UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended August 31, 2002
Commission file number: 0-18926
INNOVO GROUP INC.
(Exact name of registrant as specified in its charter)
Delaware 11-2928178
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
5900 S. Eastern Ave., Suite 104 Commerce, CA 90040
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (323) 725-5516
Securities registered pursuant to Section 12 (b) of the Act: NONE
Securities registered pursuant to Section 12 (g) of the Act: Common Stock,
$.10 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 ___
As of October 14, 2002, there were 14,901,264 shares of the issuer's only
class of common stock outstanding.
INNOVO GROUP INC.
Quarterly Report on Form 10-Q
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Condensed Balance Sheets as of August 31, 2002
(unaudited) and December 1, 2001 3
Consolidated Condensed Statements of Operations for the three
and nine months ended August 31, 2002 and September 1, 2001,
(unaudited) 4
Consolidated Condensed Statements of Cash Flows for the nine
months ended August 31, 2002 and September 1, 2001,
(unaudited) 5
Notes to Condensed Consolidated Financial Statements
(unaudited) 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 10
Item 4. Controls and Procedures 15
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 16
Signature 17
Certifications 18
PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INNOVO GROUP INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
(000's except for share data)
8/31/02 12/01/01
------- --------
(unaudited) (audited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ -- $ 292
Accounts receivable, and due from factor net of
allowance for uncollectible accounts of $178(2002)
and $164(2001) 3,448 1,466
Inventories 4,391 2,410
Prepaid expenses & other current assets 449 180
-------- --------
TOTAL CURRENT ASSETS 8,288 4,348
-------- --------
PROPERTY, PLAN and EQUIPMENT, net 1,308 973
INTANGIBLE ASSETS, net 4,800 4,926
-------- --------
TOTAL ASSETS $ 14,396 $ 10,247
-------- --------
-------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Due to realted parties $ 3,703 $ 806
Due to factor 216 --
Current maturities of long-term debt 735 845
Accounts payable and accrued expenses 1,856 697
-------- --------
TOTAL CURRENT LIABILITIES 6,510 2,348
LONG-TERM DEBT, less current maturities 2,831 3,380
-------- --------
TOTAL CURRENT LIABILITIES 9,341 5,728
-------- --------
8% Redeemable preferred stock, $0.10 par value
195,295 shares(2002) -- --
STOCKHOLDERS' EQUITY
Common stock, $0.10 par - shares
Authorized 40,000,000
Issued and outstanding 14,901,264(2002) and
14,921,264(2001) 1,491 1,491
Additional paid-in capital 40,334 40,277
Accumulated deficit (33,547) (34,079)
Promissory note-officer (703) (703)
Treasury stock (2,511) (2,467)
Accumulated other comprehensive loss (9) --
-------- --------
TOTAL STOCKHOLDERS' EQUITY 5,055 4,519
-------- --------
TOTAL LIABILITIES and STOCKHOLDERS' EQUITY $ 14,396 $ 10,247
-------- --------
-------- --------
INNOVO GROUP INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(000's except per share data)
(unaudited)
Three Months Ended Nine Months Ended
08/31/02 09/01/01 08/31/02 09/01/01
-------- -------- -------- --------
NET SALES $ 10,148 $ 2,625 $ 20,219 $ 5,747
COST OF GOODS SOLD 6,791 1,674 13,604 3,551
-------- -------- -------- --------
Gross profit 3,357 951 6,615 2,196
OPERATING EXPENSES
Selling, general and administrative 2,299 947 5,519 2,142
Depreciation and amortization 50 16 142 38
-------- -------- -------- --------
2,349 963 5,661 2,180
INCOME (LOSS) FROM OPERATIONS 1,008 (12) 954 16
INTEREST EXPENSE (164) (25) (382) (161)
OTHER INCOME (EXPENSE), net 88 21 107 70
-------- -------- -------- --------
INCOME(LOSS) BEFORE INCOME TAXES 932 (16) 679 (75)
INCOME TAXES 112 -- 148 --
-------- -------- -------- --------
NET INCOME (LOSS) $ 820 $ (16) $ 531 $ (75)
-------- -------- -------- --------
-------- -------- -------- --------
NET INCOME (LOSS) PER SHARE:
Basic 0.06 (0.00) 0.04 (0.01)
Diluted 0.05 (0.00) 0.03 (0.01)
WEIGHTED AVERAGE SHARES OUTSTANDING
Basic 14,854 14,283 14,858 14,126
Diluted 15,630 14,283 15,274 14,126
See accompanying notes to unaudtied consolidated condensed financial statements
INNOVO GROUP INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(000's except per share data)
(unaudited)
Nine Months Ended
08/31/02 09/01/01
-------- --------
CASH FLOWS PROVIDED BY OPERATING $ 582 $ (686)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from Sale of Held For Sale Assets -- 1,081
Capital Expenditures (387) (22)
-------- --------
Cash Used in Investing Activities (387) 1,059
CASH FLOWS FROM FINANCING ACTIVITIES
Treasury Stock Acquisitions (44) (3)
Borrowings from CIT 216 --
Repayments of Long-Term Debt (659) (1,139)
Other -- (34)
-------- --------
Cash Used in Financing Activities (487) (1,176)
NET CHANGE IN CASH AND CASH EQUIVALENTS (292) (803)
CASH AND CASH EQUIVALENTS, at beginning of period 292 1,179
-------- --------
CASH AND CASH EQUIVALENTS, at end of period $ -- $ 376
-------- --------
-------- --------
See accompanying notes to consolidated condensed financial statements
INNOVO GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1-BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the three- and nine-month periods ended August 31, 2002
are not necessarily indicative of the results that may be expected for the year
ended November 30, 2002.
