollar) has in the
last three fiscal years had any significant adverse impact on the Company's
ability to purchase products at agreed upon prices. Typically, the Company and
its suppliers negotiate prices in New Taiwan Dollars. At the same time, they
will agree upon a fixed exchange rate for a specified period, generally three to
six months. The Company's payments to suppliers are then made in U.S. Dollars
based upon the agreed upon exchange rate. Nonetheless, there can be no assurance
that exchange rate fluctuations will not have an impact upon the Company in the
future.
13
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements and schedules included herein are listed in Item
14.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Item 11. EXECUTIVE COMPENSATION.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Except as noted in the following paragraph, the information required by
Items 10, 11, 12 and 13 is incorporated herein by reference to the Company's
definitive Proxy Statement to be filed pursuant to Regulation 14(A) not later
than 120 days after the close of fiscal 1997 in connection with the Company's
1997 Annual Meeting of Stockholders, or shall be filed by amendment to this Form
10-K not later than the end of such 120 day period.
The information called for by Item 10 with respect to executive officers of
the Registrant appears following Item 4 under Part I of this Report.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
FINANCIAL STATEMENTS
The following financial statements are included in Part II, Item 8 of this
Annual Report on Form 10-K:
Independent Auditors' Report on Consolidated Financial Statements and
Schedule
Consolidated Balance Sheets as of July 31, 1997 and 1996
Consolidated Statements of Operations for the years ended July 31, 1997,
1996 and 1995
Consolidated Statements of Stockholders' Equity for the years ended July
31, 1997, 1996 and 1995
Consolidated Statements of Cash Flows for the years ended July 31, 1997,
1996 and 1995
Notes to Consolidated Financial Statements
FINANCIAL STATEMENT SCHEDULES
The following schedule is included in Part II, Item 8 of this Annual
Report on Form 10-K:
Schedule II. Valuation and Qualifying Accounts
Schedules I and III through V are omitted for the reason that they are not
applicable, not required or the information is presented in the consolidated
financial statements or related notes.
REPORTS ON FORM 8-K
The Company filed no reports on Form 8-K during the quarter ended July 31,
1997.
14
<PAGE>
EXHIBITS
<TABLE>
<CAPTION>
Exhibit
No. Description Note No.
- ------ ----------- -------
<C> <S> <C>
3.1 Certificate of Incorporation of the Company (1)
3.2 By-laws of the Company (1)
10.1 Lease for property located at 5152 North Commerce Avenue, Moorpark, California, dated June 8, 1992 (1)
*10.2 Employment agreement dated April 1, 1994 with Raymond H. Losi (1)
*10.3 Employment agreement dated April 1, 1994 with Raymond H. Losi II (1)
*10.4 Employment agreement dated April 1, 1994 with Warren Marr (1)
*10.5 Employment agreement dated April 1, 1994 with Rocco Attolico (1)
*10.6 Employment agreement dated April 1, 1994 with William Bradley Ogden (1)
*10.7 Employment agreement dated April 1, 1994 with Paula Montez (1)
*10.8 Consulting agreement dated May 16, 1994 with Gerald Boyce (1)
*10.9 Indemnification agreement dated April 1, 1994 with Raymond H. Losi (1)
*10.10 Indemnification agreement dated April 1, 1994 with Raymond H. Losi II (1)
*10.11 Indemnification agreement dated April 1, 1994 with Barbara Losi (1)
*10.12 Indemnification agreement dated April 1, 1994 with Gerald I. Boyce (1)
*10.13 Indemnification agreement dated April 1, 1994 with Loren Hildebrand (1)
*10.14 Indemnification agreement dated April 1, 1994 with Marvin G. Murphy (1)
*10.15 Variflex, Inc. Defined Benefit Pension Plan as amended August 6, 1993 (1)
10.16 License Agreement with Rollerblade, Inc. dated September 1, 1993 (1)
10.17 1994 Variflex Stock Plan dated April 1, 1994 (1)
10.18 Asset Purchase Agreement dated May 19, 1995, by and between Plunkett Snowboards, Inc., Michael
Plunkett and Bert Kronfeld, Static Snowboards, Inc. and Variflex, Inc. (2)
10.19 Business Loan Agreement dated February 3, 1997, between Bank of America National Trust and Savings
Association and Variflex, Inc. (3)
10.20 First Amendment, dated March 20, 1995, to the June 8, 1992 lease for property located at 5152 North
Commerce Avenue, Moorpark, California, (3)
10.21 Second Amendment, dated November 18, 1996, to the June 8, 1992 lease for property located at 5152
North Commerce Avenue, Moorpark, California, (3)
21.1 Subsidiaries of the registrant (2)
27 Financial Data Schedule (3)
- -------------------
</TABLE>
(1) Previously filed together with the Company's Registration Statement on
Form S-1, Reg. No. 33-77362.
(2) Previously filed together with the Company's annual report on Form 10-K
(file no.: 0-24338) on October 24, 1995.
(3) Filed herewith the Company's annual report on Form 10-K (file no.: 0-
24338) on November 4, 1997.
* Management contract, compensatory plan or arrangement.
15
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
VARIFLEX, INC.
October 27, 1997 By /s/ RAYMOND H. LOSI II
---------------------------
Raymond H. Losi II
President
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
October 27, 1997 By /s/ RAYMOND H. LOSI
---------------------------
Raymond H. Losi
Chairman of the Board
October 27, 1997 By /s/ RAYMOND H. LOSI II
---------------------------
Raymond H. Losi II
President (Principal
Executive Officer) Director
October 27, 1997 By /s/ WILLIAM B. OGDEN
---------------------------
William B. Ogden
Chief Financial Officer
(Principal Financial
and Accounting Officer)
October 27, 1997 By /s/ BARBARA LOSI
-------------------------
Barbara Losi
Director
October 27, 1997 By /s/ GERALD I. BOYCE
---------------------------
Gerald I. Boyce
Director
October 27, 1997 By /s/ LOREN HILDEBRAND
---------------------------
Loren Hildebrand
Director
October 27, 1997 By /s/ MARVIN G. MURPHY
---------------------------
Marvin G. Murphy
Director
16
<PAGE>
Consolidated Financial Statements
Variflex, Inc.
Years ended July 31, 1997 and 1996
with Report of Independent Auditors
<PAGE>
Variflex, Inc.
Consolidated Financial Statements
and Supplemental Information
Years ended July 31, 1997 and 1996
CONTENTS
<TABLE>
<CAPTION>
<S> <C>
Report of Independent Auditors.................... 1
Audited Consolidated Financial Statements
Consolidated Balance Sheets....................... 2
Consolidated Statements of Operations............. 3
Consolidated Statements of Stockholders' Equity... 4
Consolidated Statements of Cash Flows............. 5
Notes to Consolidated Financial Statements........ 6
Supplemental Schedule
Valuation and Qualifying Accounts................. 20
</TABLE>
<PAGE>
Report of Independent Auditors
The Board of Directors
Variflex, Inc.
We have audited the accompanying consolidated balance sheets of Variflex, Inc.
(the Company) as of July 31, 1997 and 1996, and the related consolidated
statements of operations, stockholders' equity and cash flows for each of the
three years in the period ended July 31, 1997. Our audits also included the
financial statement schedule listed in the Index at Item 14. These financial
statements and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Variflex, Inc. at
July 31, 1997 and 1996, and the consolidated results of its operations and its
cash flows for each of the three years in the period ended July 31, 1997, in
conformity with generally accepted accounting principles. Also, in our opinion,
the related financial statement schedule, when considered in relation to the
basic financial statements taken as a whole, presents fairly in all material
respects the information set forth therein.
Woodland Hills, California
October 3, 1997
1
<PAGE>
Variflex, Inc.
Consolidated Balance Sheets
(In thousands, except share and per share data)
<TABLE>
<CAPTION>
JULY 31
1997 1996
--------------------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 7,823 $ 3,351
Trade accounts receivable, less allowances of
$549 and $555 as of July 31, 1997 and 1996, 9,600 12,047
respectively
Inventory 9,706 `13,332
Deferred income taxes 784 752
Prepaid expenses and other current assets 2,131 3,457
--------------------------
Total current assets 30,044 32,939
Property and equipment, net 2,154 2,432
Long-term debt securities available for sale 14,959 13,261
Other assets 736 773
--------------------------
Total assets $47,893 $49,405
==========================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Trade acceptances payable $ 570 $ 88
Accounts payable 677 420
Accrued warranty 720 650
Accrued salaries and related liabilities 349 251
Accrued co-op advertising 1,859 2,463
Accrued returns and allowances 173 350
Other accrued expenses 445 371
--------------------------
Total current liabilities 4,793 4,593
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.001 par value:
Authorized shares 5,000,000
Issued and outstanding shares none
Common stock, $.001 par value:
Authorized shares 40,000,000
Issued and outstanding shares 6,025,397 as of
July 31, 1997 and 1996 9 9
Additional paid-in capital 21,023 21,023
Retained earnings 22,068 23,780
--------------------------
Total stockholders' equity 43,100 44,812
--------------------------
Total liabilities and stockholders' equity $47,893 $49,405
==========================
</TABLE>
See accompanying notes.
2
<PAGE>
Variflex, Inc.
Consolidated Statements of Operations
(In thousands, except per share data)
<TABLE>
<CAPTION>
YEAR ENDED JULY 31
1997 1996 1995
-----------------------------------------
<S> <C> <C> <C>
Net sales $51,661 $72,379 $100,317
Cost of goods sold 44,944 60,042 76,541
-----------------------------------------
Gross profit 6,717 12,337 23,776
-----------------------------------------
Operating expenses:
Selling and marketing 6,344 7,671 7,784
General and administrative 4,255 4,596 5,077
-----------------------------------------
Total operating expenses 10,599 12,267 12,861
Income (loss) from operations (3,882) 70 10,915
-----------------------------------------
Other income (expense):
Interest expense (39) (116) (351)
Interest income and other 838 726 629
-----------------------------------------
Total other income (expense) 799 610 278
-----------------------------------------
Income (loss) before income taxes (3,083) 680 11,193
(Benefit from) provision for income taxes (1,278) 116 4,272
-----------------------------------------
Net income (loss) $(1,805) $ 564 $ 6,921
=========================================
Net income (loss) per share of common stock $(0.30) $0.09 $1.15
=========================================
Weighted average number of common shares
outstanding 6,025 6,039 6,039
=========================================
</TABLE>
See accompanying notes.
