SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D. C. 20549
FORM 10-QSB
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
--- SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
--- TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to ______________
Commission file number 0 - 24608
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FOTOBALL USA, INC.
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(Exact name of registrant as specified in its charter)
Delaware 33 - 0614889
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
3738 Ruffin Road, San Diego, California 92123
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(Address of principal executive offices) (Zip Code)
(619) 467 - 9900
-----------------------------
(Issuer's telephone number)
Check whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past 12 months
(or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past
90 days. Yes (X) No( )
As of October 31, 1998, the Company had 2,699,242 shares of its common
stock issued and outstanding.
Transitional Small Business Disclosure Format Yes ( ) No (X)
1<PAGE>
FOTOBALL USA, INC.
INDEX
Sequential
PART I. FINANCIAL INFORMATION Page No.
----------
Item 1. Financial Statements
Condensed Balance Sheets as of December 31, 1997
and September 30, 1998 3
Condensed Statements of Operations for the three
months and nine months ended
September 30, 1997 and 1998 4
Condensed Statements of Cash Flows for the
nine months ended September 30, 1997 and 1998 5
Notes to Condensed Financial Statements 6-9
Item 2. Management's Discussion and Analysis or
Plan of Operation 10-16
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 17
SIGNATURES 18
2<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
FOTOBALL USA, INC.
CONDENSED BALANCE SHEETS
(Unaudited)
December 31, 1997 September 30, 1998
----------------- ------------------
CURRENT ASSETS ASSETS
Cash and equivalents $ 764,855 $ 21,141
Accounts receivable less
allowances of $151,000
in 1997 and $63,000 in 1998 1,402,607 2,945,997
Inventories (Note 3) 2,476,815 3,481,959
Prepaid expenses and other 148,855 169,473
Deferred income taxes 150,000 288,000
------------- -------------
TOTAL CURRENT ASSETS 4,943,132 6,906,570
------------- -------------
PROPERTY AND EQUIPMENT, net 1,217,892 1,103,766
------------- -------------
OTHER ASSETS
Deferred income taxes 301,000 -
Deposits and other 115,382 80,767
------------- -------------
TOTAL OTHER ASSETS 416,382 80,767
------------- -------------
$ 6,577,406 $ 8,091,103
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Current portion of capital leases $ 90,182 $ 96,699
Accounts payable and accrued expenses 789,388 1,484,359
Settlement liability 200,000 50,000
Revolving credit loan -- 700,000
------------- -------------
TOTAL CURRENT LIABILITIES 1,079,570 2,331,058
CAPITAL LEASES, net of current portion 229,930 177,115
------------- -------------
TOTAL LIABILITIES 1,309,500 2,508,173
------------- -------------
STOCKHOLDERS' EQUITY
Preferred stock, $.01 par value; Authorized
-1,000,000 shares; issued and outstanding-none
Common stock, $.01 par value; Authorized
- 15,000,000 shares; issued and outstanding
- 2,676,742 shares in 1997 and
2,699,242 shares in 1998 26,767 26,992
Additional paid-in capital 8,568,494 8,588,519
Accumulated deficit (3,327,355) (3,032,581)
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TOTAL STOCKHOLDERS' EQUITY 5,267,906 5,582,930
------------- -------------
$ 6,577,406 $ 8,091,103
============= =============
See accompanying notes to condensed financial statements.
3<PAGE>
<TABLE>
FOTOBALL USA, INC.