The balance sheet at December 1, 2001 has been derived from the audited
financial statements at that date but does not include all Of the information
and footnotes required by generally accepted accounting principles for
complete financial statements.
For further information, refer to the consolidated financial statements
and footnotes thereto included in the Innovo Group Inc. and Subsidiaries'
annual report on Form 10-K for the year ended December 1, 2001.
NOTE 2 - INVENTORY
A summary of our inventory follows:
Inventories are stated at the lower of cost, as determined by the first-in,
first-out method, or market.
August 31, December 1,
2002 2001
---------- -----------
(000's) (000's)
Finished goods $ 4,522 $ 2,535
Less allowance for obsolescence and
slow moving inventory (131) (125)
--------- ----------
$ 4,391 $ 2,410
--------- ----------
--------- ----------
NOTE 3 - LONG-TERM DEBT
A summary of our long-term debt follows
Long-term debt consisted of the following:
August 31, December 1,
2002 2001
---------- -----------
(000's) (000's)
First mortgage loan $ 576 $ 625
Promissory note to Azteca
(related party) 831 1,000
Promissory note to Azteca
(related party) 2,159 2,600
---------- -----------
Total long-term debt 3,566 4,225
Less: Current portion (735) (845)
---------- -----------
$ 2,831 $ 3,380
---------- -----------
---------- -----------
NOTE 4 - SHORT-TERM DEBT
On August 20, 2002, CIT Commercial Services extended the Company, through its
wholly-owned subsidiaries, Joe's Jeans, Inc. and Innovo, Inc, a line of credit
secured by the inventory of these subsidiaries. The inventory security
agreement provides that each subsidiary may borrow up to an amount equal to 50%
of such subsidiary's eligible inventory with a maximum borrowing cap of
$400,000 for each subsidiary. The credit lines carry a per annum interest rate
equal to the greater of 6.50% or 0.75% over the prime rate.
NOTE 5 - INVESTMENTS
On April 5, 2002, the Company through a newly formed real estate subsidiary
Innovo Realty, Inc. ("IRI"), closed on a transaction pursuant to which IRI
purchased limited partner interests in 22 limited partnerships. Subsequently,
the limited partnerships purchased 28 apartment buildings consisting of
approximately 4,000 apartment units ("Properties") located nationwide. The
Company believes that the investment will increase the Company's cash flow and
do so with a minimal amount of risk.
The Company issued 195,295 shares of cumulative, non-convertible preferred
stock with an 8% coupon ("Preferred Shares"), valued at $100 per share for
transactional purposes, to IRI which in turn contributed the Preferred Shares
to the limited partnerships. Subsequently, the limited partnerships
transferred the Preferred Shares to the sellers as part of the purchase price
for the Properties. The value of the Preferred Shares represented approximately
20% of the $98,079,000 purchase price paid to the sellers for the Properties by
the limited partnerships. The remaining purchase price was funded through third
party investors and third party financing which included the principals of
Commerce Investment Group and Joseph Mizrahi, both affiliated parties of the
Company. None of the Company's Board Members or executives participated in the
transaction.
The Preferred Shares 8% coupon is funded entirely and solely through
partnership distributions from cash flows generated by the operation and sale
of the Properties. In the event the cash flows from the Properties are
insufficient to cover the 8% coupon, the Company will have no obligation to
cover any shortcomings.
The Company is required to redeem the preferred shares from partnership
distributions. The Company is to receive partnership distributions that are in
excess of current and accrued 8% coupon dividends and the excess partnership
distributions will be used by the Company to redeem the Preferred Shares.
In addition, IRI shall be entitled to receive fees equal to 1% of the gross
annual revenues from the Properties, plus an additional 1% to the extent that
there is excess cash flow (i.e., cash remaining after payment of debt service,
all other amounts due in connection with the mortgage land and all property
expenses then due and payable, including, the 1% of gross annual revenues the
Company is to receive). These fees are to be paid quarterly and there is no
requirement that they be used toward the payment of the 8% coupon or the
redemption of preferred shares. In addition, IRI will be entitled to 30% of
the excess cash flow generated by the operation and sale of the Properties
after complete redemption of the preferred shares and the payment of lien
holders and preferred distributions and returns to investors and others.