3
<PAGE>
Variflex, Inc.
Consolidated Statements of Stockholders' Equity
(In thousands, except share data)
<TABLE>
<CAPTION>
Common Stock Additional
--------------------------- Paid-In Retained
Shares Amount Capital Earnings Total
-------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance at July 31, 1994 6,000,000 $9 $20,721 $16,274 $37,004
Issuance of stock in
connection with
acquisition 25,397 - 302 - 302
Adjustment to foreign
currency translation - - - 22 22
Net unrealized holding
gains
on debt securities
available for sale - - - 110 110
Net income - - - 6,921 6,921
-------------------------------------------------------------------
Balance at July 31, 1995 6,025,397 9 21,023 23,327 44,359
Net unrealized holding
losses
on debt securities
available for sale - - - (111) (111)
Net income - - - 564 564
-------------------------------------------------------------------
Balance at July 31, 1996 6,025,397 9 21,023 23,780 44,812
Net unrealized holding
gains
on debt securities
available for sale - - - 93 93
Net loss - - - (1,805) (1,805)
-------------------------------------------------------------------
Balance at July 31, 1997 6,025,397 $9 $21,023 $22,068 $43,100
===================================================================
</TABLE>
See accompanying notes.
4
<PAGE>
Variflex, Inc.
Consolidated Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
YEAR ENDED JULY 31
1997 1996 1995
----------------------------------------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss) $(1,805) $ 564 $ 6,921
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Depreciation and amortization 1,437 1,528 875
Deferred income taxes (32) 536 (169)
Loss on sale of marketable securities 63 - 8
Adjustment to foreign currency translation - - 22
Changes in operating assets and liabilities:
Trade accounts receivable 2,447 6,204 708
Inventory 3,626 (2,939) (1,102)
Prepaid expenses and other current assets 1,326 (2,255) 46
Accounts payable 257 (746) (213)
Other current liabilities (540) (684) 525
Trade acceptances payable 482 (754) (3,978)
----------------------------------------------
Net cash provided by operating activities 7,261 1,454 3,643
----------------------------------------------
INVESTING ACTIVITIES
Purchases of property and equipment (888) (2,317) (1,451)
Gross purchases of available-for-sale securities (5,544) (12,885) (2,564)
Gross sales of available-for-sale securities 3,636 10,225 6,476
Other assets 7 257 (253)
----------------------------------------------
Net cash (used in) provided by investing activities (2,789) (4,720) 2,208
----------------------------------------------
FINANCING ACTIVITIES - - -
Net increase (decrease) in cash 4,472 (3,266) 5,851
Cash beginning of period 3,351 6,617 766
----------------------------------------------
Cash at end of period $ 7,823 $ 3,351 $ 6,617
==============================================
Cash paid during the period for:
Interest $ 39 $ 107 $ 355
Income taxes $ - $ 1,545 $ 4,546
</TABLE>
Supplemental disclosure of non-cash financing and investing activities:
In May 1995, the Company issued 25,397 shares of common stock with a market
value of $302,000 in connection with the acquisition further described in Note
10.
See accompanying notes.
5
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements
July 31, 1997
1.SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION AND BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Variflex, Inc.
(Variflex), a Delaware corporation, and its two wholly owned subsidiaries, Oketa
Limited (Oketa), a Hong Kong corporation, and Static Snowboards, Inc., a
Delaware corporation (collectively the Company). The Company markets and
distributes in-line roller skates, skateboards, bicycle and recreational safety
helmets and athletic protective equipment, such as knee pads, elbow pads and
wrist guards, and other products. The Company designs and develops these
products which are then manufactured to the Company's specifications by
independent contractors. The Company, through Static Snowboards, Inc., also
designs, manufactures and markets snowboards and related accessories. The
Company's products are sold primarily to retailers, with some sales to
wholesalers and distributors. All significant intercompany accounts and
transactions have been eliminated in consolidation.
USE OF ESTIMATES
Financial statements prepared in accordance with generally accepted accounting
principles require management to make estimates and judgments that affect
amounts and disclosures reported in the financial statements. Actual results
could differ from those estimates.
REVENUE RECOGNITION AND WARRANTY
The Company recognizes revenue from product sales upon shipment. The Company has
established programs with its customers which enable them to receive credit for
defective merchandise covered under its warranty policy. The Company's products
are generally under warranty against defects in material and workmanship for a
period of usually 60 days from date of purchase. The amount of potential credits
is estimated and provided for in the period of sale.
CONCENTRATION OF RISK
The Company performs periodic evaluation of the credit worthiness of its
customers and generally does not require collateral. Credit losses relating to
the Company's customers, mainly mass merchant retailers, have consistently been
within management's expectations and are provided for in the financial
statements.
6
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CONCENTRATION OF RISK (CONTINUED)
The Company operates predominantly within one industry segment where certain
customers represent a significant portion of the Company's business. Sales to
the Company's four largest customers as a percentage of consolidated gross
sales, were 26%, 21%, 15% and 8% for fiscal 1997; 20%, 26%, 16% and 12% for
fiscal 1996; 29%, 19%, 24% and 6% for fiscal 1995. Receivables from these
customers as a percentage of the Company's total trade accounts receivable were
41%, 14%, 15% and 9% at July 31, 1997.
With the exception of snowboards, which are manufactured domestically at the
Company's factory, all of the Company's products are manufactured by independent
contractors located in the Republic of China (Taiwan), The People's Republic of
China and South Korea. The Company presently knows of no circumstances that
would materially affect its supply or costs of goods; however, there can be no
assurances with respect to events which may arise in the future.
CASH EQUIVALENTS
Short-term investments and money market funds with original maturities of three
months or less are classified as cash equivalents. The carrying value of cash
equivalents approximates market value.
MARKETABLE SECURITIES
The Company accounts for investments in marketable securities in accordance with
Statement of Financial Accounting Standard No. 115, "Accounting for Certain
Investments in Debt and Equity Securities." Management has determined all
investments should be classified as available-for-sale.
Available-for-sale securities are carried at fair value, with the unrealized
gains and losses, net of tax, reported as a component of retained earnings. The
amortized cost of debts securities in this category is adjusted for amortization
of premiums and accretion of discounts to maturity. Such amortization is
included in investment income. Realized gains, losses and declines in value
judged to be other-than-temporary on available-for-sale securities are included
in interest income. The cost of securities is based on the specific
identification method. Interest and dividends on securities classified as
available-for-sale are included in interest income.
7
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INVENTORY
Inventory is stated at the lower of cost (first-in, first-out method) or market
and consists of the following:
<TABLE>
<CAPTION>
JULY 31
1997 1996
-----------------------
<S> <C> <C>
(In thousands)
Raw material and work-in-process $1,908 $ 1,964
Finished goods 7,798 11,368
-----------------------
$9,706 $13,332
========================
</TABLE>
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is provided using the
straight-line method over the estimated useful lives of the related assets or,
for leasehold improvements, over the terms of the related leases, if shorter.
GOODWILL
Goodwill arising from the acquisitions described in Note 10 is amortized on a
straight-line basis over a period of 15 years and is included net of
amortization as a component of other assets. Accumulated amortization of
goodwill as of July 31, 1997 and 1996 amounted to $69,000 and $39,000,
respectively.
EARNINGS (LOSS) PER SHARE
Earnings (loss) per share is computed based on the weighted average number of
shares of common stock and common stock equivalents, when dilutive, outstanding
during the period. Common stock equivalents represent the dilutive effect of the
assumed exercise of certain outstanding options. Such common stock equivalents
are excluded from the computation for the year ended July 31, 1997 because their
effect is antidilutive.
Statement of Financial Accounting Standard No. 128, "Earnings per Share" (SFAS
128) was issued in February 1997 and must be adopted by the Company starting
with the quarter ended December 31, 1997. Early adoption is not permitted but
all prior year earnings per share data must be restated upon adoption. SFAS 128
simplifies the calculation of earnings per share data by replacing primary
earnings per share with basic earnings per share, which uses weighted average
shares outstanding and does not include any dilutive securities in the
denominator of the calculation. Fully diluted earnings per share is essentially
unchanged. For fiscal 1997, 1996 and 1995 basic earnings per share would have
been the same as primary earnings per share.
8
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ADVERTISING COSTS
Advertising costs are generally expensed as incurred. Advertising costs for the
years ended July 31, 1997, 1996 and 1995 amounted to $3,845,000, $4,542,000 and
$3,861,000, respectively.
STOCK-BASED COMPENSATION
Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based
Compensation," was recently issued and encourages but does not require companies
to record compensation expenses for stock options at fair value. The Company has
chosen to continue to account for stock options using the intrinsic value method
prescribed in Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees," and related interpretations. Accordingly, the Company has
computed the pro forma disclosures of the earnings per share as determined under
the provision of SFAS No. 123.
RECLASSIFICATIONS
Certain reclassifications have been made to the 1996 and 1995 financial
statements to conform with the 1997 presentation.
2.INVESTMENTS
Available-for-sale securities consist of the following:
<TABLE>
<CAPTION>
AVAILABLE-FOR-SALE SECURITIES
----------------------------------------------------
Gross Gross Estimated
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
----------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
July 31, 1997:
State and municipal
debt securities $14,912 $47 $ - $14,959
====================================================
July 31, 1996:
State and municipal
debt securities $13,307 $ - $46 $13,261
====================================================
</TABLE>
The Company experienced net realized losses of $63,000 and $8,000 on sales of
available-for-sale securities during the fiscal years ended July 31, 1997 and
1995, respectively. There were no realized gains or losses during the fiscal
year ended July 31, 1996. The net adjustments to unrealized holding gains and
losses on available-for-sale securities as of July 31, 1997 and 1996 are
reflected in retained earnings.
9
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
2. INVESTMENTS (CONTINUED)
The amortized cost and estimated fair value of debt securities by contractual
maturity are shown below. Expected maturities will differ from contractual
maturities because the issuers of the securities may have the right to prepay
obligations without prepayment penalties.