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
<CAPTION>
Three Months Ended
Nine Months Ended
September 30,
September 30,
-------------------------
- -------------------------
1997 1998
1997 1998
----------- -----------
- ----------- ------------
<S> <C> <C>
<C> <C>
SALES $ 2,625,750 $ 4,675,501
$ 9,430,585 $ 12,462,847
COST OF SALES 1,763,866 2,796,056
6,075,789 7,772,688
----------- -----------
- ----------- ------------
GROSS PROFIT 861,884 1,879,445
3,354,796 4,690,159
----------- -----------
- ----------- ------------
OPERATING EXPENSES
Royalties 237,352 417,152
563,718 919,505
Marketing 591,372 559,861
1,613,646 1,428,932
General and administrative 642,131 555,596
1,695,315 1,569,477
Depreciation and amortization 67,437 80,629
179,855 235,821
Settlement cost 210,000 -
210,000 -
----------- -----------
- ----------- ------------
TOTAL OPERATING EXPENSES 1,748,292 1,613,238
4,262,534 4,153,735
----------- -----------
- ----------- ------------
INCOME (LOSS) BEFORE OTHER
(INCOME) EXPENSE AND
INCOME TAXES (886,408) 266,207
(907,738) 536,424
----------- -----------
- ----------- ------------
OTHER (INCOME) EXPENSE
Interest expense 8,993 28,101
29,347 55,536
Interest income (25,209) (809)
(80,171) (9,088)
----------- -----------
- ----------- ------------
TOTAL OTHER INCOME (16,216) 27,292
(50,824) 46,448
----------- -----------
- ----------- ------------
INCOME (LOSS) BEFORE
INCOME TAX (870,192) 238,915
(856,914) 489,976
INCOME TAX EXPENSE (BENEFIT) (5,300) 95,200
- 195,200
----------- -----------
- ----------- ------------
NET INCOME (LOSS) $ (864,892) $ 143,715
$ (856,914) $ 294,776
=========== ===========
=========== ============
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING
BASIC 2,676,742 2,694,242
2,676,742 2,692,575
=========== ===========
=========== ============
DILUTED 2,676,742 2,823,065
2,676,742 2,772,654
=========== ===========
=========== ============
NET INCOME (LOSS) PER
COMMON SHARE
BASIC $ (.32) $ .05
$ (.32) $ .11
=========== ===========
=========== ============
DILUTED $ (.32) $ .05
$ (.32) $ .11
=========== ===========
=========== ============
See accompanying notes to condensed financial statements.
4<PAGE>
FOTOBALL USA, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
September 30,
-------------------------
1997 1998
----------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ (856,914) $ 294,776
Adjustments to reconcile net income
(loss) to net cash provided
by (used in) operating activities:
Depreciation and amortization 206,658 248,237
Amortization of stock compensation expense - 7,425
Changes in operating assets and liabilities:
Accounts receivable 5,956,546 (1,543,390)
Inventories (1,407,391) (1,005,144)
Prepaid expenses and other (29,274) (20,618)
Deferred income taxes (32,200) 163,000
Accounts payable and accrued expenses (1,054,576) 544,971
Income taxes payable (119,200) -
----------- ----------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 2,663,649 (1,310,743)
----------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment (314,139) (105,963)
Increase in long term deposits - 34,615
----------- ----------
NET CASH USED IN INVESTING ACTIVITIES (314,139) (71,348)
----------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net additions (reductions) in short-term
credit facilities (1,825,000) 700,000
Proceeds from exercise of options and warrants - 12,825
Repayment of capital lease obligations (52,642) (74,448)
----------- ----------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (1,877,642) 638,377
----------- ----------
NET INCREASE (DECREASE) IN CASH AND EQUIVALENTS 471,868 (743,714)
CASH AND EQUIVALENTS, Beginning of period 981,554 764,855
----------- ----------
CASH AND EQUIVALENTS, End of period $ 1,453,422 $ 21,141
=========== ==========
See accompanying notes to condensed financial statements.
5<PAGE>
FOTOBALL USA, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)
THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998
1. CONDENSED FINANCIAL STATEMENTS
The condensed balance sheet as of September 30, 1998, the condensed
statements of operations for the three months and nine months ended
September 30, 1997 and 1998, and the condensed statements of cash flows
for the nine months ended September 30, 1997 and 1998 have been
prepared by the Company without audit. In the opinion of management, all
adjustments (which include only normal recurring adjustments) necessary
to present fairly the financial position, results of operations and cash
flows for all periods presented have been made.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been omitted, pursuant to the rules and regulations of the
Securities and Exchange Commission. It is suggested that these condensed
financial statements be read in conjunction with the financial statements
and notes thereto included in the Company's Annual Report on Form 10-
KSB for the fiscal year ended December 31, 1997. The results of operations
for the three months and nine months ended September 30, 1998 are not
necessarily indicative of the results of operations to be expected for the
full year ending December 31, 1998.