The Company has not given accounting recognition to the value of its
investment in the real estate partnerships, as the Company is obligated to pay
the 8% coupon and redeem $19.5 million of Preferred Shares from the cash flow
from the partnerships, prior to the Company being able to recover the
underlying value of its investment. Additionally, the Company has determined
that the Preferred Shares will not be accounted for as a component of equity as
the shares are redeemable outside of the Company's control. No value has been
ascribed to the value of the Preferred Shares as the Company is obligated to
pay the 8% coupon or redeem the shares only if the Company receives cash flow
from the partnerships adequate to make the payments. The Company has included
the quarterly management fee in other income using the accrual basis of
accounting.
NOTE 6 - ACQUISITIONS
On August 24, 2001, Innovo Group Inc. through a newly formed wholly-owned
subsidiary Innovo Azteca Apparel Inc. ("IAA") completed the first phase of a
two phase acquisition ("Knit Acquisition") of Azteca Production International,
Inc.'s ("Azteca") knit apparel division ("Knit Division"). Azteca is an
affiliate of Commerce Investment Group, a significant shareholder of the
Company's common stock. Pursuant to the terms of the first phase closing, the
Company purchased the Knit Division's customer list, the right to manufacture
and market all of the Knit Division's current products and entered into certain
non-compete and non-solicitation agreements and other intangible assets
associated with the Knit Division ("Phase I Assets"). As consideration for the
Phase I Assets, the Company issued 700,000 shares of the Company's common stock
valued at $1.27 per share based upon the closing price of the common stock on
August 24, 2001, and two promissory notes for $1.0 million and $2.6 million,
respectively to Azteca.
The second phase of the Acquisition required the Company to purchase Knit
Division's inventory prior to November 30, 2001, for cash consideration not to
exceed $3 million. The acquisition of the inventory was subject to the Company
obtaining adequate financing. The Company did not complete the second phase of
the Knit Acquisition.
The Knit Acquisition was accounted for under the purchase method of
accounting for business combinations pursuant to FAS 141. Accordingly, the
accompanying consolidated financial statements include the results of
operations and other information for the Knit Division for the period
commencing August 24, 2001.
In the event that the sales of the Knit Division do not reach $10.0 million
during the 18 month period following the closing of the transaction, any
remaining unpaid principal balance of the $1.0 million promissory note shall be
reduced by an amount equal to the sum of $1.5 million less 10% of the net sales
of the Knit Division during the 18 month period.
The purchase price of $4,521,000, including acquisition costs of $36,000,
have been allocated to the non-compete agreement ($250,000) and the remainder
to goodwill ($4,271,000). The non-compete agreement is being amortized over two
years, based upon the term of the agreement. The total amount of the goodwill
is expected to be deductible for income tax purposes.
The following table shows the Company's unaudited pro forma consolidated
results of operations for the three and nine month periods ended September 1,
2001, respectively assuming the Knit Acquisition had occurred at the beginning
of the year (in thousands):
Unaudited Pro Forma
Three Months Nine Months Ended
Ended September 1, 2001 September 1, 2001
----------------------- -----------------
Net Sales $ 3,895 $ 12,960
Net (loss) income $ (183) $ 99
Net (loss) income per share:
Basic and diluted $ (0.01) $ 0.01
The pro forma operating results do not reflect any anticipated operating
efficiencies or synergies and are not necessarily indicative of the actual
results which might have occurred had the operations and management of the
companies been combined during the two fiscal periods.
NOTE 7. EARNINGS PER SHARE
A reconciliation of the numerator and denominator of basic earnings per share
and diluted earnings per share is as follows:
Three Months Ended Nine Months Ended
8/31/2002 9/1/2001 8/31/2002 9/1/2001
--------- -------- --------- --------
Basic EPS Computation
Numerator 820,000 (16,000) 531,000 (75,000)
Denominator:
Weighted average common
shares outstanding 14,854,000 14,283,000 14,858,000 14,126,000
---------- ---------- ---------- ----------
Total Shares 14,854,000 14,283,000 14,858,000 14,126,000
---------- ---------- ---------- ----------
Basic EPS 0.06 (0.00) 0.04 (0.01)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Diluted EPS Computation:
Numerator 820,000 (16,000) 531,000 (75,000)
Denominator:
Weighted average common
shares outstanding 14,854,000 14,283,000 14,858,000 14,126,000
Incremental shares from
assumed exercise of options
and warrants 776,000 -- 416,000 --
---------- ---------- ---------- ----------
Total shares 15,630,000 14,283,000 15,274,000 14,126,000
---------- ----------- ---------- ----------
Diluted EPS 0.05 (0.00) 0.03 (0.01)
---------- ----------- ---------- ----------
---------- ----------- ---------- ----------
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Forward-Looking Statements
When used in this Quarterly Report on Form 10-Q, the words "may," "will,"
"except," "anticipate," "intend," "estimate," "continue," "believe" and
similar expressions are intended to identify forward-looking statements.