<TABLE>
<CAPTION>
JULY 31 July 31
1997 1996
------------------------- --------------------------
Estimated Estimated
Cost FAIR VALUE COST FAIR VALUE
------------------------- --------------------------
<S> <C> <C> <C> <C>
(In thousands)
Available-for-sale:
Due in one year or less $ 7,633 $ 7,648 $ 653 $ 655
Due after one year
through three years 7,279 7,311 12,654 12,606
------------------------- --------------------------
$14,912 $14,959 $13,307 $13,261
========================= ==========================
</TABLE>
The classification of marketable securities between current and noncurrent
assets differs from the contractual maturity dates because it is management's
expectation that, unless a need or use of the funds develops, the funds will be
reinvested upon the respective maturity dates rather than used in current
operations.
3. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
<TABLE>
<CAPTION>
JULY 31
1997 1996
------------------------
<S> <C> <C>
(In thousands)
Computer equipment $ 463 $ 432
Trade show assets 187 159
Machinery and equipment 1,516 1,170
Furniture and fixtures 225 293
Leasehold improvements 214 200
Transportation equipment 57 97
Molds, dies and tooling equipment 3,631 3,133
------------------------
6,293 5,484
Less accumulated depreciation and amortization (4,139) (3,052)
------------------------
$ 2,154 $ 2,432
========================
</TABLE>
10
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
4. REVOLVING LINE OF CREDIT
The Company has a $12,000,000 revolving line of credit with a major bank, with
separate sublimits of $12,000,000 for the issuance of commercial letters of
credit and $2,000,000 for actual borrowings. Borrowings are unsecured and carry
an interest rate equal to the bank's prime interest rate less 0.25%, with other
Libor-based interest options available. Interest is payable monthly. The credit
line matures on February 1, 1998. The agreement requires the Company to comply
with certain financial ratios and covenants.
As of July 31, 1997, letters of credit in the amount of $1,328,000 were open for
the receipt of future merchandise. Of this amount, $758,000 has not been
reflected on these financial statements since title to the merchandise has not
yet passed to the Company.
5. COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS
The Company leases warehouse and office facilities under an operating lease that
requires minimum monthly payments of $34,000, and also provides for the lessee
to pay property taxes, insurance, repairs and maintenance and utilities. The
lease expires on December 31, 2000. The Company also subleases additional
warehouse and office space in an adjacent building under a separate operating
lease requiring minimum monthly payments of $7,000, which amount includes
property taxes and utilities, but which provides for the Company to pay
insurance and repairs and maintenance costs. This agreement expires June 30,
1998. The Company's subsidiary, Static Snowboards, Inc., leases office and
manufacturing facilities under an operating lease that requires monthly payments
of $11,000 and expires in September 2000.
The Company has no capital leases as of July 31, 1997. Annual future minimum
lease payments under existing operating leases are as follows:
<TABLE>
<CAPTION>
OPERATING
LEASES
--------------
<S> <C>
(In thousands)
Years ending July 31:
1998 $ 679
1999 613
2000 604
2001 299
2002 and thereafter 34
--------------
Total minimum lease payments $2,229
==============
</TABLE>
11
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
5. COMMITMENTS AND CONTINGENCIES (CONTINUED)
LEASE COMMITMENTS (CONTINUED)
Total rent expense was $687,000, $725,000 and $530,000 for the fiscal years
ended July 31, 1997, 1996 and 1995, respectively.
LITIGATION
The Company is involved in various claims arising primarily from sales of
products in the normal course of business. Management has recorded a $111,000
allowance for product liability losses at July 31, 1997 ($175,000 at July 31,
1996). In addition, the Company carries product liability insurance on its
products. In the opinion of management, any additional liability to the Company
arising under any pending product liability litigation would not materially
affect its financial position, cash flow or results of operations.
EMPLOYMENT AGREEMENTS
The Company has employment and consulting agreements in effect with certain of
its employees. The agreements provide for varying terms of employment
aggregating $816,000, $450,000 and $247,000 in base compensation during the
fiscal years ended July 31, 1998, 1999 and 2000, respectively.
In connection with the acquisition of the assets of Plunkett Snowboards, Inc.
described in Note 10, the Company entered into agreements which provide for
bonus, royalties, establishment of a phantom earnings plan (the Plan) and a put
option which allows the holder to sell the rights under the Plan to the Company
after five years. The Company will record compensation expense pursuant to the
terms of these agreements, the phantom earnings plan and the put option.
6. PENSION PLAN
The Company has a defined benefit pension plan (the Plan) covering substantially
all of its employees. The benefits are based on years of service and the
employee's compensation during the last five years of employment. The Company's
funding policy is generally to contribute annually the minimum amount that can
be deducted for federal income tax purposes. Contributions are intended to
provide not only for benefits attributed to service to date but also for those
expected to be earned in the future. During 1997 the Company amended the Plan to
provide for its termination effective July 31, 1997. Accordingly, included in
net periodic pension expense for the year ended July 31, 1997 is a curtailment
gain of $219,000 resulting from the reduction of the projected bene-
12
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
6. PENSION PLAN (CONTINUED)
fit obligation due to the termination of the Plan. The assets of the Plan will
be used to settle the pension obligation in fiscal 1998. Effective August 1,
1997 the Company established a defined contribution pension plan covering
substantially all of its employees. Company contributions are determined at the
discretion of the Company.
The following table sets forth the plan's funded status and amounts recognized
in the Company's consolidated balance sheet at July 31, 1997 and 1996:
<TABLE>
<CAPTION>
1997 1996
---------------------------
<S> <C> <C>
(In thousands)
Actuarial present value of benefit
obligations:
Accumulated benefit obligation, including
vested benefits of $2,704 and $2,270 at
July 31, 1996 and 1995, respectively $(2,704) $(2,308)
---------------------------
Projected benefit obligation for service
rendered to date (2,704) (3,080)
Plan assets at fair market value,
primarily listed U.S. stocks and U.S.
bonds 2,769 3,590
---------------------------
Plan assets in excess of projected benefit
obligation 65 510
Unrecognized net gains (losses) from past
experience different from that assumed
and effects of changes in assumptions 89 (218)
Prior service cost not yet recognized in
net periodic pension cost (406) (424)
Unrecognized net obligation as of July 31,
1989
to be recognized over approximately 19
years 317 346
---------------------------
Prepaid pension costs included
in other assets $ 65 $ 214
===========================
</TABLE>
Net pension cost for the fiscal years ended July 31, 1997, 1996 and 1995
included the following components:
13
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
6. PENSION PLAN (CONTINUED)
<TABLE>
<CAPTION>
1997 1996 1995
---------------------------------
(In thousands)
<S> <C> <C> <C>
Service cost-benefits earned during
the period $ 262 $ 233 $ 169
Interest cost on projected benefit
obligations 191 209 206
Actual return on plan assets (720) (325) (885)
Net amortization and deferral 505 39 723
Curtailment gain (219) - -
---------------------------------
Net periodic pension cost $ 19 $ 156 $ 213
=================================
</TABLE>
The weighted-average discount rate and the rate of increase in future
compensation levels used in determining the actuarial present value of the
projected benefit obligations was 8 percent and 5 percent, respectively, in 1996
and 1995, and 6% and zero percent in 1997, respectively. The expected long-term
rate of return on assets and the increase in cost of living assumption used in
computing the periodic pension cost was 8 percent and 3 percent, respectively,
for 1996 and 1995, and was zero percent and zero percent, respectively, in the
year ended July 31, 1997. The change in the assumptions during 1997 are due to
the termination of the plan as previously discussed.
7. INCOME TAXES
The (benefit from) provision for income taxes for the fiscal years ended July
31, 1997, 1996 and 1995 is as follows:
<TABLE>
<CAPTION>
1997 1996 1995
-------------------------------------
(In thousands)
<S> <C> <C> <C>
Current (benefit) provision:
Federal $(1,246) $(442) $3,470
State - 22 971
-------------------------------------
Total current (benefit) provision (1,246) (420) 4,441
Deferred provision (benefit):
Federal (29) 510 (155)
State (3) 26 (14)
-------------------------------------
Total deferred provision (benefit) (32) 536 (169)
-------------------------------------
$(1,278) $ 116 $4,272
=====================================
</TABLE>
14
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
7. INCOME TAXES (CONTINUED)
The deferred income tax asset consists of the tax effect of timing differences
related to the following components:
<TABLE>
<CAPTION>
1997 1996
-------------------------
<S> <C> <C>
(In thousands)
Deferred tax assets:
Warranty allowances $ 299 $ 284
Allowances for losses on receivables 241 242
Inventory valuation allowances 214 319
Sales return allowances 71 153
Product liability 49 76
Other 334 280
-------------------------
Total deferred tax assets 1,208 1,354
Deferred tax liabilities:
Pension contributions - (36)
Unremitted earnings of Oketa (190) (298)
State taxes (79) (55)
Prepaid insurance (140) (213)
Other (15)
-------------------------
Total deferred tax liabilities (424) (602)
-------------------------
Net deferred tax assets $ 784 $ 752
=========================
</TABLE>
A reconciliation of the statutory federal income tax rate to the effective tax
rate, as a percentage of income before taxes based on income, follows:
<TABLE>
<CAPTION>
1997 1996 1995
---------------------------------
<S> <C> <C> <C>
Statutory federal income tax rate (35%) 35% 35%
State taxes, net of federal tax benefit - 6 6
Tax exempt interest income (7) (30) (3)
Other non-deductible expenses 1 6 -
(41%) 17% 38%
=================================
</TABLE>
Pretax income earned by Oketa amounted to $215,000, $1,393,000 and $1,736,000 in
fiscal 1997, 1996 and 1995, respectively, and is not subject to Hong Kong tax as
provided under that country's taxation requirements. The Company provides
deferred taxes on Oketa's income until such income is repatriated to the United
States.
15
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
8. STOCK OPTION PLANS
In April 1993, the Company established a non-qualified stock option plan (the
Plan) to grant stock options to one of its officers. Under the Plan, stock
options were granted each April through April 1997, and each grant shall vest
cumulatively at 20% per year over five years. The options are exercisable over
ten years at an exercise price of $0.0004 per share. The number of shares
granted at each grant date will have an aggregate fair market value of $20,000
as of such grant date. In April 1995, 1996 and 1997, the Company granted options
to purchase 1,379, 2,667 and 3,951 shares, respectively, and in sum the Company
has granted options to purchase a total of 20,129 shares of the Company's common
stock under the Plan. The Company has recorded compensation expense related to
these options.