2. DISCLOSURE OF CERTAIN SIGNIFICANT RISKS AND UNCERTAINTIES
Significant Estimates - The preparation of financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities as of the date of the financial statements and the reported
amounts of revenue and expenses during the period. Significant estimates
have been made by management with respect to the realizability of the
Company's deferred tax assets, the possible outcome of threatened litigation
and the provision for discontinued and excess inventories. Actual results
could differ from these estimates making it reasonably possible that a change
in these estimates could occur in the near term.
Dependence Upon Licensing Arrangements - The Company's business is
based primarily upon its use of the insignia, logos, names, colors, likenesses
and other identifying marks and images borne by many of its products
pursuant to license arrangements with Professional Baseball, NFL and, to
a lesser extent, Colleges. The Company's licensing arrangements expire at
various times through March 31, 2000. The following table summarizes,
in descending order of 1997 revenue contribution, the Company's
significant license agreements and their terms:
Licensor Product Term Expiration Date
-------- -------- ----- ---------------
MLBP Baseball 3 years December 31, 1999
MLBPA Baseball 1 year (2 year option) December 31, 1999
NFL Team Logo Football 2 years March 31, 2000
6<PAGE>
FOTOBALL USA, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)
THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998
(continued)
The Company believes that its relationships with these licensors are
satisfactory and anticipates that each of the license agreements will be
renewed on acceptable terms and conditions. The non-renewal or termination
of one or more of the Company's licenses, particularly with Professional
Baseball or the NFL, could have a material adverse effect on the Company's
business.
Dependence on Promotions Business - The Company's promotions business depends
primarily upon a series of one-time projects with its customers. Although the
Company has had repeat business from certain promotions customers, there can
be no assurance that the Company will be able to continue its relationships
with its promotions customers or attract new promotions customers to generate
sufficient revenues to operate profitably. During the year ended December 31,
1997, 33% of the Company's sales was derived from promotions, of which one
customer accounted for aggregate sales of $2,438,000, or 20% of total sales.
During the nine month period ended September 30, 1998, 21% of the Company's
sales were derived from sales of the Company's promotional products, with no
one customer accounting for sales greater than 10%.
Variability of Gross Margins - Historically, the Company has realized higher
gross margins on its retail sales as compared to promotional sales. In 1996,
the Company realized gross margins of 29% as a result of $14,000,000 of low
margin toy promotion sales. In 1997, the Company realized gross margins of
26% as a result of a $1,175,000 provision for discontinued and excess
inventory. Excluding this operating charge, gross margins were 36% in 1997,
which are consistent with the margins realized on the Company's sports-related
sales in 1996. The Company's gross margins fluctuate, particularly between
quarters, based in part on the concentration of promotions and retail sales
during the reporting period. The type of product sold, the size of the
promotion and extent of competition also create variability in realized gross
margins.
Variability of Operating Results; Seasonality; Dependence Upon Baseball-Related
Sales - The Company has historically experienced significant quarter-to-quarter
variability in its sales and net income. This was due in part to the
seasonality of its licensed sports product business, a reliance upon
significant promotional programs, combined with a significant concentration of
its business from baseball. The Company anticipates that the expected
increasing contribution of retail sales in future periods should mitigate
this quarter-to-quarter variability. Historically, the Company has derived a
significant amount of sales from baseball-related products, representing 35%
and 47% of the Company's sales during the years ended December 31, 1996 and
1997, respectively. As such, its sales tended to be concentrated during the
second and third quarters which coincided with the baseball season.
Baseball-related sales as a percentage of total sales decreased significantly
in 1996 due to the $14,000,000 of toy car sales realized in 1996. Excluding
the toy car sales, baseball-related sales accounted for 76% of the Company's
product sales in 1996. The Company believes that the decrease in the
7<PAGE>
FOTOBALL USA, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)
THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998
(continued)
dependence upon baseball-related sales during the past several years will
continue in the future, with the introduction of new product lines including
new vulcanized rubber sports balls. Baseball-related sales, however, are
expected to remain a significant percentage of total sales for the foreseeable
future. The second factor which significantly contributes to the variability
of the Company's operations is its dependence on promotions business as more
fully explained above.