Similarly, statements that describe our future expectations, objectives and
goals or contain projections of our future results of operations or financial
condition are also forward-looking statements. Statements looking forward in
time are included in this Quarterly Report on Form 10-Q pursuant to the "safe
harbor" provision of the Private Securities Litigation Reform Act of 1995.
Such statements are subject to certain risks and uncertainties, which could
cause actual results to differ materially, including, without limitation,
continued acceptance of the Company's product, product demand, competition,
capital adequacy and the potential inability to raise additional capital if
required, and the risk factors contained in the Company's reports filed with
the Securities and Exchange Commission pursuant to the Securities Exchange Act
of 1934, as amended, including its Annual Report on Form 10-K for the year
ended December 1, 2001. Readers are cautioned not to place undue reliance on
these forward-looking statements, which speak only as of the date hereof. Our
future results, performance or achievements could differ materially from those
expressed or implied in these forward-looking statements. The Company
undertakes no obligation to publicly revise these forward-looking statements
to reflect events or circumstances occurring after the date hereof or to
reflect the occurrence of unanticipated events.
Results of Operations
The following table sets forth, for the periods indicated, certain items in
the Company's consolidated statements of income as a percentage of sales:
Three Months Nine Months Ended
08/31/02 09/01/01 08/31/02 09/01/01
-------- -------- -------- --------
NET SALES 100.0% 100.0% 100.0% 100.0%
COST OF GOODS SOLD 66.9% 63.8% 67.3% 61.8%
-------- -------- -------- --------
Gross profit 33.1% 36.2% 32.7% 38.2%
OPERTING EXPENSES
Selling, general and admisitrative 22.6% 36.1% 27.4% 37.3%
Deprecitation and amortization 0.5% 0.6% 0.7% 0.7%
-------- -------- -------- --------
23.1% 36.7% 28.1% 37.9%
INCOME (LOSS) FROM OPERATIONS 9.9% (0.5%) 4.6% 0.3%
INTEREST EXPENSE (1.6%) (1.0%) (1.9%) (2.8%)
OTHER INCOME (EXPENSE), net 0.9% 0.8% 0.5% 1.2%
-------- -------- -------- --------
INCOME (LOSS) BEFORE INCOME TAXES 9.2% (0.6%) 3.2% (1.3%)
INCOME TAXES 1.1% 0.0% 0.7% 0.0%
-------- -------- -------- ---------
NET INCOME (LOSS) 8.1% (0.6%) 2.5% (1.3%)
-------- -------- -------- ---------
-------- -------- -------- ---------
Comparison of the Three Months Ended August 31, 2002 to the Three Months Ended
September 1, 2001
Net Sales for the quarter ended August 31, 2002 increased 287% from
$2,625,000 in 2001 to $10,148,000 in 2002. The increase is attributable to
continued increase in revenues from the Company's three main operating
subsidiaries, Innovo, Inc. ("Innovo"), Joe's Jeans, Inc. ("Joe's") and Innovo
Azteca Apparel, Inc. ("IAA"). Innovo's increase is a result of the Company's
ability to continue to expand its customer base for its branded product lines,
a continued increase in demand for its craft products and Innovo's success
with its growing private label business. This resulted in Innovo experiencing
a 136% increase in revenues for the period compared to the same period in
2001. Demand for Joe's products continued to be strong during the period with
growing demand for Joe's products in the international market resulting in a
552% increase compared to the prior period. IAA, which was created in the
third quarter of 2001 to market general apparel products, continued to expand
its business through growth with existing and new customers with sales for the
quarter ended August 31, 2002 of $2,743,000.
For the third quarter of fiscal 2002, the Company's gross margin percentage
decreased 3.2 percentage points from 36.3% in 2001 to 33.1% in 2002. The
decrease in gross margin is a result of an increase in incoming freight
expense as more of the Company's products are purchased from overseas
suppliers coupled with the fact the Company's revenues for the 2002 period
include those of IAA which, as a result of the private label products
distributed by IAA, traditionally has a lower gross margin than the Company's
other divisions.
Selling, general and administrative expenses increased $1,352,000 or 143%
for the same period as a result of the financial requirements to support the
Company's continued growth and development. The Company's growth has resulted
in the Company increasing its expenditures in such categories including, but
not limited to, royalties, freight, travel, wages, product development costs,
professional and legal fees, commissions and distribution costs. The Company
also has expanded its international operations and corresponding SG&A expenses
and currently has operations in Hong Kong and Tokyo through subsidiaries of
Innovo and Joe's, Innovo Hong Kong, Ltd. and Joe's Jeans Japan, Inc.
respectively. The increase in SG&A expense also reflects the cost associated
with the operations of the Company's parent publicly traded company Innovo
Group Inc.
Depreciation and amortization expenses increased $34,000 to $50,000 in the
2002 three month period compared to the same period in the prior year
primarily as a result of the deprecation associated with assets purchased
pursuant to the Knit Acquisition in August 2001 and the depreciation of the
Company's former manufacturing facility in Springfield, TN which in the
comparative period was held as an asset for sale.