On April 1, 1994, the stockholders of the Company approved the 1994 Variflex
Stock Plan (the 1994 Stock Plan) which became effective at the initial public
offering date of June 17, 1994. Under the 1994 Stock Plan, options, stock
appreciation rights (SARS) and bonus stock may be granted for the purpose of
attracting and motivating deserving employees and directors of the Company. The
exercise price of the options is to be not less than the market price of the
common stock at the time of grant with respect to incentive stock options, and
not less than 85% of the market price of the common stock at the time of grant
with respect to non-qualified options. The maximum number of shares reserved for
issuance under the 1994 Stock Plan is 200,000.
In June 1997, in connection with the termination of certain incentive stock
option plans and stock options granted in April 1994 to purchase 280,000 shares
of common stock at $15.50 per share, the Company granted to certain officers and
employees of the Company incentive stock options, under the 1994 Stock Plan, for
the purchase of an aggregated amount of 145,000 shares of the Company's common
stock. The options vest over the next two to five years, carry exercise prices
ranging from $5.00 to $5.50 per share and are exercisable over 10 years from the
date of grant.
There were no options exercised in the years ended July 31, 1997, 1996 and 1995
and no options were canceled in the years ended July 31, 1996 and 1995.
16
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
8. STOCK OPTION PLANS (CONTINUED)
A summary of stock option activity and data is as follows:
<TABLE>
<CAPTION>
Options Outstanding
-----------------------------
Weighted
Number Average
of Shares Price
-----------------------------
<S> <C> <C>
Balance at August 1, 1994 292,132 $14.8563
Granted 1,379 0.0004
-----------------------------
Balance at July 31, 1995 293,511 14.7865
Granted 2,667 0.0004
-----------------------------
Balance at July 31, 1996 296,178 14.6534
Granted 148,951 5.1695
Cancelled (280,000) -
-----------------------------
Balance at July 31, 1997 165,129 $ 4.6631
=============================
</TABLE>
Information regarding stock options outstanding as of July 31, 1997 is as
follows:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
- -----------------------------------------------------------------------------------------
Weighted
Average
Remaining Weighted Weighted
Number of Contractual Average Number of Average
Price Range Shares Life Exercise Price Shares Exercise Price
-----------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$0.0004 20,129 7 years $0.0004 10,533 $0.0004
$5.00 to 145,000 10 years $5.3103 - $5.3103
$5.50
</TABLE>
17
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
8. STOCK OPTION PLANS (CONTINUED)
Fair Value Disclosures
The weighted average exercise prices and fair market value of stock options
using the Black-Scholes option valuation model were as follows:
<TABLE>
<CAPTION>
1997 1996
----------------------------------------------------
Fair Exercise Fair Exercise
Value Price Value Price
----------------------------------------------------
<S> <C> <C> <C> <C>
Exercise price equals market
value
of stock at date of grant $1.25 $ 5.00 $ - $ -
Exercise price exceeds
market value
of stock at date of grant 1.49 5.50 - -
Exercise price is less than
market
value of stock at date of
grant 5.06 0.0004 7.50 0.0004
</TABLE>
The weighted average fair values of 1997 and 1996 stock option grants were
estimated at the date of grant using the Black-Scholes option valuation model
and the following average actuarial assumptions:
<TABLE>
<CAPTION>
1997 1996
--------------------------------------
<S> <C> <C>
Risk-free interest range 5.0% 5.0%
Expected life 4.3 years 5.0 years
Expected volatility .271 .271
Expected dividend yield None None
</TABLE>
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options. The Company's employee stock options have
characteristics significantly different from those of traded options such as
vesting restrictions and extremely limited transferability. In addition, the
assumptions used in option valuation models (see above) are highly subjective,
particularly the expected stock price volatility of the underlying stock.
Because changes in these subjective input assumptions can materially affect the
fair value estimate, in management's opinion, the existing models do not provide
a reliable single measure of the fair value of its employee stock options.
For purposes of the pro forma disclosure of net income, the estimated fair value
of the stock options granted in 1996 and 1997 is amortized as compensation
expense over the options' vesting period. The pro forma effect on net income for
1997 and 1996 is not presented because it is not material. However, the pro
forma effect on net income for 1997 and 1996 is not representative of the pro
forma effect on net income in future years because it does not take into
consideration pro forma compensation expense related to grants prior to 1996.
Pro forma information in future years will reflect the amortization of a larger
number of stock options granted in several succeeding years.
18
<PAGE>
Variflex, Inc.
Notes to Consolidated Financial Statements (continued)
9. QUARTERLY OPERATING DATA (UNAUDITED)
The following is a summary of unaudited quarterly results of operations:
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
----------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands, except per share data)
Year ended July 31, 1997:
Net sales $12,277 $13,844 $14,567 $10,973
Gross profit 2,070 2,239 1,726 682
Net loss (261) (269) (380) (895)
----------------------------------------------------------------
Net loss per share $ (.04) $ (.04) $ (.06) $ (.15)
================================================================
Year ended July 31, 1996:
Net sales $23,525 $14,283 $21,707 $12,865
Gross profit 4,903 2,669 4,297 469
Net income (loss) 937 109 707 (1,189)
----------------------------------------------------------------
Net income (loss) per
share $ .16 $ .02 $ .12 $ (.20)
================================================================
</TABLE>
10. ACQUISITIONS
In April 1995, the Company formed a new wholly owned subsidiary, Static
Snowboards, Inc., for the purpose of acquiring the assets of Plunkett
Snowboards, Inc., an existing snowboard manufacturer. The acquisition was
completed in May 1995, in exchange for $100,000 in cash and 25,397 shares of
Variflex, Inc. common stock which had a market value of $302,000.
In June 1996, Static Snowboards, Inc. entered into an agreement with another
company for the joint manufacture, marketing and distribution of Barfoot(TM)
snowboards. The joint agreement contained a purchase option, which the Company
exercised in May 1997, thereby acquiring all rights to the Barfoot brand name in
exchange for $85,000 in cash.
The Company recorded each of the acquisitions referred to above using the
purchase method of accounting. In each case, substantially all of the purchase
price was recorded by the Company as goodwill, to be amortized over 15 years.
19
<PAGE>
Variflex, Inc.
Valuation and Qualifying Accounts
Three years ended July 31, 1997
<TABLE>
<CAPTION>
ADDITIONS
BALANCE AT CHARGED WRITE-OFFS BALANCE
BEGINNING TO CHARGED TO AT END
OF PERIOD EXPENSE ALLOWANCE OF PERIOD
--------------------------------------------------------------
<S> <C> <C> <C> <C>
Year ended July 31, 1997:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectible
accounts $ 555,000 $100,000 $106,000 $549,000
Year ended July 31, 1996:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectible
accounts $ 911,000 $ - $356,000 $555,000
Year ended July 31, 1995:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectible
accounts $1,074,000 $ 31,000 $194,000 $911,000
</TABLE>
20
<PAGE>
[LOGO OF BANK OF AMERICA]
BANK OF AMERICA BUSINESS LOAN AGREEMENT
National Trust and Savings Association
- --------------------------------------------------------------------------------
This Agreement dated as of February 3, 1997, is between Bank of America National
Trust and Savings Association (the "Bank") and Variflex, Inc. (the "Borrower").
1. LINE OF CREDIT AMOUNT AND TERMS
1.1 LINE OF CREDIT AMOUNT.
(a) During the availability period described below, the Bank will provide a
line of credit to the Borrower. The amount of the line of credit (the
"Commitment") is Twelve Million Dollars ($12,000,000).
(b) This is a revolving line of credit with within line facilities for
letters of credit and shipside bonds. During the availability period, the
Borrower may repay principal amounts and reborrow them; provided that the
aggregate amount of advances, exclusive of amounts owed in respect to
drawn and undrawn letters of credit and shipside bonds, outstanding at
any time may not exceed Two Million Dollars ($2,000,000).
(c) The Borrower agrees not to permit the outstanding principal balance of
the line of credit plus the outstanding amounts of any letters of credit,
including amounts drawn on letters of credit and not yet reimbursed, and
shipside bonds, to exceed the Commitment.
1.2 AVAILABILITY PERIOD. The line of credit is available between the date of
this Agreement and February 1, 1998 (the "Expiration Date").
1.3 INTEREST RATE.
(a) Unless the Borrower elects an optional interest rate as described below,
the interest rate is the Bank's Reference Rate minus one-quarter (.25) of
a percentage point.
(b) The Reference Rate is the rate of interest publicly announced from time
to time by the Bank in San Francisco, California, as its Reference Rate.
The Reference Rate is set by the Bank based on various factors, including
the Bank's costs and desired return, general economic conditions and
other factors, and is used as a reference point for pricing some loans.
The Bank may price loans to its customers at, above, or below the
Reference Rate. Any change in the Reference Rate shall take effect at the
opening of business on the day specified in the public announcement of a
change in the Bank's Reference Rate.
1.4 REPAYMENT TERMS.
(a) The Borrower will pay interest on February 28, 1997, and then monthly
thereafter until payment in full of any principal outstanding under this
line of credit.
(b) The Borrower will repay in full all principal and any unpaid interest or
other charges outstanding under this line of credit no later than the
Expiration Date.
(c) Any amount bearing interest at an optional interest rate (as described
below) may be repaid at the end of the applicable interest period, which
shall be no later than the Expiration Date.
- -------------------------------------------------------------------------------
-1-
<PAGE>
1.5 OPTIONAL INTEREST RATES. Instead of the interest rate based on the
Bank's Reference Rate, the Borrower may elect to have all or portions of the
line of credit (during the availability period) bear interest at the rate(s)
described below during an interest period agreed to by the Bank and the
Borrower. Each interest rate is a rate per year. Interest will be paid on the
last day of each interest period. At the end of any interest period, the
interest rate will revert to the rate based on the Reference Rate, unless the
Borrower has designated another optional interest rate for the portion.