Dependence Upon Key Personnel - The success of the Company is largely
dependent on the personal efforts of Michael Favish, its President and Chief
Executive Officer. Mr. Favish has entered into a five-year employment
agreement with the Company, commencing on August 11, 1994, which, among other
things, precludes Mr. Favish from competing with the Company for a period of
two years following termination of his employment with the Company. The loss
of the services of Mr. Favish would have a material adverse effect on the
Company's business and prospects. The Company maintains "key man" life
insurance on the life of Michael Favish in the amount of $1,000,000.
Dependence on Suppliers - In 1997, the Company purchased approximately 97% of
its raw material, consisting primarily of synthetic baseballs, footballs,
basketballs, hockey pucks and Fototires, from six companies located in China,
with one manufacturer accounting for 52% of total raw material purchased.
China currently holds most favored nation ("MFN") trading status with the
United States. Any conditions imposed by the President of the United States
and any legislation in the United States revoking or placing further
conditions on China's MFN trading status could have a material adverse effect
on the cost of all of the Company's products because products originating
from China could be subjected to substantially higher rates of duty.
3. INVENTORIES
Inventories net of reserves are valued at the lower of cost or market. Cost
is determined on the first-in first-out (FIFO) method. Inventories consist
of the following:
December 31, 1997 September 30, 1998
----------------- ------------------
Finished goods $ 808,408 $ 1,771,878
Raw material 1,668,407 1,710,081
----------- ------------
Total inventory $ 2,476,815 $ 3,481,959
=========== ============
8<PAGE>
FOTOBALL USA, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)
THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998
(continued)
4. THREATENED LITIGATION
In October 1997, Chevron U.S.A., Inc. ("Chevron") filed and subsequently
dismissed without prejudice a claim for breach of contract against the
Company arising from the 1996 toy car promotions. Discussions between the
Company and Chevron to resolve the matter are on-going. The Company vigorously
denies any wrongdoing and believes it has substantial meritorious defenses if
the matter is pursued by Chevron. While the effect, if any, on future
financial results is not subject to reasonable estimates because considerable
uncertainty exists, any unfavorable outcome could materially affect the
financial position of the Company.
9<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OR PLAN OF OPERATION
Results of Operations
</TABLE>
<TABLE>
The following table sets forth certain (unaudited) operating data (in
dollars and as a percentage of the Company's sales) for the periods presented:
<CAPTION>
Three Months Ended
Nine Months Ended
September 30,
September 30,
---------------------------------------
- -------------------------------------
1997 1998
1997 1998
------------------ -----------------
- ------------------ ------------------
<S> <C> <C> <C> <C>
<C> <C>
Sales $ 2,625,750 100% $ 4,675,501 100%
$ 9,430,585 100% $ 12,462,847 100%
Cost of Sales 1,763,866 67 2,796,056 60
6,075,789 64 7,772,688 62
Operating Expenses 1,748,292 67 1,613,238 35
4,262,534 45 4,153,735 33
Operating Income
(Loss) (886,408) (34) 266,207 6
(907,738) (10) 536,424 4
Interest Expense 8,993 1 28,101 1
29,347 1 55,536 1
Interest Income 25,209 1 809 1
80,171 1 9,088 1
Income (Loss)
Before Income Tax (870,192) (33) 238,915 5
(856,914) (9) 489,976 4
Income Tax Expense
(Benefit) (5,300) (1) 95,200 2
- - 195,200 2
Net Income (Loss) $ (864,892) (33)% $ 143,715 3%
$ (856,914) (9)% $ 294,776 2%
Three Months Ended September 30, 1997 and 1998:
Sales:
Sales were $4,676,000 for the three months ended September 30, 1998,
an increase of 78% from sales of $2,626,000 for the three months ended
September 30, 1997. For the three months ended September 30, 1998,
promotional sales were $584,000, a decrease of 17% from promotional sales of
$702,000, for the three months ended September 30, 1997. Retail sales were
10<PAGE>
$4,092,000 for the three months ended September 30, 1998, an increase of
113% from retail sales of $1,924,000 for the three months ended September 30,
1997. Sales increases were realized primarily from the Company's baseball,
football and basketball-related sales. Baseball-related sales increased by
$927,000, or 90%, due to several factors: the Company's expanding retail
distribution, significantly greater consumer interest in Major League Baseball
("MLB") and MLB licensed merchandise combined with a significant sales
contribution surrounding the breaking of Roger Maris' home run record.