Interest expense for the three months ended August 31, 2002 increased to
$164,000 from $25,000 in the comparative prior period. The increase is
associated with the two promissory notes entered into for the acquisition of
the knit division from Azteca in August 2001 and an increase in the interest
expense associated with increased funding from the Company's factor to support
additional working capital needs resulting from the Company's increased
revenues.
Other income for the three months ended August 31, 2002 increased to $88,000
in 2002 from $21,000 in the comparative prio r period. The increase is
attributable to management fee income generated from the Company's investment
in April 2002 in the Limited Partnerships. Other income was negatively
effected during the period from a decrease in rents from the Company's
Springfield, TN facility as a result of necessary renovations on the property
during the period.
Comparison of the Nine Months Ended August 31, 2002 to the Nine Months Ended
September 1, 2001
For the first nine months of 2002, net sales increased 251% to $20,219,000
from $5,747,000 in the same period of 2001. The increase is a result of a
substantial increase in the Company's Innovo accessory division and Joe's
specialty apparel division, coupled with the impact of the Company's general
apparel division IAA which was formed in the third quarter of 2001 and thus
not included in the 2001 third quarter results.
The Company's gross profit margin, for the nine months ended August 31,
2002, decreased to 32.7% from 38.2% in the comparative period of 2001. The
decrease is attributable to an increase in freight expense incurred to meet
the growing demand for the Company's products purchased from overseas
suppliers and an increase in distribution expenses as a result of the
packaging requirements of the product mix sold which also accounted for a
material portion of the increase in revenues for the period. Furthermore, the
gross margin decrease reflects the fact that the Company's IAA subsidiary
revenues are currently a product of sales to private label customers which
traditionally have a lower gross margin associated with them.
Selling, general and administrative costs increased to $5,519,000 from
$2,142,000, or 159%, as a result including, but not limited to, increased
marketing and product development expense, increased commissions and royalties
associated with the increased revenue, an increase in payroll expense
necessary to support the Company's growth domestically and internationally,
sales shows and professional and legal fees.
Depreciation and amortization expense increased to $142,000 from $38,000 for
the nine month period in 2002 compared to the same period of 2001. The
increase is largely a result of the amortization expense associated with the
Knit Acquisition and the formation of IAA.
Interest expense for the period increased to $382,000 from $161,000 for the
similar period in 2001 primarily as a result of the [two] promissory notes
associated with the Knit Acquistion which resulted in the creation of IAA.
Additionally, the Company's interest expense increased as a result of an
increase in the number of receivables factored during the period and the
interest expenses derived from the asset based line of credit put in place
during the third quarter of 2002 to meet the Company's increasing cash flow
needs.
Other income increased to $107,000 during the fist nine months of 2002
compared to an income of $70,000 during the same period in 2001. The increase
is attributable to management income generated from the Company's investment
in April 2002 in real estate partnerships. Other income, comparatively, was
negatively effected during the period from a decrease in rents from the
Company's Springfield, TN facility as a result of necessary renovations on the
property during the period.
Liquidity and Capital Resources
Innovo Group is a holding company and its principal assets are the common
stock of its operating subsidiaries. As a result, to satisfy its obligations
the Innovo Group is dependent on cash obtained from its operating
subsidiaries, either as loans, repayments of loans made by a subsidiary to
the Innovo Group, or distributions, or on the proceeds from the issuance of
debt or equity securities by the Company. The subsidiaries primary sources of
liquidity are cash flows from operations, including credit fro m vendors,
factored receivables, borrowings from the factorer, under the asset based
line of credit and certain related parties.
Cash flows from operating activities provided cash of $582,000 for the nine
months ended August 31, 2002. The positive cash flow is a result of a net
income of $531,000 as well as an increase in cash flow generated from a
greater amount of receivables factored, borrowing against the Company's
inventory based line of credit and amounts borrowed from certain related
parties.
For the third quarter of fiscal 2002, the Company relied primarily on trade
credit with vendors and related parties and cash on hand to fund
operations. The Company's principal credit facility for working capital
has historically been its accounts receivable factoring arrangements.
The Company sells a significant portion of its accounts receivable to a
commercial factor so that the factor assumes the credit risk for these
accounts and effects the collection of the receivables. The Company's
subsidiaries' Joe's, Innovo, and IAA have factoring agreements with CIT
Group, Inc. ("CIT"). According to the terms of the factoring agreements,
these subsidiaries have the option to factor their accounts receivables with
CIT on a non-recourse basis.
The agreements call for a 0.8% factoring fee on invoices factored with CIT
and a per annum rate equal to the prime rate plus 0.25% on funds borrowed
against the factored receivables. Each of these subsidiaries has the right to
borrow up to 85% of the face amount of each account sold to CIT. During the
third quarter of 2002, the Company continued to increase the number of
invoices it presented for factoring due to the need to fund the continued
growth experienced during the period and the projected growth anticipated in
future periods.