1.6 LIBOR RATE. The Borrower may elect to have all or portions of the
principal balance bear interest at the LIBOR Rate plus one and one-quarter
(1.25) percentage points.
Designation of a LIBOR Rate portion is subject to the following requirements:
(a) The interest period during which the LIBOR Rate will be in effect will
be one, two or three months. The first day of the interest period must
be a day other than a Saturday or a Sunday on which the Bank is open for
business in California, New York and London and dealing in offshore
dollars (a "LIBOR Banking Day"). The last day of the interest period and
the actual number of days during the interest period will be determined
by the Bank using the practices of the London inter-bank market.
(b) Each LIBOR Rate portion will be for an amount not less than Five Hundred
Thousand Dollars ($500,000).
(c) The "LIBOR Rate" means the interest rate determined by the following
formula, rounded upward to the nearest 1/100 of one percent. (All
amounts in the calculation will be determined by the Bank as of the
first day of the interest period.)
LIBOR Rate = London Inter-Bank Offered Rate
------------------------------
(1.00 - Reserve Percentage)
Where,
(i) "London Inter-Bank Offered Rate" means the interest rate at
which the Bank's London Branch, London, Great Britain, would
offer U.S. dollar deposits for the applicable interest period to
other major banks in the London inter-bank market at
approximately 11:00 a.m. London time two (2) London Banking Days
before the commencement of the interest period. A "London
Banking Day" is a day on which the Bank's London Branch is open
for business and dealing in offshore dollars.
(ii) "Reserve Percentage" means the total of the maximum reserve
percentages for determining the reserves required to be
maintained by member banks of the Federal Reserve System for
Eurocurrency Liabilities, as defined in Federal Reserve Board
Regulation D, rounded upward to the nearest 1/100 of one
percent. The percentage will be expressed as a decimal, and will
include, but not be limited to, marginal, emergency,
supplemental, special, and other reserve percentages.
(d) The Borrower shall irrevocably request a LIBOR Rate portion no later
than 12:00 noon San Francisco time on the LIBOR Banking Day preceding
the day on which the London Inter-Bank Offered Rate will be set, as
specified above.
(e) The Borrower may not elect a LIBOR Rate with respect to any principal
amount which is scheduled to be repaid before the last day of the
applicable interest period.
- -------------------------------------------------------------------------------
-2-
<PAGE>
(f) Any portion of the principal balance already bearing interest at the
LIBOR Rate will not be converted to a different rate during its interest
period.
(g) Each prepayment of a LIBOR Rate portion, whether voluntary, by reason of
acceleration or otherwise, will be accompanied by the amount of accrued
interest on the amount prepaid and a prepayment fee as described below. A
"prepayment" is a payment of an amount on a date earlier than the
scheduled payment date for such amount as required by this Agreement. The
prepayment fee shall be equal to the amount (if any) by which:
(i) the additional interest which would have been payable during the
interest period on the amount prepaid had it not been prepaid,
exceeds
(ii) the interest which would have been recoverable by the Bank by
placing the amount prepaid on deposit in the domestic certificate
of deposit market, the eurodollar deposit market, or other
appropriate money market selected by the Bank, for a period
starting on the date on which it was prepaid and ending on the
last day of the interest period for such portion (or the scheduled
payment date for the amount prepaid, if earlier).
(h) The Bank will have no obligation to accept an election for a LIBOR Rate
portion if any of the following described events has occurred and is
continuing:
(i) Dollar deposits in the principal amount, and for periods equal to
the interest period, of a LIBOR Rate portion are not available in
the London inter-bank market; or
(ii) the LIBOR Rate does not accurately reflect the cost of a LIBOR
Rate portion.
1.7 LETTERS OF CREDIT. This line of credit may be used for financing:
(i) commercial letters of credit with a maximum maturity of 180 days
but not to extend more than 90 days beyond the Expiration Date.
Each commercial letter of credit will require drafts payable at
sight.
(ii) a standby letter of credit with a maximum maturity of 150 days but
not to extend beyond June 30, 1997 in an amount not to exceed Five
Million Dollars ($5,000,000).
(iii) The amount of letters of credit outstanding at any one time,
(including amounts drawn on letters of credit and not yet
reimbursed), may not exceed the Commitment.
The Borrower agrees:
(a) any sum drawn under a letter of credit may, at the option of the Bank,
be added to the principal amount outstanding under this Agreement. The
amount will bear interest and be due as described elsewhere in this
Agreement.
(b) if there is a default under this Agreement, to immediately prepay and
make the Bank whole for any outstanding letters of credit.
(c) the issuance of any letter of credit and any amendment to a letter of
credit is subject to the Bank's reasonable written approval and must be
in form and content reasonably satisfactory to the Bank and in favor of
a beneficiary reasonably acceptable to the Bank.
(d) to sign the Bank's form Application and Agreement for Commercial Letter
of Credit or Application and Agreement for Standby Letter of Credit.
- --------------------------------------------------------------------------------
-3-
<PAGE>
(e) to pay the following issuance and other fees for issuing and processing
commercial letters of credit:
<TABLE>
<S> <C>
Issuance Fee 1/10% with a minimum $90;
Amendment Fee (Increases) 1/10% with a minimum $70;
Amendment Fee (Other) $70;
Negotiations Fee $80
</TABLE>
(f) to allow the Bank to automatically charge its checking account for
applicable fees, discounts, and other charges.
(g) to pay the Bank a non-refundable fee equal to Seven Hundred Fifty Dollars
($750) per each standby letter of credit, payable in advance.
1.8 SHIPSIDE BONDS. This line of credit may be used for financing shipside
bonds in a face amount not exceeding Five Hundred Thousand Dollars ($500,000).
The Borrower agrees:
(a) any sum owed to the Bank, as a result of a payment by the Bank, under a
shipside bond may, at the option of the Bank, be added to the principal
amount outstanding under this Agreement. The amount will bear interest and
be due as described elsewhere in this Agreement.
(b) if there is a default under this Agreement, to immediately prepay and make
the Bank whole for any outstanding shipside bonds.
(c) the issuance of any shipside bond is subject to the Bank's reasonable
express approval and must be in form and content reasonably satisfactory to
the Bank.
(d) to sign the Bank's application, security agreement and other standard forms
for shipside bonds, and to pay any issuance and/or other fees that the
Bank notifies the Borrower will be charged for issuing and processing
shipside bonds for the Borrower.
(e) to allow the Bank to automatically charge its checking account for
applicable fees, discounts, and other charges.
2. FEES AND EXPENSES
2.1 LOAN FEE. The Borrower agrees to pay a Five Thousand Dollar ($5,000) fee
due on February 1, 1997.
2.2 EXPENSES. The Borrower agrees to reimburse the Bank for any expenses it
incurs in the preparation of this Agreement and any agreement or instrument
required by this Agreement up to a maximum of One Thousand Dollars ($1,000).
Expenses include, but are not limited to, reasonable attorneys' fees, including
any allocated costs of the Bank's in-house counsel.
3. DISBURSEMENTS, PAYMENTS AND COSTS
3.1 REQUESTS FOR CREDIT. Each request for an extension of credit will be made
in writing in a manner acceptable to the Bank, or by another means acceptable to
the Bank.
3.2 DISBURSEMENTS AND PAYMENTS. Each disbursement by the Bank and each payment
by the Borrower will be:
(a) made at the Bank's branch (or other location) selected by the Bank from
time to time;
(b) made for the account of the Bank's branch selected by the Bank from time
to time;
(c) made in immediately available funds;
- --------------------------------------------------------------------------------
-4-
<PAGE>
(d) evidenced by records kept by the Bank. In addition, the Bank may, at its
discretion, require the Borrower to sign one or more promissory notes.
3.3 TELEPHONE AUTHORIZATION.
(a) The Bank may honor telephone instructions for advances or repayments or for
the designation of optional interest rates given by any one of the
individuals authorized to sign loan agreements on behalf of the Borrower,
or any other individual designated by any one of such authorized signers.
(b) Advances will be deposited in and repayments will be withdrawn from the
Borrower's account number XXXXX-XXXXX, or such other of the Borrower's
accounts with the Bank as designated in writing by the Borrower.
(c) The Borrower indemnifies and excuses the Bank (including its officers,
employees, and agents) from all liability, loss, and costs in connection
with any act resulting from telephone instructions it reasonably believes
are make by any individual authorized by the Borrower to give such
instructions. This indemnity and excuse will survive this Agreement.
3.4 DIRECT DEBIT (PRE-BILLING).
(a) The Borrower agrees that the Bank will debit the Borrower's deposit account
number XXXXX-XXXXX (the "Designated Account") on the date each payment of
interest and any fees from the Borrower becomes due (the "Due Date"). If
the Due Date is not a banking day, the Designated Account will be debited
on the next banking day.
(b) Approximately 10 days prior to each Due Date, the Bank will mail to the
Borrower a statement of the amounts that will be due on that Due Date (the
"Billed Amount"). The calculation will be made on the assumption that no
new extensions of credit or payments will be made between the date of the
billing statement and the Due Date, and that there will be no changes in
the applicable interest rate.
(c) The Bank will debit the Designated Account for the Billed Amount,
regardless of the actual amount due on that date (the "Accrued Amount").
If the Billed Amount debited to the Designated Account differs from the
Accrued Amount, the discrepancy will be treated as follows:
(i) If the Billed Amount is less than the Accrued Amount, the Billed
Amount for the following Due Date will be increased by the amount of
the discrepancy. The Borrower will not be in default by reason of any
such discrepancy.
(ii) If the Billed Amount is more than the Accrued Amount, the Billed
Amount for the following Due Date will be decreased by the amount of
the discrepancy.
Regardless of any such discrepancy, interest will continue to accrue based
on the actual amount of principal outstanding without compounding. The Bank
will not pay the Borrower interest on any overpayment.
(d) The Borrower will maintain sufficient funds in the Designated Account to
cover each debit. If there are insufficient funds in the Designated Account
on the date the Bank enters any debit authorized by this Agreement, the
debit will be reversed.
3.5 BANKING DAYS. Unless otherwise provided in this Agreement, a banking day is
a day other that a Saturday or a Sunday on which the Bank is open for business
in California. All payments and disbursements which would be due on a day which
is not a banking day will be due on the next banking day. All payments received
on a day which is not a banking day will be applied to the credit on the next
banking day.