Football-related sales increased by $1,004,000, or 238%, due primarily to
strong demand for the Company's new full-size line of NFL and college
footballs, combined with sales from its college rubber football product line.
Basketball-related sales increased by $182,000, or 92%, due to the new rubber
product line for colleges. The Company anticipates that given its current
sales to date and current retail and promotional sales backlog, the Company's
fourth quarter 1998 sales and earnings will be similar to the third quarter
of 1998.
Gross Profit:
Gross profit was $1,879,000 for the three months ended September 30,
1998, an increase of 118% from gross profit of $862,000 for the three months
ended September 30, 1997. Gross profit increased on an absolute basis as a
result of the 78% increase in sales. Gross margins, as a percentage of sales,
increased from 33% to 40% for the three months ended September 30, 1997 and
1998, respectively. This increase was due to a significantly greater
percentage of aggregate sales being derived from higher margin retail as
compared to generally lower promotional sales. The Company expects the fourth
quarter of 1998 gross margin percentage to be similar to the third quarter of
1998. As previously noted, the Company's gross margins fluctuate,
particularly between quarters, based on several factors including sales and
product mix (see Note 2 of the "Notes to Condensed Financial Statements").
Operating Expense:
Operating expenses were $1,613,000, or 34% of sales, for the three
months ended September 30, 1998, a decrease of 8% from operating expenses
of $1,748,000, or 67% of sales, for the three months ended September 30, 1997.
Operating expenses decreased in absolute terms in 1998 due to a settlement
charge of $210,000 recorded in the third quarter of 1997. Excluding this
charge, operating expenses increased moderately between periods due to a
significant increase in royalty expense offset by decreases in marketing and
general and administrative expenses, as further noted below.
Royalties expense was $417,000 for the three months ended September
30, 1998, an increase of 76% from royalties expense of $237,000 for the three
months ended September 30, 1997. Royalties expense as a percentage of sales
remained unchanged at 9% of sales for the three months ended September 30,
1998 and 1997, respectively, due to similar percentages of retail sales to
total aggregate sales in both periods. Royalties expense in absolute terms
increased significantly between periods due to significantly higher sales.
Retail sales typically require a royalty of 10-18% as compared to 10% for
promotional sales.
11<PAGE>
Marketing expenses were $560,000 for the three months ended
September 30, 1998, a decrease of 5% from marketing expenses of $591,000 for
the three months ended September 30, 1997. Marketing expenses as a
percentage of sales decreased to 12% of sales for the three months ended
September 30, 1998 from 23% of sales for the three months ended September
30, 1997, due to lower expenses combined with higher sales volume. Marketing
expenses decreased by $30,000 from 1997 to 1998 due to lower sales wages,
advertising and travel costs reflecting the Company's continuing efforts to
reduce its cost structure and increase productivity.
General and administrative expenses were $556,000 for the three
months ended September 30, 1998, a decrease of 14% from general and
administrative expenses of $642,000 for the three months ended September 30,
1997. This decrease is primarily the result of significantly lower legal and
professional fees offset in part by higher administrative wages and facility
costs.
Other Income (Expense):
Interest expense was $28,000 for the three months ended
September 30, 1998, an increase of 211% from interest expense of $9,000
for the three months ended September 30, 1997. The Company expects
interest expense to increase moderately in future periods reflecting the
Company's higher borrowings under its credit line facility combined with an
increase in capital leases in 1999, as more fully discussed in "Liquidity and
Capital Resources". Total capitalized equipment and machinery leases were
$274,000 at September 30, 1998, a decrease of $69,000 from total capitalized
equipment and machinery leases of $343,000 at September 30, 1997.