On August 20, 2002, each of Innovo and Joe's amended its financing
agreement with CIT whereas the Company now has an asset based line of credit
secured by the subsidiaries inventory. The current terms of the agreement
allows each subsidiary to borrow an amount equal to 50% of the value of the
subsidiary's eligible inventory up to $400,000 for each subsidiary at a per
annum rate equal to the greater of 6.5% or 0.75% over the prime rate.
As of August 31, 2002, the Company was in compliance with financial and
other covenants included in the Company's borrowing agreements and promissory
notes. These obligations arise from the Company's promissory note securing
the Company's financial obligation for the Company's Springfield, TN property
and promissory notes issued pursuant to the Knit Acquisition. The balances of
the notes related to the Knit Acquisition and the Springfield, TN property
were $2,990,000 and $576,000, respectively.
As of August 31, 2002, the Company had Related Party borrowings of
$3,703,000, which were comprised of $3,633,000 to Commerce Investment Group
(CIG) and $70,000 to JD Design. The CIG borrowings were used primarily to
fund inventory purchases and to accrue for amounts owed for distribution
services and operations.
The Company's operating leases include the Company's Innovo accessory
showroom in New York City and the Company's offices and storage space located
in Knoxville, TN. On May 1, 2002 the Company signed a 5 year lease agreement,
with a rental rate of $5,307, for the Company's showroom in New York. The
Company's triple net office lease in Knoxville, which was entered into on
October 3, 2000 has a 10-year term and a rate of $3,500 per month with a six
month cancellation provision. Additionally, the Company rents storage space
in Knoxville for $420 per month, on a month-to-month basis. The Company's
Chairman is the principal of the Company's from which the Company rents
office and storage facilities in Knoxville. The Company's Joe's Jeans Japan
subsidiary has entered into a lease for office and showroom space in Tokyo.
The terms of the lease call for a monthly rental rate of approximately $1,800
with the Company having the right to terminate the lease with three months
notice.
Following is a summary of the Company's contractual obligations as of
August 31, 2002:
Less than 1
Contractual Obligations Total year 1-3 years 4-5 years After 5 years
- ----------------------- ----- ------ --------- --------- -------------
Long-term Debt $3,566,427 $ 186,344 $2,454,098 $ 844,228 $ 81,757
License Royalty Guarantees $1,125,000 $ 43,667 $ 381,333 $ 700,000 $ --
Operating Leases $ 610,550 $ 21,791 $ 349,141 $ 120,618 $ 119,000
---------- --------- ---------- --------- ----------
Total Contractual Cash Obligations $5,301,977 $ 251,802 $3,184,572 $1,664,846 $ 200,757
---------- --------- ---------- ---------- ----------
---------- --------- ---------- ---------- ----------
Pursuant to the acquisition of the Limited Partnerships completed on April 5,
2002, the Company issued 195,295 shares of cumulative, non-convertible,
redeemable preferred stock with a transactional value of $100 per share with an
8% coupon. The Preferred Shares 8% coupon is funded entirely and solely through
partnership distributions from cash flows generated by the operation and sale
of the Properties. In the event the cash flows from the Properties are
insufficient to cover the 8% coupon, the Company will have no obligation to
cover any shortcomings.
The Company is required to redeem the preferred shares from partnership
distributions. The Company is to receive partnership distributions that are in
excess of current and accrued 8% coupon dividends and the excess partnership
distributions will be used by the Company to redeem the Preferred Shares.
The Company believes that its current cash on hand and cash received pursuant
to factored receivables under the factoring and asset based line of credit
arrangements with CIT should provide sufficient working capital to fund
operations and required debt reductions during fiscal 2002. However, due to
the seasonality of the Company's business and negative cash flow during the
first three months of the year, the Company may be required to obtain
additional capital through debt or equity financing. The Company believes that
any additional capital, to the extent needed, could be obtained from the sale
of equity securities or short-term working capital loans. There can be no
assurance that this or other financing will be available if needed. The
inability of the Company to be able to fulfill any interim working capital
requirements would force the Company to constrict its operations.
Licenses
In the third quarter of 2002, the Company's IAA subsidiary entered into an
exclusive world wide licensing agreement with Bravado International Group and
LBW Entertainment, Inc. for the license of the "Lil Bow Wow" trademark for the
use with the production and distribution of apparel and coordinating accessory
products for boys and girls. The licensing rights are for a period of 42 months
from the signing date of August 30, 2002. The Company is required to pay a
$75,000 royalty guarantee to be credited against future sales. Additionally,
the licensing agreement can be canceled by either party in the event gross
sales for the products bearing the Lil Bow Wow logo do not exceed $500,000
during the first and second 12 month periods of the agreement.