- --------------------------------------------------------------------------------
-5-
<PAGE>
3.6 TAXES. If any payments to the Bank under this Agreement are made from
outside the Unites States, the Borrower will not deduct any foreign taxes from
any payments it makes to the Bank. If any such taxes are imposed on any
payments made by the Borrower (including payments under this paragraph), the
Borrower will pay the taxes and will also pay to the Bank, at the time interest
is paid, any additional amount which the Bank specifies as necessary to preserve
the after-tax yield the Bank would have received if such taxes had not been
imposed. The Borrower will confirm that it has paid the taxes by giving the Bank
official tax receipts (or notarized copies) within 30 days after the due date.
3.7 ADDITIONAL COSTS. The Borrower will pay the Bank, on demand, for the
Bank's cost or losses arising from any statute or regulation, or any request or
requirement of a regulatory agency which is applicable to all national banks or
a class of all national banks. The costs and losses will be allocated to the
loan in a manner determined by the Bank, using any reasonable method. The costs
include the following:
(a) any reserve or deposit requirements; and
(b) any capital requirements relating to the Bank's assets and commitments for
credit.
3.8 INTEREST CALCULATION. Except as otherwise stated in this Agreement, all
interest and fees, if any, will be computed on the basis of a 360-day year and
the actual number of days elapsed. This results in more interest or a higher
fee than if a 365-day year is used.
3.9 INTEREST ON LATE PAYMENTS. At the Bank's sole option in each instance,
any amount not paid when due under this Agreement (including interest) shall
bear interest from the due date at the Bank's Reference Rate plus two (2.00)
percentage points. This may result in compounding of interest.
3.10 DEFAULT RATE. Upon the occurrence and during the continuation of any
default under this Agreement, advances under this Agreement will at the option
of the Bank bear interest at a rate per annum which is two (2.00) percentage
points higher than the rate of interest otherwise provided under this Agreement.
This will not constitute a waiver of any default.
4. CONDITIONS
The Bank must receive the following items, in form and content acceptable to the
Bank, before it is required to extend any credit to the Borrower under this
Agreement.
4.1 AUTHORIZATIONS. Evidence that the execution, delivery and performance by
the Borrower (and any guarantor) of this Agreement and any instrument or
agreement required under this Agreement have been duly authorized.
4.2 OTHER ITEMS. Any other items that the Bank reasonably requires.
5. REPRESENTATIONS AND WARRANTIES
When the Borrower signs this Agreement, and until the Bank is repaid in full,
the Borrower makes the following representations and warranties. Each request
for an extension of credit constitutes a renewed representation.
5.1 ORGANIZATION OF BORROWER. The Borrower is a corporation duly formed and
existing under the laws of the state where organized.
5.2 AUTHORIZATION. This Agreement, and any instrument or agreement required
hereunder, are within the Borrower's powers, have been duly authorized, and do
not conflict with any of its organizational papers.
5.3 ENFORCEABLE AGREEMENT. This Agreement is a legal, valid and binding
agreement of the Borrower, enforceable against the Borrower in accordance with
its terms, and any instrument or agreement required hereunder, when executed and
delivered, will be similarly legal, valid, binding and enforceable.
- --------------------------------------------------------------------------------
-6-
<PAGE>
5.4 GOOD STANDING. In each state in which the Borrower does business, it is
properly licensed, in good standing, and, where required, in compliance with
fictitious name statutes.
5.5 NO CONFLICTS. This Agreement does not conflict with any law, agreement, or
obligation by which the Borrower is bound.
5.6 FINANCIAL INFORMATION. All financial and other information that has been or
will be supplied to the Bank is:
(a) sufficiently complete to give the Bank accurate knowledge of the Borrower's
(and any guarantor's) financial condition.
(b) in form and content required by the Bank.
(c) in compliance with all government regulations that apply.
5.7 LAWSUITS. There is no lawsuit, tax claim or other dispute pending or
threatened against the Borrower, which, if lost, would impair the Borrower's
financial condition or ability to repay the loan, in each case in any material
respect, except as have been disclosed in writing to the Bank.
5.8 OTHER OBLIGATIONS. The Borrower is not in default on any obligation for
borrowed money, any purchase money obligation or any other material lease,
commitment, contract, instrument or obligation.
5.9 INCOME TAX RETURNS. The Borrower has no knowledge of any pending
assessments or adjustments of its income tax for any year.
5.10 NO EVENT OF DEFAULT. There is no event which is, or with notice or lapse
of time or both would be, a default under this Agreement.
5.11 LOCATION OF BORROWER. The Borrower's place of business (or, if the
Borrower has more than one place of business, its chief executive office) is
located at the address listed under the Borrower's signature on this Agreement.
6. COVENANTS
The Borrower agrees, so long as credit is available under this Agreement and
until the Bank is repaid in full:
6.1 USE OF PROCEEDS. To use the proceeds of the credit only for financing the
importation of finished goods and to insure the availability of funds to meet
obligations under letters of credit in anticipation of maturities of investment
securities.
6.2 FINANCIAL INFORMATION. To provide the following financial information and
statements and such additional information as requested by the Bank from time to
time:
(a) Within 90 days of the Borrower's fiscal year end, the Borrower's annual
financial statements. These financial statements must be audited (with an
unqualified opinion) by a Certified Public Accountant ("CPA") acceptable to
the Bank.
(b) Within 60 days of the period's end, the Borrower's quarterly financial
statements. These financial statements may be Borrower prepared.
(c) Copies of the Borrower's Form 10-K Annual Report and Form 10-Q Quarterly
Report within 15 days after the date of filing with the Securities and
Exchange Commission.
(d) Copies of the Borrower's annual forecasts consisting of monthly balance
sheets, income statements and cash flows at least 60 days prior to the
Expiration Date.
- --------------------------------------------------------------------------------
-7-
<PAGE>
6.3 TANGIBLE NET WORTH. To maintain tangible net worth equal to at least
Forty-Three Million Dollars ($43,000,000).
"Tangible net worth" means the gross book value of the Borrower's assets
(excluding goodwill, patents, trademarks, trade names, organization expense,
treasury stock, unamortized debt discount and expense, deferred research and
development costs, deferred marketing expenses, and other like intangibles) less
total liabilities, including but not limited to accrued and deferred income
taxes, and any reserves against assets.
6.4 TOTAL LIABILITIES TO TANGIBLE NET WORTH RATIO. To maintain a ratio of
total liabilities to tangible net worth not exceeding .50:1.0.
"Total liabilities" means the sum of current liabilities including undrawn
amounts of outstanding letters of credit plus long term liabilities.
6.5 OTHER DEBTS. Not to have outstanding or incur any direct or contingent
debts (other than those to the Bank), or become liable for the debts of others
without the Bank's written consent. This does not prohibit:
(a) Acquiring goods, supplies, or merchandise on normal trade credit.
(b) Endorsing negotiable instruments received in the usual course of
business.
(c) Obtaining surety bonds in the usual course of business.
(d) Indebtedness assumed in connection with transactions permitted in
Paragraph 6.16(e) below.
6.6 OTHER LIENS. Not to create, assume, or allow any security interest or
lien (including judicial liens) on property the Borrower now or later
owns, except:
(a) Deeds of trust and security agreements in favor of the Bank.
(b) Liens for taxes not yet due.
(c) Liens outstanding on the date of this Agreement disclosed in writing to
the Bank.
6.7 OUT OF DEBT PERIOD. To repay any advances in full, and not to draw any
additional advances on its revolving line of credit, for a period of at
least 30 consecutive days in each line-year. "Line-year" means the
period between the date of this Agreement and February 1, 1998, and
each subsequent one-year period (if any). For the purposes of this
paragraph only, "advances" does not include drawn or undrawn amounts of
outstanding letters of credit and shipside bonds.
6.8 NOTICES TO BANK. To promptly notify the Bank in writing of:
(a) any lawsuit over Five Hundred Thousand Dollars ($500,000) against the
Borrower (or any guarantor).
(b) any substantial dispute between the Borrower (or any guarantor) and any
government authority.
(c) any failure to comply with this Agreement.
(d) any material adverse change in the Borrower's (or any guarantor's)
financial condition or operations.
(e) any change in the Borrower's name, legal structure, place of business,
or chief executive office if the Borrower has more than one place of
business.
6.9 BOOKS AND RECORDS. To maintain adequate books and records.
- --------------------------------------------------------------------------------
-8-
<PAGE>
6.10 AUDITS. To allow the Bank and its agents to inspect the Borrower's
properties and examine, audit and make copies of books and records at any
reasonable time. If any of the Borrower's properties, books or records are in
the possession of a third party, the Borrower authorizes that third party to
permit the Bank or its agents to have access to perform inspections or audits
and to respond to the Bank's requests for information concerning such
properties, books and records.
6.11 COMPLIANCE WITH LAWS. To comply with the laws (including any fictitious
name statute), regulations, and orders of any government body with authority
over the Borrower's business.
6.12 PRESERVATION OF RIGHTS. To maintain and preserve all rights, privileges,
and franchises the Borrower now has.
6.13 MAINTENANCE OF PROPERTIES. To make any repairs, renewals, or
replacements to keep the Borrower's properties in good working condition.
6.14 COOPERATION. To take any action requested by the Bank to carry out the
intent of this Agreement.
6.15 GENERAL BUSINESS INSURANCE. To maintain insurance as is usual for the
business it is in.
6.16 ADDITIONAL NEGATIVE COVENANTS. Not to, without the Bank's written consent:
(a) engage in any business activities substantially different from the
Borrower's present business.
(b) liquidate or dissolve the Borrower's business.
(c) enter into any consolidation, merger, pool, syndicate, or other
combination.
(d) lease, or dispose of all or a substantial part of the Borrower's business
or the Borrower's assets.
(e) acquire or purchase a business or its assets or enter into a joint venture,
unless the total consideration for such acquisition or purchase (including
assumption of debt or capital contributions) would not exceed Five Hundred
Thousand Dollars ($500,000).
(f) sell or otherwise dispose of any assets for less than fair market value, or
enter into any sale and leaseback agreement covering any of its fixed or
capital assets.