Interest income was insignificant for the three months ended
September 30, 1998, as compared to $25,000 for the three months ended
September 30, 1997, reflecting the significantly lower cash balances
available for investment between periods.
Nine Months Ended September 30, 1997 and 1998:
Sales:
Sales were $12,463,000 for the nine months ended September 30,
1998, an increase of 32% from sales of $9,431,000 for the nine months
ended September 30, 1997. The $3,032,000 increase in sales was due to a
$3,836,000 increase in retail sales offset in part by a $804,000 decrease in
promotion sales. For the nine months ended September 30, 1998,
promotional sales were $2,646,000, as compared to promotional sales of
$3,450,000 in 1997. The decrease in promotion sales in 1998 was due to
a multi-regional hockey promotion in 1997 which was non-recurring. The
$1,700,000 reduction in promotion sales resulting from this non-recurring
program was partially offset in 1998 by increases in baseball, football and
soccer-related promotion sales. Retail sales accounted for all of the
increase in aggregate sales during the period, and is expected to continue
to account in the future for a greater percentage of aggregate sales. Retail
sales were led by increases in baseball, football and basketball of
$1,016,000, $1,214,000 and $1,412,000, respectively.
12<PAGE>
Gross Profit:
Gross profit was $4,690,000 for the nine months ended September
30, 1998, an increase of 40% from gross profit of $3,355,000 for the nine
months ended September 30, 1997. As previously noted, gross profit
increased on an absolute basis due to increased sales. Gross margins as a
percentage of sales increased from 36% to 38% for the nine months ended
September 30, 1997 and 1998, respectively, reflecting the greater
concentration of higher margin retail sales during the period.
Operating Expenses:
Operating expenses were $4,154,000 for the nine months ended
September 30, 1998, a decrease of 3% from operating expenses of
$4,263,000 for the nine months ended September 30, 1997. Operating
expenses as a percentage of sales decreased to 33% of sales for the nine
months ended September 30, 1998 from 45% of sales for the nine months
ended September 30, 1997, as a result of the Company's fixed operating
costs being allocated over significantly higher sales volumes.
Royalties expense was $920,000 for the nine months ended
September 30, 1998, an increase of 63% from royalties expense of
$564,000 for the nine months ended September 30, 1997. The increase in
royalties expense during this period was the result of significantly higher
retail sales as compared to the corresponding period in 1997. Royalties
expense as a percentage of sales increased to 7% of sales for the nine
months ended September 30, 1998 from 6% of sales for the nine months
ended September 30, 1997. The Company anticipates that royalties expense
as a percentage of sales in the fourth quarter of 1998, as well as in 1999
should be moderately higher than the percentage realized in the third quarter
of 1998 due to expected greater sales from higher royalty-bearing products such
as the NFL full-size football and "Rugrats" branded sports ball.
Marketing expenses were $1,429,000 for the nine months ended
September 30, 1998, a decrease of 11% from marketing expenses of
$1,614,000 for the nine months ended September 30, 1997. Marketing
expenses as a percentage of sales decreased to 11% of sales for the nine
months ended September 30, 1998 from 17% of sales for the nine months
ended September 30 1997, as a result of the non-variable component of
marketing expenses, such as wages and exhibiting costs, being allocated
over substantially higher sales volumes. Marketing expenses on an absolute
basis decreased by $185,000 between periods reflecting the Company's
efforts to reduce its operating costs through the elimination of less
productive sales positions and the reduction in certain discretionary
expenses such as travel costs.
General and administrative expenses were $1,569,000 for the nine
months ended September 30, 1998, a decrease of 7% from general and
administrative expenses of $1,695,000 for the nine months ended
September 30, 1997. This decrease is a result of several factors, including
decreased legal and professional service costs offset in part by higher
facility and personnel expenses.
Other Income (Expense):
Interest expense was $56,000 for the nine months ended September
13<PAGE>
30, 1998, an increase of 93% from interest expense of $29,000 for the nine
months ended September 30, 1997. The increase of $27,000 in interest
expense reflects the increase in the amount of the Company's credit line
usage during the period.