On August 6, 2002, the Company's IAA subsidiary entered into a five year
licensing agreement with Mattel, Inc. for the licensing rights to the Hot
Wheels brand for apparel and accessory products in the junior and contemporary
markets for both men and women in Canada, United States of America and Puerto
Rico. According to the terms of the agreement, the Company is required to pay
royalty guarantees totaling $1,050,000 during the term of the agreement,
however, the Company may terminate the agreement if the Company does not reach
the minimum guarantees during any given year and the Company pays that years
royalty shortfall and the following years minimum guarantee. Furthermore, the
minimum guarantees for any one period and country may be credited towards the
shortfall, if any, and only up to the shortfall amount of the minimum
guarantees due in any subsequent period during the term of the agreement.
Stock Purchase Agreement
Pursuant to the 1997 Stock Purchase Right Award awarded to her in February
1997, Ms. Anderson purchased 250,000 shares of the Company's common stock (the
"1997 Award Shares") with payment made by the execution of a non-recourse,
non-interest bearing note (the "Note") to the Company for the exercise price
of $2.8125 per share ($703,125 in the aggregate). The Note which was due on
April 30, 2002, was collateralized by the 1997 Award Shares. Additional terms
of the Note allowed Ms. Anderson to pay or prepay (without penalty) all or any
part of the Note by (i) the payment of cash, or (ii) the delivery to the
Company of other shares of common stock (other than the 1997 Award Shares)
that Ms. Anderson has owned for a period of at least six months, which shares
would be credited against the Note on the basis of the closing bid price for
the common stock on the date of delivery. Ms. Anderson did not repay the
Note on April 30, 2002. On July 18, 2002, the Company granted Ms. Anderson a
three year extension on the note with the original terms remaining the same.
Seasonality
The Company's business is seasonal. The majority of the marketing and sales
activities take place from late fall to early spring. The greatest volume of
shipments and sales are generally made from late spring through the summer,
which coincides with the Company's second and third fiscal quarters and the
Company's cash flow is strongest in its third and fourth fiscal quarters. Due
to the seasonality of the business, the third quarter results are not
necessarily indicative of the results for the fourth quarter.
Management's Discussion of Critical Accounting Policies
Management believes that the accounting policies discussed below are
important to an understanding of our financial statements because they require
management to exercise judgment and estimate the effects of uncertain matters
in the preparation and reporting of financial results. Accordingly, management
cautions that these policies and the judgments and estimates they involve are
subject to revision and adjustment in the future. While they involve less
judgment, management believes that the other accounting policies discussed in
Note 1 "Summary of Significant Accounting Policies" of the Consolidated
Financial Statements (unaudited) included elsewhere in this Form 10-Q, and
Note 2 "Summary of Significant Accounting Polices" of the Consolidated
Financial Statements included in our Annual Report on Form 10-K for the year
ended December 1, 2001 are also important to an understanding of our financial
statements.
The Company determines its allowance for doubtful accounts using a number of
factors including historical collection experience, the financial prospects of
specific customers and market sectors, and general economic conditions.
Generally, the Company establishes an allowance for doubtful accounts based on
our collection experience when measured by the amount of time an account
receivable is past its payment due date. In certain circumstances where the
Company believes an account is unable to meet its financial obligations, the
Company records a specific allowance for doubtful accounts to reduce the
account receivable to the amount the Company believes will be collected.
The Company evaluates its long-lived assets for impairment based on
accounting pronouncements that require management to assess fair value of
these assets by estimating the future cash flows that will be generated by the
assets and then selecting an appropriate discount rate to determine the
present value of these future cash flows. An evaluation for impairment must be
conducted when circumstances indicate that an impairment may exist; but not
less frequently than on an annual basis. The determination of impairment is
subjective and based on facts and circumstances specific to the company and
the relevant long-lived asset. Factors indicating an impairment condition
exists may include permanent declines in cash flows, continued decreases in
utilization of a long-lived asset or a change in business strategy. We adopted
Financial Accounting Standards (SFAS) No. 142 "Goodwill and Other Intangible
Assets," beginning with the first quarter of 2002. SFAS No. 142 requires that
goodwill and intangible assets that have indefinite useful lives not be
amortized but, instead, tested at least annually for impairment while
intangible assets that have finite useful lives continue to be amortized over
their respective useful lives. SFAS No. 142 requires that goodwill be tested
for impairment using a two-step process. The first step is to determine the
fair value of the reporting unit, which may be calculated using a discounted
cash flow methodology, and compare this value to its carrying value. If the
fair value exceeds the carrying value, no further work is required and no
impairment loss would be recognized. The second step is an allocation of the
fair value of the reporting unit to all of the reporting unit's assets and
liabilities under a hypothetical purchase price allocation.
The Company believes that its other long-lived assets are currently being
carried on the Company's books at their fair value. However, as a result of
the recent decrease in rental revenue from the Company's Springfield facility
the Company will be monitoring the fair value of the facility in accordance
with SFAS No. 144.
The Company has entered into agreements and transaction with related parties
and the Company has adopted a policy requiring that any material transactions
between the Company and persons or entities affiliated with officers,
Directors or principal stockholders of the Company be on terms no less
favorable to the Company than reasonably could have been obtained in arms'
length transactions with independent third parties.