7. DEFAULT
If any of the following events occur, the Bank may do one or more of the
following: declare the Borrower in default, stop making any additional credit
available to the Borrower, and require the Borrower to repay its entire debt
immediately and without prior notice. If an event of default occurs under the
paragraph entitled "Bankruptcy," below, with respect to the Borrower, then the
entire debt outstanding under this Agreement will automatically be due
immediately.
7.1 FAILURE TO PAY. The Borrower fails to make a payment under this Agreement
when due.
7.2 FALSE INFORMATION. The Borrower has given the Bank materialy false or
misleading information or representations.
7.3 BANKRUPTCY. The Borrower (or any guarantor) files a bankruptcy petition, a
bankruptcy petition is filed against the Borrower (or any guarantor), or the
Borrower (or any guarantor) makes a general assignment for the benefit of
creditors.
7.4 RECEIVERS. A receiver or similar official is appointed for the Borrower's
(or any guarantor's) business, or the business is terminated.
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-9-
<PAGE>
7.5 LAWSUITS. Any lawsuit or lawsuits are filed on behalf of one or more trade
creditors against the Borrower in an aggregate amount of One Hundred Thousand
Dollars ($100,000) or more in excess of any insurance coverage.
7.6 GOVERNMENT ACTION. Any government authority takes action that the Bank
believes materially adversely affects the Borrower's (or any guarantor's)
financial condition or ability to repay.
7.7 MATERIAL ADVERSE CHANGE. A material adverse change occurs in the
Borrower's (or any guarantor's) financial condition, properties or prospects, or
ability to repay the loan.
7.8 CROSS-DEFAULT. Any default occurs under any agreement in connection with
any material credit the Borrower (or any guarantor) has obtained from anyone
else or which the Borrower (or any guarantor) has guaranteed in the amount of
Five Hundred Thousand Dollars ($500,000) or more in the aggregate.
7.9 OTHER BANK AGREEMENTS. The Borrower (or any guarantor) fails to meet the
conditions of, or fails to perform any obligation under any other agreement the
Borrower (or any guarantor) has with the Bank or any affiliate of the Bank and
such failure is not cured within thirty (30) days thereof.
7.10 OTHER BREACH UNDER AGREEMENT. The Borrower fails to meet the conditions
of, or fails to perform any obligation under, any term of this Agreement not
specifically referred to in this Article. If, in the Bank's opinion, the breach
is capable of being remedied, the breach will not be considered an event of
default under this Agreement for a period of thirty (30) days after the date on
which the Bank gives written notice of the breach to the Borrower; provided,
however, that the Bank will not be obligated to extend any additional credit to
the Borrower during that period.
8. ENFORCING THIS AGREEMENT; MISCELLANEOUS
8.1 GAAP. Except as otherwise stated in this Agreement, all financial
information provided to the Bank and all financial covenants will be made under
generally accepted accounting principles, consistently applied.
8.2 CALIFORNIA LAW. This Agreement is governed by California law.
8.3 SUCCESSORS AND ASSIGNS. This Agreement is binding on the Borrower's and
the Bank's successors and assignees. The Borrower agrees that it may not assign
this Agreement without the Bank's prior consent. The Bank may sell
participations in or assign this loan, and may exchange financial information
about the Borrower with actual or potential participants or assignees. If a
participation is sold or the loan is assigned, the purchaser will have the right
to set-off against the Borrower.
8.4 ARBITRATION.
(a) This paragraph concerns the resolution of any controversies or claims
between the Borrower and the Bank, including but not limited to those that arise
from:
(i) This Agreement (including any renewals, extensions or modifications
of this Agreement);
(ii) Any document, agreement or procedure related to or delivered in
connection with this Agreement;
(iii) Any violation of this Agreement; or
(iv) Any claims for damages resulting from any business conducted
between the Borrower and the Bank, including claims for injury to
persons, property or business interests (torts).
- --------------------------------------------------------------------------------
-10-
<PAGE>
(b) At the request of the Borrower or the Bank, any such controversies or
claims will be settled by arbitration in accordance with the United States
Arbitration Act. The United States Arbitration Act will apply for this
purpose even though this Agreement provides that it is governed by
California law.
(c) Arbitration proceedings will be administered by the American Arbitration
Association and will be subject to its commercial rules of arbitration.
(d) For purposes of the application of the statute of limitations, the filing
of an arbitration pursuant to this paragraph is the equivalent of the
filing of a lawsuit, and any claim or controversy which may be arbitrated
under this paragraph is subject to any applicable statute of limitations.
The arbitrators will have the authority to decide whether any such claim or
controversy is barred by the statute of limitations and, if so, to dismiss
the arbitration on that basis.
(e) If there is a dispute as to whether an issue is arbitrable, the arbitrators
will have the authority to resolve any such dispute.
(f) The decision that results from an arbitration proceeding may be submitted
to any authorized court of law to be confirmed and enforced.
(g) The procedure described above will not apply if the controversy or claim,
at the time of the proposed submission to arbitration, arises from or
relates to an obligation to the Bank secured by real property located
in California. In this case, both the Borrower and the Bank must consent to
submission of the claim or controversy to arbitration. If both parties do
not consent to arbitration, the controversy or claim will be settled as
follows:
(i) The Borrower and the Bank will designate a referee (or a panel of
referees) selected under the auspices of the American Arbitration
Association in the same manner as arbitrators are selected in
Association-sponsored proceedings;
(ii) The designated referee (or the panel of referees) will be appointed
by a court as provided in California Code of Civil Procedure Section
638 and the following related sections;
(iii) The referee (or the presiding referee of the panel) will be an
active attorney or a retired judge; and
(iv) The award that results from the decision of the referee (or the
panel) will be entered as a judgment in the court that appointed the
referee, in accordance with the provisions of California Code of
Civil Procedure Sections 644 and 645.
(h) This provision does not limit the right of the Borrower or the Bank to:
(i) exercise self-help remedies such as setoff;
(ii) foreclose against or sell any real or personal property collateral;
or
(iii) act in a court of law, before, during or after the arbitration
proceeding to obtain:
(A) an interim remedy; and/or
(B) additional or supplementary remedies.
(i) The pursuit of or a successful action for interim, additional or
supplementary remedies, or the filing of a court action, does not
constitute a waiver of the right of the Borrower or the Bank, including the
suing party, to submit the controversy or claim to arbitration if the other
party contests the lawsuit. However, if the controversy or claim arises
from or relates to an obligation to the Bank which is secured by real
property located in California at the time of the proposed submission to
arbitration, this right is limited according to the provision above
requiring the consent of both the Borrower and the Bank to seek resolution
through arbitration.
- --------------------------------------------------------------------------------
-11-
<PAGE>
(j) If the Bank forecloses against any real property securing this Agreement,
the Bank has the option to exercise the power of sale under the deed of
trust or mortgage, or to proceed by judicial foreclosure.
8.5 SEVERABILITY; WAIVERS. If any part of this Agreement is not enforceable,
the rest of the Agreement may be enforced. The Bank retains all rights, even if
it makes a loan after default. If the Bank waives a default, it may enforce a
later default. Any consent or waiver under this Agreement must be in writing.
8.6 ADMINISTRATION COSTS. The Borrower shall pay the Bank for all reasonable
out-of-pocket costs incurred by the Bank in connection with administering this
Agreement.
8.7 ATTORNEY'S FEES. The Borrower shall reimburse the Bank for any reasonable
costs and attorneys' fees incurred by the Bank in connection with the
enforcement or preservation of any rights or remedies under this Agreement and
any other documents executed in connection with this Agreement, and including
any amendment, waiver, "workout" or restructuring under this Agreement arising
prior to commencement of a lawsuit or arbitration proceeding. The prevailing
party is entitled to recover costs and reasonable attorneys' fees incurred in
connection with the lawsuit or arbitration proceeding, as determined by the
court or arbitrator. As used in this paragraph, "attorneys' fees" includes the
allocated costs of in-house counsel.
8.8 ONE AGREEMENT. This Agreement and any related security or other
agreements required by this Agreement, collectively:
(a) represent the sum of the understandings and agreements between the Bank
and the Borrower concerning this credit; and
(b) replace any prior oral or written agreements between the Bank and the
Borrower concerning this credit; and
(c) are intended by the Bank and the Borrower as the final, complete and
exclusive statement of the terms agreed to by them.
In the event of any conflict between this Agreement and any other agreements
required by this Agreement, this Agreement will prevail.
8.9 NOTICES. All notices required under this Agreement shall be personally
delivered or sent by first class mail, postage prepaid, to the addresses on the
signature page of this Agreement, or to such other addresses as the Bank and the
Borrower may specify from time to time in writing.
8.10 HEADINGS. Article and paragraph headings are for reference only and
shall not affect the interpretation or meaning of any provisions of this
Agreement.
8.11 COUNTERPARTS. This Agreement may be executed in as many counterparts as
necessary or convenient, and by the different parties on separate counterparts
each of which, when so executed, shall be deemed an original but all such
counterparts shall constitute but one and the same agreement.
- --------------------------------------------------------------------------------
-12-
<PAGE>
This Agreement is executed as of the date stated at the top of the first page.
[LOGO OF BANK OF AMERICA]
BANK OF AMERICA
NATIONAL TRUST AND SAVINGS ASSOCIATION Variflex, Inc.
x /s/David L. Hoye x /s/William B. Ogden
------------------- --------------------
By: David L. Hoye By: William B. Ogden
Title: Vice President Title: Chief Financial Officer
Address where notices to the Bank Address where notices to the Borrower
are to be sent: are to be sent:
333 S. Beaudry Avenue, 20th Floor 5152 North Commerce Avenue
Los Angeles, California 90017 Moorpark, California 93021
- --------------------------------------------------------------------------------
-13-
<PAGE>
FIRST AMENDMENT
TO
STANDARD INDUSTRIAL LEASE - NET
-------------------------------
This First Amendment to the June 8, 1992 Standard Industrial Lease - Net is
made and entered into as of March 20, 1995, by and between S&B Mortgage
Investment Company, hereinafter called "Lessor", and Variflex of California (aka
Variflex, Inc.), hereinafter called "Lessee", and is made with reference to the
following facts:
A. WHEREAS, Lessor and lessee are parties to a certain Standard Industrial
Lease - Net dated June 8, 1992, for the premises known as 5152 North Commerce
Avenue, Moorpark, California, and described as a concrete tilt-up industrial
facility comprised of approximately 104,000 square feet of M-2 zoned land; and
B. WHEREAS, Lessor and Lessee are desirous of amending said Standard
Industrial Lease - Net as hereinafter provided;
NOW, THEREFORE, the parties respectfully agree as follows:
1. Regarding Page 1, Paragraph 3.1, Term, the term of this lease shall be
----
extended for two (2) years, commencing on January 1, 1996, and ending on
December 31, 1997.