Interest income was $9,000 for the nine months ended September
30, 1998, as compared to $80,000 for the nine months ended September 30,
1997. This decrease is due to the Company's average cash balances
available for investment being significantly lower during the nine months
ended September 30, 1998 as compared to the corresponding prior year
period, as more fully explained below.
Liquidity and Capital Resources
Liquidity and Capital Resources
The Company's net working capital increased by approximately
$713,000 from December 31, 1997 to September 30, 1998, to a net working
capital surplus of $4,576,000 at September 30, 1998 from a net working
capital surplus of $3,863,000 at December 31, 1997. Cash flow provided
by operating activities decreased by $3,975,000 from cash used in operating
activities of $1,311,000 for the nine months ended September 30, 1998, to
cash provided by operating activities of $2,664,000 for the nine months
ended September 30, 1997. The decrease in cash provided by operating
activities was principally due to significant increases in both accounts
receivable and inventory. The Company's inventories have increased
significantly during the nine months ended September 30, 1998, increasing
to $3,482,000 from $2,477,000 at December 31, 1997. This increase is due
to the increasing contribution of retail sales, which require certain minimum
inventory levels to properly service retail customer demand. Additionally,
the inventory balance at September 30, 1998 is higher in order to meet a
significant retail and promotional sales backlog which will be shipping in
the fourth quarter of 1998.
Cash and equivalents aggregated $21,000 at September 30, 1998,
a decrease of $744,000 from cash and equivalents of $765,000 at December
31, 1997. This decrease was due to the use of cash to finance increasing
sales which has resulted in a correspondingly higher accounts receivable
balance, combined with higher inventory levels to meet increasing retail
demand, as previously noted.
Accounts receivable were $2,946,000 at September 30, 1998, an
increase of $1,543,000 from accounts receivable of $1,403,000 at
December 31, 1997. This increase was due to significantly higher sales for
the quarterly period ended September 30, 1998 as compared to the quarterly
period ended December 31, 1997. Contributing also to the increase is a
moderate increase in accounts receivable days sales outstanding. This is
due to a greater amount of sales being derived from national retail accounts,
which typically have payment terms somewhat longer than the Company's
traditional terms of 30 days. Given the Company's expectation that a
greater percentage of its future sales will be derived from these national
retail customers, the Company expects a continued moderate increase in its
days sales outstanding in the near term.
At September 30, 1998, the Company has commitments for
minimum guaranteed royalties under licensing agreements totaling
$589,735 in the aggregate through 2000, of which $65,735 is due at various
times in 1998. Given the Company's expectation that it will realize
14<PAGE>
operating profits during the fourth quarter of 1998 and future periods, these
guaranteed royalties are anticipated to be funded from operations.
In December 1995, the Company entered into a one year credit
agreement with Scripps Bank. This revolving line of credit facility (the
"credit line") in the amount of $1,000,000 is collateralized by assets of the
Company and actual borrowings are limited to available collateral, as defined
in the agreement. Borrowings under the line of credit bear interest at the
bank's prime rate plus .75%. The credit line contains financial covenants
requiring the Company to maintain minimum net worth levels, minimum working
capital and debt to equity ratios. In November 1996, the credit line was
increased to $2,000,000 and was extended to April 15, 1998, with the same
terms. In February 1998, Scripps Bank renewed the credit line in the amount
of $1,500,000 expiring on October 15, 1998. The bank also waived the net
worth covenant at December 31, 1997 and reduced the working capital
requirements and modified the borrowing base formula on the new credit line.
In August 1998, the bank increased the credit line to $2,000,000 and extended
the maturity to May 15, 1999. There were $700,000 in borrowings under the
credit line at September 30, 1998. The Company is evaluating its credit
requirements for 1999 based on its sales projections for the 1999 fiscal year.
Discussions will be held with Scripps Bank in the near future regarding the
renewal and the size of the credit facility needed to meet the Company's
credit requirements. There can be no assurance that the Company will receive
an increase in the size of or modification to the terms of the credit line
which are acceptable to the Company.
Management believes that the Company's existing cash position,
credit facilities, combined with internally generated cash flows, will be
adequate to support the Company's liquidity and capital needs at least
through 1999.