We continually evaluate the composition of our inventories, assessing slow-
turning, ongoing product as well as product from prior seasons. Market value
of distressed inventory is valued based on historical sales trends of our
individual product lines, the impact of market trends and economic
conditions, and the value of current orders relating to the future sales of
this type of inventory.
ITEM 4. CONTROLS AND PROCEDURES
Within 90 days prior to the date of this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the chief executive officer and acting chief financial
office (who is the same person), of the effectiveness of the design and
operation of the Company's disclosure controls and procedures pursuant to
Exchange Act Rule 13a-14. Based on that evaluation, the Company's management,
including the chief executive officer and acting chief financial officer,
concluded that the Company's disclosure controls and procedures are effective.
There were no significant changes in the Company's internal controls or other
factors that could significantly affect these internal controls subsequent to
the date of their evaluation.
PART II: OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits. The following exhibit is filed herewith.
Exhibit No. Description
99.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
On July 26, 2002, the Company filed a Current Report on Form 8-K reporting
the election of Samuel Joseph Furrow, Jr. as the Company's Chief Executive
Officer and the relocation of the Company's headquarters to Los Angeles, CA.
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.
INNOVO GROUP INC.
Dated: October 15, 2002 By: /s/ Samuel Joseph Furrow, Jr.
---------------- ------------------------------
Samuel Joseph Furrow, Jr.,
Chief Executive Officer and
acting Chief Financial Officer
(Principal Accounting Officer)
CERTIFICATION BY SAMUEL JOSEPH FURROW, JR. AS CHIEF EXECUTIVE OFFICER
I, Samuel Joseph Furrow, Jr. certify that:
1. I have reviewed this quarterly report on Form 10-Q of Innovo Group Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant deficiencies
and material weaknesses.
Date: October 15, 2002 /s/ Samuel Joseph Furrow, Jr.
---------------- -----------------------------
Samuel Joseph Furrow, Jr.
Chief Executive Officer
CERTIFICATION BY SAMUEL JOSEPH FURROW, JR. AS ACTING CHIEF FINANCIAL
OFFICER (PRINCIPAL ACCOUNTING OFFICER)
I, Samuel Joseph Furrow, Jr. certify that:
1. I have reviewed this quarterly report on Form 10-Q of Innovo Group
Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made,in light of the circumstances under
which such statements were made,not misleading with respect to the period
covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons performing
the equivalent
function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant deficiencies
and material weaknesses.
Date: October 15, 2002 /s/ Samuel Joseph Furrow, Jr.
---------------- -----------------------------
Samuel Joseph Furrow, Jr.
Acting Chief Financial Officer
(Principal Accounting Officer)
Exhibit Index
Exhibit No. Description
99.1 Certification Pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
99.2 Certification Pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
Exhibit No. 99.1
Certification of Chief Executive Officer of Innovo Group Inc.
This certification is provided pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 and accompanies the quarterly report on Form 10-Q (the "Form
10-Q") for the quarter ended September 1, 2002 of Innovo Group Inc. (the
"Issuer").
I, Samuel Joseph Furrow, Jr., the Chief Executive Officer of Issuer certify
that to the best of my knowledge:
(i) the Form 10-Q fully complies with the requirements of section 13(a) or
section 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m(a) or
78o(d)); and
(ii) the information contained in the Form 10-Q fairly presents, in all
material respects, the financial condition and results of operations of the
Issuer.
Dated: October 15, 2002
---------------- /s/ Samuel Joseph Furrow, Jr.
-----------------------------
Name: Samuel Joseph Furrow, Jr.
Subscribed and sworn to before me
this 15th day of October, 2002.
/s/ Donna Kay Drewrey
- ---------------------
Name: Donna Kay Drewrey
Title: Notary Public
My commission expires: January 7, 2003
Exhibit No. 99.2
Certification of Acting Chief Financial Officer of Innovo Group Inc.
This certification is provided pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 and accompanies the quarterly report on
Form 10-Q (the "Form 10-Q") for the quarter ended September 1, 2002
of Innovo Group Inc. (the "Issuer").
I, Samuel Joseph Furrow, Jr., the acting Chief Financial Officer of
Issuer certify that to the best of my knowledge:
(i) the Form 10-Q fully complies with the requirements of section
13(a) or section 15(d) of the Securities Exchange Act of 1934
(15 U.S.C. 78m(a) or 78o(d)); and
(ii) the information contained in the Form 10-Q fairly presents, in
all material respects, the financial condition and results of
operations of the Issuer.
Dated: October 15, 2002 /s/ Samuel Joseph Furrow, Jr.
---------------- -----------------------------
Name: Samuel Joseph Furrow, Jr.
Subscribed and sworn to before me
this 15th day of October, 2002.
/s/ Donna Kay Drewrey
- ---------------------
Name: Donna Kay Drewrey
Title: Notary Public
My commission expires: January 7, 2003