2. Regarding Page 1, Paragraph 4, Rent, the $33,280.00 which was paid to
----
Lessor by Lessee upon the execution of the Lease on or about June 8, 1992, shall
be applied towards the rent due as and for the last month of the extended term,
rather than to be applied towards the rent due for the month of December, 1995.
1.
<PAGE>
3. Regarding Page 2, Paragraph 8.3(a), Property Insurance, the
------------------
amount of the insurance to be obtained by the insuring party covering loss or
damage to the Premises shall be in the amount of $3,500,000.00, which is the
agreed-upon replacement value.
4. With respect to Page 3 of the Addendum to Standard Industrial
Lease dated June 8, 1992, Paragraph 53, Included Property Items, the following
-----------------------
language shall be deleted:
"Every effort will be made for the air compressor;
however, it is not currently owned by Lessor."
5. Except as herein mentioned, the Lease remains unmodified and in
full force and effect.
IN WITNESS WHEREOF, the parties hereto have executed this First
Amendment to Standard Industrial Lease - Net as of March 20, 1995, at Ventura
County, California.
LESSOR: LESSEE:
S&B MORTGAGE INVESTMENT COMPANY VARIFLEX OF CALIFORNIA
2541 Uranium Drive 5152 North Commerce Avenue
Oxnard, California 93030 Moorpark, California 93021
By /s/ Stanley C. Hess By /s/ William B. Ogden
-------------------------------- ---------------------------
STANLEY C. HESS, General BRAD OGDEN, Chief
Partner Financial Officer
2
<PAGE>
SECOND AMENDMENT
TO
STANDARD INDUSTRIAL LEASE - NET
-------------------------------
This Second Amendment to the June 8, 1992 Standard Industrial Lease - Net
is made and entered into as of November 18, 1996, by and between S&B Mortgage
Investment Company, hereinafter called "Lessor", and Variflex, Inc. (formerly
Variflex of California), hereinafter called "Lessee", and is made with reference
to the following facts:
A. WHEREAS, Lessor and Lessee are parties to a certain Standard Industrial
Lease - Net dated June 8, 1992, which was amended by the First Amendment dated
March 20, 1995, for the premises known as 5152 North Commerce Avenue, Moorpark,
California, and described as a concrete tilt-up industrial facility comprised of
approximately 104,000 square feet of M-2 zoned land; and
B. WHEREAS, Lessor and Rolls-Royce Motor Cars, Inc., a Delaware corporation
("Rolls-Royce"), are parties to a certain Standard Industrial/Commercial
Single-Tenant Lease - Net, dated May 21, 1991, for the premises known as 5156
North Commerce Avenue, Moorpark, California, and described as a concrete
tilt-up building of approximately 31,233 square feet of M-2 zoned land; and
C. WHEREAS, Lessee presently subleases from Rolls-Royce a substantial
portion of the property commonly known as 5156 North Commerce Avenue, Moorpark,
California, and may desire to continue to occupy said Premises either as a
subtenant of Rolls-Royce or as a tenant of Lessor for a term consistent with
Lessee's lease term pursuant to the Lease by which Lessee possesses the property
commonly known as 5152 North Commerce Avenue, Moorpark, California; and
1.
<PAGE>
D. WHEREAS, Lessor and Lessee are desirous of amending said June 8, 1992
Standard Industrial Lease - Net as hereinafter provided;
NOW, THEREFORE, the parties respectfully agree as follows:
1. Regarding Page 1, Paragraph 3.1, Term, the term of this Lease shall be
----
extended for three (3) years, commencing on January 1, 1998, and ending on
December 31, 2000.
2. Regarding Page 1, Paragraph 4, Rent, the monthly rent Lessee shall pay
----
to Lessor, in advance, during the extended term provided for in this Second
Amendment (commencing on January 1, 1998 and ending on December 31, 2000) for
the Premises known as 5152 North Commerce Avenue, Moorpark shall be $34,320.00.
3. Regarding Page 1, Paragraph 4, Rent, the $33,280.00 which was paid to
----
Lessor by Lessee upon the execution of the Lease on or about June 8, 1992, shall
be applied towards the rent due as and for the last month of the extended term,
rather than to be applied towards the rent due for the month of the extended
term, rather than to be applied towards the rent due for the month of December,
1997.
4. Regarding Page 1, Paragraph 4, Rent, the Base Rent payable during each
----
year of the extended term beginning January 1, 1999 shall be adjusted upward in
direct proportion to any increase in the Consumer Price Index as hereinafter
defined. The base figure for computing the adjusted minimum rent shall be the
last figure for the Consumer Price Index for Urban Wage Earners and Clerical
Workers, Los Angeles Metropolitan Area All Items, based on the year 1982-84 =
100, published by the United States Department of Labor Statistics (the "Index")
as of January 1, 1998 (the "Beginning Index Figure"). The figure for computing
the adjustment shall be the figure for the Index published as to each succeeding
annual anniversary of such extended rental year during the term.
2
<PAGE>
If the Index is changed at any time during the term so that the base year
differs from that used to compute the Beginning Index Figure, the Index shall be
converted in accordance with the conversion factor published by the United
States Department of Labor, Bureau of Labor Statistics. If the Index is
discontinued or revised at any time during the Term such other government index
or computation which replaces it shall be used in order to obtain substantially
the same result as would be obtained if the Index had not been discontinued or
revised. Upon any adjustment in the rent pursuant to other provisions of this
Lease, the rent as so adjusted shall become the base rent for later CPI
adjustments and the Beginning Index Figure shall be the last figure for the
Index prior to the effective date of the adjustment in the Base Rent.
5. Regarding Page 1, Paragraph 2, Premises, upon the termination of the
--------
May 21, 1991 Lease between Lessor and Rolls-Royce Motor Cars, Inc., covering
5156 North Commerce Avenue, Moorpark, Lessor shall not lease all or any part of
the Premises commonly known as 5156 North Commerce Avenue, Moorpark to any
third person without first notifying Lessee in writing that said Lease with
Rolls-Royce is terminated and that Lessor intends to relet the subject Premises
to a third party. Lessee shall have the right, within 20 days after receipt of
Lessor's notice, to advise Lessor in writing of its agreement to expand the
Premises to include not only 5152 North Commerce Avenue but also 5156 North
Commerce Avenue on all of the same Lease terms and conditions specified in the
June 8, 1992 Standard Industrial Lease - Net, as amended, by and between S&B
Mortgage Investment Company and Variflex of California, including, without
limitation, the provisions relating to the rights and obligations of the parties
with respect to alterations. So long as Lessee provides Lessor with said notice
of intent to expand the Premises to also include 5156 North Commerce Avenue,
Moorpark, then Lessor will allow such inclusion so long as the total rent
payable to Lessor by Lessee for both the original premises (5152 North Commerce
Avenue, Moorpark, California) and the expanded premises (5156 North Commerce
Avenue, Moorpark, California) will be $47,460.00 rent per month. If Lessee does
not provide Lessor with the written notice provided in this Paragraph 5 and
execute a formal lease amendment within said 20 days to expand the Premises to
include 5156 North Commerce Avenue, Moorpark, this right of first refusal shall
lapse and terminate and Lessor thereafter shall have the right to lease
3
<PAGE>
to any third party, to Rolls Royce, or to extend the existing lease covering
5156 North Commerce Avenue, Moorpark, or any part of it to a third person upon
any terms and conditions desired by Lessor. In the event Lessee exercises its
right to expand the Premises to include both 5152 and 5156 North Commerce
Avenue, as provided in this Paragraph 5, then Page 2, paragraph 1.3(a),
Property Insurance, shall be amended so that the amount of insurance to be
- ------------------
obtained by the insuring party covering loss or damages to the Premises shall be
increased from $3,500,000.00 to $5,000,000.00 for both properties, which is the
agreed upon replacement value.
6. Except as herein mentioned, the Lease remains unmodified and in full
force and effect.
IN WITNESS WHEREOF, the parties hereto have executed this Second Amendment
to Standard Industrial Lease - Net as of November 18, 1996, at Ventura County,
California.
LESSOR: LESSEE:
S&B MORTGAGE INVESTMENT COMPANY VARIFLEX, INC.
2541 Uranium Drive 5152 North Commerce Avenue
Oxnard, California 93030 Moorpark, California 93021
By /s/ Stanley C. Hess By /s/ Raymond H. Losi, II
----------------------------- ------------------------------
STANLEY C. HESS RAYMOND H. LOSI, II, President
4
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF INCOME AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JUL-31-1997
<PERIOD-START> AUG-01-1996
<PERIOD-END> JUL-31-1997
<CASH> 7,823
<SECURITIES> 0
<RECEIVABLES> 10,149
<ALLOWANCES> 549
<INVENTORY> 9,706
<CURRENT-ASSETS> 30,044
<PP&E> 6,293
<DEPRECIATION> 4,139
<TOTAL-ASSETS> 47,893
<CURRENT-LIABILITIES> 4,793
<BONDS> 0
0
0
<COMMON> 9
<OTHER-SE> 43,091
<TOTAL-LIABILITY-AND-EQUITY> 47,893
<SALES> 51,661
<TOTAL-REVENUES> 51,661
<CGS> 44,944
<TOTAL-COSTS> 44,944
<OTHER-EXPENSES> 10,599
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (799)<F1>
<INCOME-PRETAX> (3,083)
<INCOME-TAX> (1,278)
<INCOME-CONTINUING> (1,805)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,805)
<EPS-PRIMARY> (.30)
<EPS-DILUTED> (.30)
<FN>
<F1>NET INTEREST INCOME
</FN>
</TABLE>