The Company has prepared a plan to become Year 2000 compliant. Pursuant
to the Company's Year 2000 plan, the Company is currently evaluating its
information technology ("IT") and non-IT computerized systems to assure that
the transition to a Year 2000 compliant system will not disrupt the Company's
operations. This evaluation should be completed in the fourth quarter of
1998. The Company is currently in the process of upgrading its accounting and
manufacturing software systems. The Company expects that the new systems
should be Year 2000 compliant. Given that such upgrade is expected to be
completed in the first quarter of 1999, the Company has not prepared a
contingency plan and does not currently believe that a contingency plan is
necessary. The costs of achieving Year 2000 compliance are not expected to
have a material impact on the Company's business, operations or its financial
condition.
The Company is also evaluating the systems of its key customers
and suppliers to ensure that these companies are Year 2000 compliant. The
cost of this evaluation is expected to be nominal. In the event that its
current suppliers are either unable to certify that they will be Year 2000
compliant by early 1999 or unable to give the Company reasonable assurance
that Year 2000 issues will have no material adverse impact on their
operations, then the Company will review its alternatives with respect to
other suppliers. There can be no assurance that the Company will be able to
15<PAGE>
find suppliers that are acceptable to the Company. In the event that its key
customers are unable to certify that they will be Year 2000 compliant by early
1999, the Company will be assessing the accounts receivable collection risk of
such key customers.
Cautionary Statement Pursuant to Safe Harbor Provisions of the Private
Securities Litigation Reform Act of 1995:
This report contains "forward-looking statements" within the meaning
of the federal securities laws. These forward-looking statements include,
among others, statements concerning the Company's outlook for the fourth
quarter of 1998 and for the 1999 fiscal year, its ability to realize similar
profitability in the fourth quarter of 1998 as compared to the third quarter
of 1998, overall sales trends, gross margin trends, operating cost trends and
cost reduction strategies and their results, the Company's expectations as to
funding its capital expenditures and operations during 1999, and other
statements of expectations, beliefs, future plans and strategies, anticipated
events or trends, and similar expressions concerning matters that are not
historical facts. The forward-looking statements in this report and those
included in the Annual Report on Form 10-KSB for the fiscal year ended
December 31, 1997 are subject to risks and uncertainties that could cause
actual results to differ materially from those expressed in or implied by the
statements.
16<PAGE>
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
27 Financial Data Schedule
(b) Reports on Form 8-K for the three months ended
September 30, 1998 - None
17<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
FOTOBALL USA, INC.
-----------------------------
(Registant)
Dated: November 13, 1998 BY: /s/ Michael Favish
-----------------------------
Michael Favish
President and Chief Executive
Officer
(Duly Authorized Officer)
Dated: November 13, 1998 BY: /s/ David G. Forster
-----------------------------
David G. Forster
Executive Vice President-
Finance, Treasurer and Chief
Financial Officer
(Principal Accounting Officer)
18
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMA-
TION EXTRACTED FROM THE FINANCIAL STATEMENTS
CONTAINED IN THE FOTOBALL USA, INC. FORM 10-QSB
FOR THE PERIOD ENDED SEPTEMBER 30, 1998, AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 21,141
<SECURITIES> 0
<RECEIVABLES> 3,009,345
<ALLOWANCES> 63,349
<INVENTORY> 3,481,959
<CURRENT-ASSETS> 6,906,570
<PP&E> 2,423,507
<DEPRECIATION> 1,319,741
<TOTAL-ASSETS> 8,091,103
<CURRENT-LIABILITIES> 2,331,058
<BONDS> 0
0
0
<COMMON> 26,992
<OTHER-SE> 5,582,930
<TOTAL-LIABILITY-AND-EQUITY> 8,091,103
<SALES> 12,462,847
<TOTAL-REVENUES> 12,462,847
<CGS> 7,772,688
<TOTAL-COSTS> 4,153,735
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 55,536
<INCOME-PRETAX> 489,976
<INCOME-TAX> 195,200
<INCOME-CONTINUING> 294,776
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 294,776
<EPS-PRIMARY> .11
<EPS-DILUTED> .11
</TABLE>
